Wildfires Ignite Insurance Crisis: What’s Next for Californians?

The wildfires still raging in Los Angeles have displaced thousands of homeowners — many of whom have inadequate coverage due to a broken home insurance system in the state. And while new efforts to keep affected homeowners insured and expand coverage areas are going into effect, it may be too little, too late for many.

How the home insurance system in California failed residents

Retaining homeowners insurance in California is notoriously difficult for those living in areas vulnerable to wildfires. And the problem has only gotten worse in recent years.

The effects of climate change, combined with poor forest management, have accelerated the frequency of bigger wildfires, according to multiple climate groups, as well as the National Oceanic and Atmospheric Administration (NOAA) and the Environmental Protection Agency (EPA). Data from the California Department of Forestry and Fire Protection (CAL FIRE) shows that the number of wildfires in the state that require a response has increased steadily over time.

As fires have become more frequent, insurance companies have pulled back on coverage for homeowners in areas most at-risk for wildfires. In 2022, Allstate announced it would no longer issue new business and personal property insurance policies in California. In 2023, Farmers Insurance Group announced it would begin sending nonrenewals to California customers and wouldn't be accepting new applications. In 2023, State Farm, California's largest insurer, also announced it would no longer be accepting new applications for property and casualty insurance. Then last year, the company declined to renew 72,000 home insurance policies, or about 2% of the insurer's total policies in California.

"When insurance companies face higher losses or payouts, they typically respond in two ways: raise premium prices and stop renewing policies or writing new policies. California insurers are doing both," said Dave Jones, director of the Center for Law, Energy and the Environment at the U.C. Berkeley School of Law, in an interview with the university's magazine published on Sept. 19.

As insurers exited the space, homeowners increasingly turned to the last-resort source for homeowners insurance — the state's Fair Access to Insurance Requirements (FAIR) plan, which offers basic fire insurance coverage. It's a shared plan, which means it's financially backed by private insurers rather than the government. The FAIR plan is meant to be a temporary solution, but in recent years has taken on more of the insurance market than ever intended.

Policies issued through the FAIR plan increased 20% from 2022 to 2023 — then grew 40% from 2023 to 2024, state data shows. Los Angeles County represents nearly one-quarter of the entire FAIR plan portfolio, according to an analysis by Moody's Analytics. The ZIP codes that include Pacific Palisades, devastated by the Palisades Fire, are among the top five places in the state in terms of the plan's exposure, Moody's says.

The multiple, wind-driven L.A. fires have caused monumental property damage, which means the FAIR plan's system is likely to be overloaded with claims from policyholders. And as the Palisades and Eaton wildfires, the largest of the fires, remain uncontained, the number of claims will grow.

In September, California's Insurance Commissioner Ricardo Lara announced details of his Sustainable Insurance Strategy — a plan intended to strengthen the financial stability of the FAIR plan. But he also included this somber detail in the announcement: "As the risk of more climate change-intensified wildfires increase in California, a major wildfire in one geographical area concentrated with FAIR Plan-insured properties could overwhelm the FAIR Plan's reserves and its capacity to quickly and fully pay consumers' claims."

That statement was made mere months before the arrival of the most devastating wildfires in Los Angeles' history. Moody's suggests the fires have the potential to be the costliest in U.S. history. A new analysis by JPMorgan estimates that insured losses could exceed $20 billion while economic losses could reach nearly $50 billion.

The potential costs of the fires are staggering, but it's likely private insurers will be able to meet their obligations to policyholders, according to a new report from S&P Global Ratings. It found that the recent wildfire losses "would rapidly deplete the catastrophe budgets of U.S. primary insurers," but added that many private insurers have the money to absorb those costs.

The FAIR plan, on the other hand, reportedly doesn't have the funds to cover the losses: Sen. Alex Padilla (D-Calif.) told the New York Times on Tuesday that the FAIR plan has just $377 million available to pay claims. When it runs out of money, the plan can turn to reinsurance, which is essentially insurance for insurance companies.

However, Victoria Roach, the FAIR plan's president, told a state legislative committee last year that the plan only had $2.5 billion in reinsurance. If that $2.5 billion isn't enough to pay out policyholders — and it's unlikely to be enough, according to loss projections — then private insurers would have to make up the funding gap. In turn, private insurance companies would be likely to charge customers even more. Consumer Watchdog, a nonprofit group, has said that all California homeowners could pay anywhere from $975 to $3,700 surcharge as a result of a FAIR plan shortfall.

How the state is intervening to aid wildfire-affected homeowners

To protect already-vulnerable homeowners affected by the fires, the state insurance commission has instituted a one-year moratorium on insurers dropping homeowners who live in fire-prone areas — including those whose homes have already been impacted by the L.A. County fires. The moratorium, announced on Jan. 9, applies to those who own property within the perimeters or adjoining ZIP codes of the Palisades, Eaton and other nearby fires.

There's precedent for such a ban: The state instituted a similar policy in 2019 for those whose homes were affected by wildfires.

Commissioner Lara also called on insurance companies to rescind any nonrenewals that were issued in the 90 days prior to the emergency declaration and cancel any pending nonrenewals. That would cover thousands of homeowners in L.A. whose policies were canceled prior to the fires. Lara requested that insurers pause all pending nonrenewals for at least six months from Jan. 7 to support homeowners during recovery efforts.

One law that applies to renewals is already on the books: When a property is lost entirely due to a declared disaster, insurers must offer a renewal policy lasting at least two annual renewal periods, or 24 months from the loss.

There is also already a 60-day grace period for insurance premium payments for any properties within areas included in the emergency declaration. Lara called on insurers to extend this grace period "as long as reasonable given the circumstances," according to a Jan. 9 press release.

The insurance commission's moratorium on cancellations and non-renewals means that wildfire-affected California homeowners who have policies — or had policies recently dropped — don't have to worry about losing their insurance. Residents can look up their ZIP code to find out if it's included in the moratorium on the state insurance website.

What new reforms mean for Californians

The emergency efforts and existing laws aim to shield residents from added costs during the relief and recovery period, but a new law may do more in the long run. By the end of the month, insurers will need to begin expanding their coverage to include wildfire-prone areas.

The policy is an effort to woo insurers back to the state; companies are allowed to charge higher premiums in high risk areas using catastrophe modeling in ratemaking. In exchange, they must increase policy coverage covering at least 85% of their market share, including wildfire-vulnerable areas. However, the switch won't flip immediately; each insurance company has to expand its coverage to homeowners in wildfire-prone areas by 5% every two years until it reaches a total 85%.

As coverage increases steadily over the next few years, homeowners in wildfire distressed zones are more likely to get private insurance. They're also more likely to keep their insurance policies even after the current moratorium ends. But, as a result of the expansion, homeowners will also have to absorb higher premium costs.

The tide has already begun turning. In August, the state gave the green light to Allstate to begin raising rates by 34%; in exchange, the company agreed to suspend plans for nonrenewals. And on Dec. 14, Farmers Insurance said it would begin offering coverage to new customers.

State Farm has yet to receive approval for its request to increase property insurance rates up to 30%. But on Wednesday, the insurer said it would offer renewals to policyholders affected by the wildfires in Los Angeles, including those customers that the company had planned to drop.

There's more progress on the way: On Dec. 30, Lara issued the final steps in his Sustainable Insurance Strategy, which include expanding coverage areas; setting an industry-wide cost for reinsurance and price caps; and ensuring price consistency by banning "model shopping," in which insurers choose a model that produces higher rates for consumers and another that lowers reinsurance costs.

What homeowners affected by the fires can do now

Homeowners with insurance should file claims with their companies before they apply for financial assistance with FEMA. As of Jan. 14, State Farm said it is processing over 6,700 home and auto claims for affected policyholders.

California homeowners impacted by the fires can apply for FEMA assistance online at DisasterAssistance.gov; by calling the FEMA Helpline at 1-800-621-3362 or by using the FEMA app.

Here's more information on what to do about your mortgage when disasters hit.

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Anna Helhoski writes for NerdWallet. Email: [email protected]. Twitter: @AnnaHelhoski.

The article Wildfires Ignite Insurance Crisis: What's Next for Californians? originally appeared on NerdWallet.