Los Angeles wildfires: Could the insurance gap that affected victims happen in New Zealand?

THREE KEY FACTS

• Total insured losses from the Los Angeles wildfires earlier this month are already estimated at more than US$30 billion, Goldman Sachs predicts.
• The massive amount of damage to 15,000 dwellings dwarfs the previous record of US$12b in insured losses caused by Northern California’s Camp Fire in 2018.
• However, less than 25% of the losses in this year’s wildfires are likely to be insured.

Watching the devastation unfold in Los Angeles has been heartbreaking. The catastrophic wildfires have not only destroyed homes and communities but have also revealed a significant insurance gap, potentially leaving thousands of homeowners financially unprotected in their time of need.

The reasons for the insurance gap in California are varied, but did not happen overnight. It is important to understand how this has occurred so we can be mindful of the same hazards in New Zealand.

Insurance is essentially the business of assuming risk on your behalf. Insurers seek to understand the magnitude of that risk by running scientific modelling on likelihood and impact. They then finance the possibility of the risk occurring by charging premiums and buying reinsurance (insurance for insurers).

Climate change has played a significant role in intensifying the frequency and severity of natural disasters in recent years. This has both increased the likelihood of the risk occurring, according to the scientific models, and increased the price of insurance and reinsurance around the world.

The regulatory environment in recent years in California has capped the premiums that insurers can charge for insurance, preventing insurers from factoring in these changing risks and placing them at risk of insolvency after a large event. This has caused some insurers to pull out of the California market, which has led to the gap in cover for some natural disasters.

Some of the early estimates are predicting more than US$200 billion ($352b) in economic losses from the wildfires, with more than 17,500 residential and commercial properties destroyed or severely impacted. However, less than 25% of those losses are likely to be insured, with only US$20-45b estimated in insurance/reinsurance payments.

A firefighter monitors the spread of a wildfire in Oxnard, northwest of Los Angeles. Photo / AFP

Contrasting this with New Zealand, around 70% of all losses from the Canterbury earthquake sequence in 2010/11 were covered by insurance from the public and private sector. This remains the highest level of insurance coverage and payment for any natural disaster event globally since 1980.

There has been a recent law change that will allow insurers to better model and manage these risks, but it will take time for its effects to be felt. Unfortunately, this comes too late for those impacted by the recent wildfires, but it offers hope for more resilient insurance coverage for California in the future.

Could a similar insurance gap happen in New Zealand?

New Zealand is the second-riskiest country in the world for natural hazards – only Bangladesh is rated higher. And yet, we are fortunate to have over 90% of homes insured for natural hazards damage.

This is, in part, thanks to our country’s natural hazards insurance scheme, which was set up 80 years ago to respond to insurance gaps that existed after the Wairarapa earthquakes of the 1940s.

The scheme, formerly known as EQC, is now the Natural Hazards Commission Toka Tū Ake (NHC). Homeowners pay a levy into a central fund through their private insurance, and it provides the first $300,000 of cover for damage to insured homes for five major natural hazards – earthquake, tsunami, volcanic eruption, geothermal activity, and landslide.

The scheme also enables general home insurance in New Zealand to remain more affordable as the risk is shared across a range of hazards and all locations. So, while some US homeowners can pay $10,000 a year for earthquake insurance alone, insured homeowners here currently pay an annual levy of just $480 + GST for first-loss cover for five major hazards. The scheme covers initial damage to the home and limited cover for land.

While the scheme doesn’t specifically cover fires, unless they’re caused by these hazards, it provides a financial buffer for truly catastrophic events. Because the scheme takes on that risk, it allows private insurers to continue providing comprehensive coverage for other risks, such as wildfires and floods. It also reduces insurers’ exposure to the more significant natural hazards, by only requiring the “top-up” cover above the $300,000 provided by the Natural Hazards Commission.

By sharing the risk in this way between private insurers and the national scheme, we achieve a good balance of risk sharing and insurance coverage. And the insurance partnership here where private insurers manage Natural Hazards Commission claims on our behalf provides a simpler process for customers across New Zealand.

Mind the gap: Know your cover and take action to reduce your risk

Events such as the wildfires in California and floods in other parts of the world are important reminders that risks are always changing. As you renew your insurance each year, it’s important to think about how your risks have changed, and whether you have enough cover in place. Talk to your insurer if you’re in doubt.

It’s also important to understand the limits to your cover, especially for any land damage, and to stay informed about what else you can do to protect your property from natural hazards. This might include checking your foundations, monitoring and maintaining your retaining walls, or seeking geotechnical guidance about options for stabilising slopes under or near your home.

January is a good time to set your plans for the year ahead. Your home is often your largest asset and it’s good to think about how you are looking after it, not only through your insurance and financial planning but also planning maintenance for your house. There are many things you can do to make a difference that improve your resilience to natural disasters and protect your family.

Visit the Natural Hazards Commission website for actions you can take and learn more about your cover, or visit www.naturalhazardsportal.govt.nz to learn about the natural hazard risks in your area.