Flood Insurance: Review of FEMA Study and Report on Community-Based Options
Published: 2016-08-24T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: Floods are the most common and destructive natural disaster in the United States. The National Flood Insurance Program, which FEMA administers, has struggled financially to both pay for flood losses and keep rates affordable. To address these and other challenges, Congress has passed legislation including the Homeowners Flood Insurance Affordability Act of 2014 (HFIAA). HFIAA included provisions for FEMA to conduct a study and submit a report that assesses and recommends options, methods, and strategies for making CBFI available through NFIP. FEMA presented the study and related report to Congress in March 2016.
HFIAA also includes a provision for GAO to review the FEMA report, which is to include the study and submit a related report to Congress. To review the study and report FEMA submitted to Congress, GAO analyzed the FEMA study's objectives, methodology, and findings, and evaluated the FEMA report's conclusions.
GAO analyzed the appropriateness of the objectives, the reasonableness of the methodology, and the extent to which the conclusions were supported by the findings. GAO also evaluated relevant study findings against public policy goals for federal involvement in catastrophe insurance previously identified by GAO, and interviewed FEMA and NAS officials.
GAO is not making recommendations in this report.
section_title: What GAO Found
paragraphs: The Federal Emergency Management Agency (FEMA) used reasonable objectives and methodology for its study on community-based flood insurance (CBFI)—flood insurance that a community would purchase to cover all properties located within it. FEMA contracted with the National Academy of Sciences (NAS) to conduct the study, and worked with NAS to design a study that would provide a high-level, independent discussion of issues related to CBFI. According to FEMA officials, such a study would help FEMA decide whether CBFI should be implemented, an important step before developing any plans to implement CBFI. Once the study was designed, NAS conducted the study independently, using input obtained from an expert committee that met twice in early 2015. The members of the committee represented academia, the private sector, and state and federal government. GAO determined that the study objectives were designed to meet FEMA's needs, the methodology supported the objectives, and alternative methodologies that were considered would have faced various limitations.
In its report submitted to Congress, which contained the study, FEMA concluded that it should not conduct further related research or implement CBFI. Specifically, it concluded that the challenges outlined in the study outweigh any potential benefit when considered against limited community interest. FEMA officials further cited the need to dedicate FEMA's resources to effective National Flood Insurance Program (NFIP) reform. Based on the factors cited by FEMA officials, and the consistency of these factors with findings in prior GAO reports on NFIP, GAO determined that FEMA's conclusion was reasonable. For example, prior GAO work has highlighted challenges FEMA faces in balancing reform efforts with limited resources.
In prior work, GAO identified four public policy goals for federal involvement in natural catastrophe insurance and used them to evaluate changes to NFIP. While the FEMA study did not use these goals, as part of its assessment GAO evaluated relevant elements of the study against them. For example, one of these goals is charging premium rates that fully reflect actual risk, and the study discussed innovative uses of CBFI that could help NFIP charge such rates. Another goal is encouraging private markets to provide natural catastrophe insurance, and the study discusses ways in which CBFI could encourage private market participation in flood insurance markets, as well as challenges that CBFI would pose to private insurers.

section_title: Letter
paragraphs: Floods are the most common and destructive natural disaster in the  United States. The National Flood Insurance Program (NFIP) makes  federally backed flood insurance available to property owners in  participating communities and is the only source of insurance against  flood damage for most residents of flood-prone areas. NFIP is  administered by the Federal Emergency Management Agency (FEMA).
Since 2000, NFIP has experienced several years with catastrophic  losses, primarily from Hurricane Katrina and the other 2005 storms and  Superstorm Sandy in 2012. Since then, FEMA has needed to borrow  money from the U.S. Department of the Treasury (Treasury) to cover  claims in some years. As of March 2016, FEMA owed Treasury $23  billion. As a result of the program’s importance, level of indebtedness to  Treasury, and substantial financial exposure for the federal government  and taxpayers, as well as FEMA’s operating and management  challenges, NFIP has been on our high-risk list since 2006.
To address certain challenges, Congress has passed legislation including  the Biggert-Waters Flood Insurance Reform Act of 2012 (Biggert-Waters  Act) and the Homeowner Flood Insurance Affordability Act of 2014  (HFIAA). The Biggert-Waters Act sought to strengthen the future  financial solvency and administrative efficiency of NFIP, but it also raised  concerns for policyholders whose premiums increased. HFIAA sought to  address these affordability concerns by repealing or altering some  Biggert-Waters Act requirements.
HFIAA also included provisions for the study of voluntary community- based flood insurance (CBFI). While there is no single generally accepted  definition for CBFI, the term generally refers to the concept of a single,  community-wide flood insurance policy that a community would purchase  to cover all properties located within it. Specifically, HFIAA included  provisions for FEMA to conduct a study and submit a report that assesses  and recommends options, methods, and strategies for making CBFI  available through NFIP. In September 2014, FEMA awarded a contract to  the National Academy of Sciences (NAS) to conduct a study on  potentially making voluntary CBFI policies available through NFIP.  Specifically, the study as contracted was to include, but was not limited  to, discussion of topic areas and questions that would require further  evaluation in order for FEMA and others to better evaluate strengths and  weaknesses of providing CBFI. FEMA’s report was to include the results  and conclusions of the study. NAS completed a pre-publication version of  the study and submitted it to FEMA in July 2015 and published the final  version of the study in December 2015. FEMA delivered its summary  report, which included the study and indicated it was FEMA’s final report  on the topic, to the relevant congressional committees in March 2016.  Additionally, HFIAA included a provision for GAO to review and analyze  FEMA’s CBFI report, and report to the relevant congressional  committees. This report analyzes the report FEMA submitted to Congress  by reviewing the study’s objectives, methodology, and findings and  describing the FEMA report’s conclusions that were based on the study.
For the purposes of this report, we defined CBFI as the concept of a  single, community-wide flood insurance policy that a community would  purchase to cover all properties located within it. To establish this  definition, we drew upon common elements of definitions used by FEMA  and other stakeholders. Our review included several FEMA and NAS  documents. These included the prepublication and final versions of the  NAS study, the FEMA report that included the study, the study’s  statement of objectives and project management plan, and previous  FEMA documents related to CBFI. To guide our assessment of the FEMA  study’s design, execution, and findings, and report’s corresponding  conclusions, we reviewed FEMA documents, including the study’s  statement of objectives and project management plan as well as the final  study and report. We evaluated the study on the clarity and  appropriateness of the objectives, the consistency of the methodology  with the objectives, the reasonableness of the methodology, and the  extent to which the conclusions were supported by the findings. We  evaluated the FEMA report, which included the study, on the extent to  which the conclusions were supported by the findings of the study and  consistent with findings in prior GAO reports on FEMA’s administration of  the National Flood Insurance Program. We also analyzed how the study’s  findings might be used to evaluate CBFI against public policy goals for  federal involvement in catastrophe insurance identified by GAO in prior  reports. In addition, we interviewed FEMA officials and the study’s  authors to develop an in-depth understanding of the design, execution,  findings, and conclusions of the study and report.
We conducted this performance audit from March 2016 to September  2016 in accordance with generally accepted government auditing  standards. Those standards require that we plan and perform the audit to  obtain sufficient, appropriate evidence to provide a reasonable basis for  our findings and conclusions based on our audit objectives. We believe  that the evidence obtained provides a reasonable basis for our findings  and conclusions based on our audit objectives.
subsections: section_title: Background
subsections: section_title: Overview of Key NFIP Legislation
paragraphs: In 1968, Congress created NFIP to address the increasing cost of federal  disaster assistance by providing flood insurance to property owners in  flood-prone areas, where such insurance was either not available or  prohibitively expensive. The 1968 law also authorized premium subsidies  to encourage property owner participation. To participate in the program,  communities must adopt and agree to enforce floodplain management  regulations to reduce future flood damage. In exchange, federally backed  flood insurance is offered to residents in those communities.
NFIP was subsequently modified by various amendments to strengthen  certain aspects of the program. The Flood Disaster Protection Act of 1973  made the purchase of flood insurance mandatory for properties in special  flood hazard areas—areas that are at high risk for flooding—that are  security for loans from federally regulated lenders and located in NFIP  participating communities. This requirement expanded the overall  number of insured properties, including those that qualified for subsidized  premiums. The National Flood Insurance Reform Act of 1994 expanded  the purchase requirement for federally backed mortgages on properties  located in special flood hazard areas.
Congress has passed two key pieces of legislation designed to reform  NFIP. The Biggert-Waters Flood Insurance Reform Act of 2012 (Biggert- Waters Act), enacted in July 2012, instituted provisions to help strengthen  NFIP’s future financial solvency and administrative efficiency. For  example, it required FEMA to phase out almost all discounted insurance  premiums and establish a reserve fund. As implementation proceeded,  however, affected communities raised concerns about some Biggert- Waters Act requirements. The Homeowner Flood Insurance Affordability  Act of 2014 was enacted in March 2014 and sought largely to address  affordability concerns by repealing or altering some Biggert-Waters Act  requirements. In this context, HFIAA included provisions that FEMA  produce a study and submit a report that assess and recommend options,  methods, and strategies for making voluntary CBFI available through  NFIP.
section_title: NFIP Data on the Number of Policies in Force and Communities Participating
paragraphs: According to FEMA, as of March 2016 there were more than 5 million  NFIP policies in force, which were spread across more than 22,000  communities throughout the United States and its territories (see figs. 1  and 2). FEMA defines a community as a political entity that has the  authority to adopt and enforce floodplain ordinances for the area under its  jurisdiction which is—in most cases—an incorporated city, town,  township, borough, village, or an unincorporated area of a county or  parish. While FEMA could potentially modify this definition to include  other types of communities for a CBFI option, using the number of  communities currently participating in NFIP provides one measure of how  many communities could hypothetically pursue a CBFI option.
section_title: Policy Goals for Federal Involvement in Natural Catastrophe Insurance
paragraphs: In 2007, we identified four broad policy goals for federal involvement in  natural catastrophe insurance: (1) charging premium rates that fully  reflect actual risks; (2) encouraging private markets to provide natural  catastrophe insurance; (3) encouraging broad participation in natural  catastrophe insurance programs; and (4) limiting costs to taxpayers  before and after a disaster. We identified these goals by drawing  insights from a variety of sources: past GAO work, legislative histories of  laws that changed the roles of state governments and the federal  government after disasters, bills considered by Congress, interviews with  public and private sector officials, and articles written by experts in  insurance economics. We believe that the four goals we identified  accurately capture the essential concerns of the federal government. We  have previously used these policy goals to evaluate potential changes to  NFIP. We believe that they are still relevant and could also be used to  evaluate a CBFI option.
section_title: FEMA’s Study and Report Provided Relevant Information and Concluded that FEMA Should Not Implement CBFI
subsections: section_title: The Design of FEMA’s Study Was Reasonable, with Methodology Supporting Study Objectives
paragraphs: We determined that the CBFI study objectives and methodology agreed  upon by FEMA and NAS were reasonable. The objectives were clearly  stated and designed to provide relevant, high-level considerations that  could help FEMA decide whether CBFI should be implemented before  determining how it should be implemented, which FEMA officials said was  an important step. The methodology was consistent with the study’s  objectives and was reasonable given the limitations identified by FEMA:  short time frames, the need to obtain informed opinions, and unavailable  data. As a result, the study included findings that helped FEMA draw  conclusions about whether and how to implement CBFI, if it chose to do  so.
FEMA and NAS took several steps to design the objectives and  methodology of the CBFI study. FEMA initially provided NAS with  documents that included background information on the purpose of the  study and proposed a methodology and objectives. Then, NAS officials  responded with minor modifications that reflected what NAS could do to  meet FEMA’s needs. FEMA and NAS officials told us that they held two  meetings and communicated via email before agreeing to the  methodology, objectives, and time frames (see fig. 3).
According to FEMA and NAS officials, FEMA and NAS agreed that the  study’s objectives were to examine future prospects for CBFI by  identifying and discussing issues that would require further evaluation in  order for FEMA and others to better evaluate CBFI’s strengths and  weaknesses. According to FEMA officials, the agreed-upon objectives  met their needs.
To execute the CBFI study, NAS convened an expert committee to  produce a report using a consensus report process. The committee was  composed of 12 members that represented academia, the private sector,  and state and federal government. The committee met twice: the January  2015 meeting featured guest presentations, and the March 2015 meeting  was convened in a workshop-type format with multiple panels of external  speakers. Following these meetings, the NAS study director, committee  chair, and other committee members developed sections of the study and  all committee members signed off on the full study. Prior to publication,  NAS conducted an independent external peer review by experts who  NAS recruited based on their technical expertise and breadth of  perspectives.
NAS and FEMA officials explained that they decided to use the  consensus report process because it offered several benefits and did not  face the same limitations that other methodologies would have faced.  According to NAS officials, because consensus reports modulate different  perspectives and identify new concepts and approaches, this approach  was appropriate to meet the study’s objectives. FEMA officials explained  that they requested a consensus report methodology because it would  provide independent, creative, and unbiased ideas from experts who  already had a deep contextual knowledge of NFIP. Further, FEMA  officials said that alternative approaches they considered would have  faced various limitations. They stated that community-based surveys or  listening sessions, for example, would have taken more time and might  not have reached audiences that could provide well-informed opinions.  Data analysis was not considered a viable option because FEMA does  not have the data it would need to determine hypothetical costs for  participating communities, homeowners, and FEMA. For example, as we  have previously reported, FEMA does not collect all information  necessary to determine flood risk, which is a key factor for determining  NFIP premiums for individual policyholders or, potentially, communities.
section_title: FEMA’s Study Provided Relevant Information for Evaluating the Advisability of Implementing CBFI
paragraphs: We determined that FEMA’s study provided relevant information for  evaluating the advisability of implementing CBFI. The study identified and  discussed seven main areas for further consideration in designing a CBFI  option for potential implementation.
Risk bearing and sharing—A CBFI option could conceivably shift risk- bearing to communities, private insurers, or individuals depending on  how it is structured.
Responsibilities for writing policies and loss adjustments— Participating insurance agents write policies and collect premiums  under NFIP, but CBFI policies could be written at the community level.
Coverage limits, standards, and compliance—Movement to a CBFI  policy option could provide a community with an opportunity to  reconsider flood exposures, such as extending the exposure beyond  individual homes to public infrastructure.
Underwriting, pricing, and allocation of premium costs—Several  complex considerations could fall under this topic, including methods  used in setting premiums, the extent to which catastrophic losses  would be reflected, and the allocation of premium costs among  homeowners.
Administrative capabilities—Communities would likely not have  expertise for undertaking the administration of CBFI policies, but  depending on how a community is defined, it could have the means  for collecting funds to pay for CBFI premiums.
Confirming compliance with mandatory purchase requirements—A  community-based policy might have to maintain some aspect of  individual property coverage in order to satisfy mandatory flood  insurance purchase requirements, which could be administratively  burdensome.
Pricing expertise, including valuation of mitigation measures—Pricing  of CBFI policies would need to account for the risk underwritten and  the savings expected from mitigation measures.
The study also provided other relevant information related to CBFI, such  as discussion of potential benefits and challenges, a conceptual rationale  for identifying cases in which CBFI may or may not be a good option, and  considerations for defining “community” in the context of CBFI. For  example, the study reports that benefits could include reduced  administrative and transaction costs, increased take-up rates, and  promotion of mitigation efforts and floodplain management. The study  also reports that challenges could include lack of community interest;  limited implementation capability; likely need to create many approaches  given variation in population size, geography, and authority to regulate  land use and collect revenue; and political obstacles. Additionally, the  study developed a conceptual rationale for identifying cases in which  CBFI may or may not be desirable, and also identified several factors that  could make CBFI more or less desirable than individual flood insurance  policies. In addition, the study notes that FEMA may want to consider  broadening the current definition of “community” because it may be too  narrow in the context of CBFI. Specifically, the study noted that while a  town or city would clearly be considered as a community under FEMA’s  current definition, the status of areas such as business districts or gated  communities would be unclear and, as a result, it is difficult to say  whether or not these kinds of areas would be eligible to purchase CBFI  policies.
To further assess FEMA’s study, we evaluated relevant elements of its  findings against the four public policy goals for federal involvement in  natural catastrophe insurance that we have previously identified. The  public policy goals, along with examples of elements from the study,  follow.  1.  Charging premium rates that fully reflect actual risks. Our prior work  has shown that charging rates that do not fully reflect actual risks  makes it difficult for FEMA to maintain the financial stability of NFIP,  sends policyholders inaccurate price signals about their chances of  incurring losses, and reduces incentives for policyholders to  undertake mitigation efforts. FEMA’s study identified areas for  further consideration, including several related to charging premium  rates that fully reflect risks; responsibility for bearing and sharing risk;  responsibility for writing policies and loss adjustments; underwriting,  pricing, and allocation of premium costs; and pricing expertise,  including valuation of mitigation measures. The study also outlined  concepts for innovative uses of CBFI that could help NFIP charge full- risk rates, such as requiring communities interested in CBFI to provide  comprehensive analysis of flood risk in their communities, which  would enhance NFIP’s knowledge of flood risk at the community level.  2.  Encouraging private markets to provide natural catastrophe  insurance. Our prior work has shown that covering flood-related  losses through NFIP involves significant federal expense, and  Congress has shown interest in reducing the federal government’s  role in flood insurance by transferring its exposure to the private  sector. While the private sector has not historically been willing to  participate in the flood insurance market, facilitating certain conditions  could help increase private sector involvement. FEMA’s study  discusses ways in which CBFI could encourage or discourage private  market participation in flood insurance markets. For example, the  study suggests that CBFI could encourage private sector involvement  if NFIP offered it in either of two forms. First, CBFI could be offered as  a way to insure all properties at a base level of coverage, providing  the private sector with an opportunity to offer supplementary  insurance above this base level of coverage. Second, CBFI could be  offered as coverage for residual risk properties—the highest-risk  properties that the private sector would not want to insure—allowing  the private sector to insure all other properties.
However, the study also suggests several challenges that may  outweigh these potential benefits. For example, private insurers would  need to acquire the information and expertise to price CBFI policies in  line with actuarial standards and would have difficulty diversifying their  risk pool—issues we have previously identified as key private sector  concerns about offering flood insurance. Additionally, CBFI may  discourage private sector participation because servicing CBFI  policies after a disaster could be difficult, as the damage would be  concentrated in a set geographic area.  3.  Encouraging broad participation in natural catastrophe insurance  programs. Our prior work has shown that nationwide flood insurance  penetration rates are estimated to be low and information on  compliance with the mandatory purchase requirement is limited. The  study provided some discussion of how potential benefits and  challenges of CBFI could relate to increasing NFIP participation. For  example, the study notes that CBFI could help increase take-up rates  and encourage compliance with mandatory purchase requirements,  but it also noted that there may be challenges related to requiring all  community members to participate in CBFI and some communities  would not be able to oversee compliance with mandatory purchase  requirements (unless that responsibility remained with the lender).  4.  Limiting costs to taxpayers before and after a disaster. Our prior work  has shown that the losses already generated by NFIP, as well as the  potential for future losses, have created substantial financial exposure  for the federal government and NFIP likely will not generate sufficient  premium revenue to repay the billions of dollars borrowed from  Treasury. The study provided some discussion of how CBFI could  potentially limit costs to taxpayers by encouraging communities to  pursue mitigation options that reduce risk of flood damage and result  in lower premiums, or by potentially reducing administrative and  transaction costs. However, the study also said that—given  administrative costs required to design and set up the program— these cost savings could be limited if few communities decide to  enroll.
Finally, FEMA officials said that the CBFI study’s findings met their needs.  According to the officials, the study’s broad discussion of areas for further  research as well as potential benefits and challenges of CBFI informed  their opinion on the prospects for CBFI.
section_title: FEMA’s Report Concludes that CBFI Should Not Be Implemented
paragraphs: The FEMA report, which included the study, provides a brief set of related  conclusions from FEMA, including that FEMA should not implement CBFI.  FEMA officials explained that, after reviewing the results of the study,  they concluded that FEMA should not conduct further related research or  implement CBFI for several reasons:
The challenges outlined in the study—such as administrative burden  on communities and FEMA, unavailable data, unclear cost distribution  among community members, and potential legislative requirements— are significant and likely outweigh the benefits.
A limited number of communities would be likely to participate in a  CBFI option, as only one community expressed positive interest in  CBFI after FEMA presented the idea during previous NFIP reform  listening sessions.
Dedicating FEMA’s resources to other potential NFIP reforms and  strengthening existing programs would be a better use of these  resources.
Based on the factors cited by FEMA officials and our prior work, we agree  that FEMA’s conclusion that it was not advisable to implement CBFI at  this time was reasonable. We have previously reported on how some of  the challenges that the CBFI study outlined apply to NFIP more broadly.  For example, we have previously reported that FEMA’s resource  constraints may jeopardize potential NFIP reform efforts. In 2008, we  reported that implementing a combined federal flood and wind program  could make addressing existing management challenges even more  difficult, given the resources that would be required to administer and  oversee a new program. In 2015 we reported that while FEMA had begun  taking some actions to improve its capacity to administer NFIP, it was  unclear whether FEMA had the resources required to complete its efforts  to implement both the Biggert-Waters Act and HFIAA reforms. Also,  starting in 2013, we have stated in multiple reports that FEMA does not  collect some data necessary to determine flood risk—a key factor for  determining NFIP premiums for individual policyholders or, potentially,  communities. In addition, we have reported that some communities may  face challenges administering NFIP and flood mitigation programs. In  2013, we reported that communities such as Indian tribes may lack the  resources and administrative capacity needed to administer NFIP  requirements, and in 2014 we reported that experts claim that some  communities—especially rural ones—may lack the expertise and  administrative capabilities to apply for and administer grants for mitigation  activities.
section_title: Agency Comments
paragraphs: We provided a draft of this report to FEMA for its review. FEMA did not  provide formal comments, and did not have any technical comments.
If you or your staff have any questions concerning this report, please  contact me at (202) 512-8678 or cackleya@gao.gov. Contact points for  our Offices of Congressional Relations and Public Affairs may be found  on the last page of this report. GAO staff who made major contributions to  this report are listed in appendix I.
section_title: Appendix I: GAO Contact and Staff Acknowledgments
subsections: section_title: Contact
paragraphs: Alicia Puente Cackley, (202) 512-8678 or cackleya@gao.gov.
section_title: Acknowledgments
paragraphs: In addition to the contact named above, Patrick Ward (Assistant Director);  Chloe Brown and Tarik Carter (Analysts-in-Charge); Namita Bhatia- Sabharwal; and Jennifer Schwartz made key contributions to this report.  Also contributing to this report were David Dornisch; Jessica Sandler; and  Jena Sinkfield.