National Flood Insurance Program:

Major Changes Needed if It Is To Operate Without a Federal Subsidy

RCED-83-53: Published: Jan 3, 1983. Publicly Released: Jan 14, 1983.

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Pursuant to a congressional request, GAO examined: (1) how the Federal Emergency Management Agency (FEMA) establishes rates for the National Flood Insurance Program (NFIP); (2) whether it is possible to eliminate the federal subsidy and make the program self-sustaining; and (3) whether the flood insurance revolving fund is an appropriate mechanism for financing the program.

GAO found that NFIP has not collected sufficient premiums to cover the cost of providing the insurance to about 1.9 million policyholders living in flood-prone areas. To compensate for the inadequate premium income, the FEMA Federal Insurance Administration borrowed a total of $854 million from the Treasury between 1970 and 1980. Except where FEMA provides an intentional subsidy, flood insurance policyholders are required to pay insurance rates which are set in accordance with accepted actuarial principles. FEMA has relied on a combination of models and judgment to set the insurance rates, and methodological and data weaknesses in this approach have produced an overly complex rate structure that has not generated sufficient income to cover the costs of providing insurance or to build up a reserve. FEMA is currently attempting to eliminate the federal subsidy by fiscal year 1988. When Congress established the flood insurance revolving fund, it expected the program to be run as a joint government-insurance industry operation. However, after a series of disagreements in 1978, the government terminated the insurance industry's involvement and took over the program.

Matters for Congressional Consideration

  1. Status: Closed - Not Implemented

    Comments: The concerned committees have initiated a continuing review of proposed flood insurance rate increases, but have not provided guidance to FEMA on how the subsidy should be eliminated, a sensitive issue with constituents in flood-prone areas.

    Matter: Congress needs to consider: (1) telling FEMA whether it agrees with the shift in direction toward as yet undetermined rate increases or coverage reductions; and (2) giving FEMA specific guidance on how the subsidy should be eliminated.

  2. Status: Closed - Not Implemented

    Comments: No further action is intended by the responsible committees.

    Matter: If Congress retains the National Flood Insurance Fund to increase its oversight and direct control of how FEMA finances its losses, it should amend the National Flood Insurance Act of 1968 to: (1) limit FEMA borrowings to extraordinary losses; (2) require regular appropriations to pay the federal subsidy and repay the prior year's earnings; (3) require FEMA to notify Congress when it borrows; and (4) require periodic congressional review of the fund's borrowing authority.

  3. Status: Closed - Not Implemented

    Comments: No further action is intended by the responsible committees.

    Matter: If Congress finances the program through a direct appropriation, it should amend the act to eliminate the National Flood Insurance Fund to: (1) establish instead an emergency fund to pay unanticipated losses; (2) require periodic appropriations to repay expenditures from this fund; and (3) require a business-type budget which determines the surplus or deficiency associated with the risk premium and chargeable rates.

Recommendations for Executive Action

  1. Status: Closed - Implemented

    Comments: FEMA now estimates the total subsidy as part of its annual rate review. FEMA and the congressional committees, however, have not established the amount of the intended subsidy so that it and the unintended subsidy are not determined.

    Recommendation: The Director, FEMA, should state chargeable rates for the regular program so that the amount of intended federal subsidy can be accurately and readily determined.

    Agency Affected: Federal Emergency Management Agency

  2. Status: Closed - Implemented

    Comments: A plan has been adopted, but the results of this plan will not be known for several years.

    Recommendation: To develop a risk premium rate structure, which produces adequate premium income and is in line with accepted actuarial principles, the Director, FEMA, should develop and implement a plan to correct the identified data and methodological weaknesses in the current FEMA rate-setting approach.

    Agency Affected: Federal Emergency Management Agency

  3. Status: Closed - Implemented

    Comments: This change in the program simplifies insurance activities and improves program administration, but it does not produce direct cost savings.

    Recommendation: To develop a risk premium rate structure, which produces adequate premium income and is in line with accepted actuarial principles, the Director, FEMA, should develop a rate structure which appropriately reflects variations in risk without unnecessary complexity.

    Agency Affected: Federal Emergency Management Agency

  4. Status: Closed - Implemented

    Comments: The insurance rates were set based on loss experience through December 1986, adjusted for inflation, to provide adequate premium income to cover losses and other program expenses in an average year.

    Recommendation: To develop a risk premium rate structure, which produces adequate premium income and is in line with accepted actuarial principles, the Director, FEMA, should increase reliance on recent loss experience in setting rates.

    Agency Affected: Federal Emergency Management Agency

  5. Status: Closed - Implemented

    Comments: FIA and its appropriation committees have adopted a mechanism for increasing flood insurance rates so that the flood insurance program can be self-supporting in years of normal flooding. Catastrophic losses are to be funded by supplemental appropriations or increased borrowing authority rather than insurance premiums.

    Recommendation: To develop a risk premium rate structure, which produces adequate premium income and is in line with accepted actuarial principles, the Director, FEMA, should estimate and establish a catastrophic reserve.

    Agency Affected: Federal Emergency Management Agency

  6. Status: Closed - Implemented

    Comments: FEMA has initiated efforts to measure the program's impact on its financial structure and is also relying on correspondence from those affected by the changes to identify impacts.

    Recommendation: The Director, FEMA, should establish a monitoring program to detect any adverse impacts which increases in chargeable rates or decreases in coverage provided at chargeable rates could have on NFIP objectives.

    Agency Affected: Federal Emergency Management Agency

 

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