THE OCTOBER 1, 2013, REAL ESTATE CRASH!

If you thought the CDO caused a real estate crash that could have been avoided with proper regulation, you are going to be pleased to know that the next example of why voters are sick and tired of Washington ineptness is upon us and it could cost us a bundle. The October 2013 Real Estate Crash may be delayed by delaying the implementation of the Biggert Waters Act of July 2013, revising the National Flood Insurance Program (“NFIP”), but Congress will need to act quickly. National attention was focused on the problem with the poorly operated and under-funded NFIP, now part of FEMA, when Super Sandy hit New York City and New Jersey. Since then, the NFIP has been borrowing from the general budget to cover the cost of payments of flood insurance claims.
Although Sandy’s waters have retreated, the problem with the Biggert-Waters Act is that the intended remapping of flood zones has not occurred as required under the act and yet the act calls for an end to subsidized rates for property owners whose property is identified by FEMA as flood prone. For example, after Sandy, FEMA released new “preliminary” flood insurance maps for New York City, replacing “advisory” maps sent by FEMA immediately after Sandy. Using theoretical data, which is admittedly wrong in many instances, FEMA now shows a significant increase in the number of homes and businesses subject to flooding. For instance, in New York City, the new maps double the number of city structures in flood zones to more than 67,000 over the last map update in 2007, which was based on 1983 data.
Some will say this is only fair, those building in flood prone areas should simply know better. But the federal flood program facilitated lending and building in these areas through the use of the NFIP for years. Federally insured loans require flood insurance guaranteed by the federal government. And the insurance is completely at the risk of the federal government – private insurance companies have any risks from participating in the NFIP Write Your Own program.

But come October 1, 2013, the risk of loss must be actuarially adjusted to reflect the “real risk of loss,” assuming that FEMA could determine that and it could map it. The truth of the matter, however, is that neither the “preliminary or advisory” maps include the data from Sandy. And this is common throughout the United States, according to the FEMA Mitigation Branch Director Bill McDonnell. According to the official GAO Report to Congress (GAO 13-607), FEMA does not know the cost of the subsidies to the at risk zones or the information to establish full-risk rates that should be charged to make NFIP actuarially sound.
The FEMA maps split severe risk areas into “V-Zones,” or “velocity zones,” and “A-Zones.” V-Zones risks include waves higher than three feet, while A-Zones, also have high rates, albeit a bit lower. In New York City, V and A-Zones have significantly increased under the recently released FEMA maps.
The Extension Disaster Education Network says that under the October 1, 2013, rules a typical property built in a flood zone at four feet below the expected flood level (established most recently based on “theoretical data”) now requires one with a prior flood premium of $1,410 per year to suffer increases over five years to $9,500 per year.
These changes will be felt well beyond New York. For instance, Michael Hecht, president and chief executive of the Greater New Orleans Inc. Regional Economic Alliance estimates that the premium on a $350,000 primary residence in a Louisiana A-Zone that had never flooded will rise from $633 per year to $28,000 per year. For a full exposition of the impact of Biggert Waters from the perspective of Louisiana GNO, Inc. provides the following: http://gnoinc.org/uploads/NFIP_Presentation.pdf and www.gnoinc.org/floodinsurance.
These examples or radical increases in premiums will occur all over the country although the NFIP program has not been declared by FEMA or GAO to be financially insolvent. Quite to the contrary, GAO reports to Congress that the calculations of premiums vs claims for at risk properties is not available information; and yet, the data reported shows no real loss in the program collection of premiums vs claims. Instead, the premiums for 1987 through 2011 for subsidized policies to have been $26.2 billion, while claims were $24.1 billion. Comparing full-risk premium rates for NFIP, FEMA collected $33.7 billion in premiums and paid claims of $28.5 billion.
Ironically, according to ProPublica and WNYC, the SBA federal loan program has approved $766 million in disaster loans to 10,500 homes and businesses that the federal government admits will likely flood again, when reviewing the new FEMA maps of New York, and this excludes areas like Long Island and Connecticut. See, the full article at: http://www.propublica.org/article/without-a-final-map-new-york-rebuilds-on-uncertain-ground.
Similarly, in Florida, the premium increases are substantial, as reported most recently in the Tampa Bay Times on August 20, 2013. 270,000 properties face rate hikes characterized as “huge,” with estimates reported, such as: “Jeff Grady, president and CEO of the Florida Association of Insurance Agents, has heard anecdotes of $3,000 premiums that will jump to $12,000 for policies renewed after October; or $9,000 premiums soaring to $22,000.”… “That makes the business owners or property owners just gasp,” Grady said. “Not only can’t they afford it, it really devalues the property.”
Chris Heidrick, owner of Heidrick and Co. Insurance in Sanibel Island’s Lee County is concerned spiraling rates will both dampen real estate sales and hurt small business. “I’m concerned about ground-level offices and shopping centers and small businesses. The T-shirt shop near the beach,” he said. “The impacts are so far-reaching. This is not just impacting the rich people who have second homes.”
Clearly, this federal flood insurance problem is serious. If we thought the lack of regulation of insurance of CDOs was a problem in 2008, this issue of flood insurance is more of a problem for more people than just Wall Street, although which incidentally was hit hard by Sandy and closed for weeks after the storm.
New FEMA maps must be drawn using 3D data from sources like Google Earth. Lidar mapping is under way, but far from finished and more recent data on projected water levels from climate change are being incorporated. In short, the mapping is not completed sufficiently to complete any actuarial analysis, not to mention that the risk of flooding is not a well defined concept in light of bigger, super storms like Sandy and Katrina.
The even bigger problem is that Congress has treated insurance as a sacred cow since 1945, when the federal government overruled the Supreme Court decision in United States v. South-Eastern Underwriters Association, 322 U.S. 533, 562 (1944), when Congress passed the McCarron – Ferguson Act (15 U.S.C. ยงยง 1011-1015) declaring that the sale of insurance is not interstate commerce and unless Congress legislated to the contrary, only states should regulate insurance. As we know from the recent national health insurance debate, each state may pass mandates for coverage in its state. Despite this scheme, we all know that in the case of national disasters, the federal government declares national emergencies and provides “aid” following the event, including providing assistance to the uninsured victims. Obviously, Congress realizes that national disasters are federal problems and Congress is fooling itself to address insurance for such disasters on a national basis ONLY after a disaster.
Banks and mortgage lenders and federally insured loan programs in all areas of the coastal community stand to suffer from incorrect maps and unnecessary increases in flood insurance premiums requiring significant increases in payments and loan escrows. Florida banks with commercial retail banking exposure to failed real estate loans resulting from the inability of borrowers to pay required flood insurance premiums as a result of the most recent Biggert-Waters Act of 2013, are as follows: PNC, JPM, C, BBT, RF, FITB, STI, WFC, BAC. Twenty five percent of mortgage backed securities (MBS) are owned by banks and credit unions, while only five percent of MBS are owned by REITS.
We know the insurance issues relating to all national disasters will continue to be a problem, particularly considering that casualty insurance excludes (with varying degrees of success, depending on the state law) damages caused by flooding. To recognize the need for clear, well constructed maps identifying the risks, which are well defined and properly calculated as risks of loss does not require much thought. Similar issues that face the nation as a whole in 1999, led to the Gramm-Leach-Bliley Financial Modernization Act, which set minimum standards that state insurance laws and regulations were required to meet certain standards or else face preemption by federal law. In 2006, the issues on lack of uniformity among states led to a proposed National Insurance Act of 2006. Clear recognition of states’ inability to regulate this national industry and the clear need for a broader pool of insured policy holders (in order to reduce the premiums created by certain otherwise uninsured risks) have resulted in congressional responses: the Patient Protection and Affordable Care Act (Pub. L 11-148), and the Dodd-Frank Wall Street Reform and Consumer Protection Act (Pub. L 111-203).
Temporary fixes of Biggert-Waters are proposed by Rep. Bill Cassidy, R-La., to reinstate the federal flood insurance premium subsidies ended by Biggert-Waters. The idea faces an uncertain future in the Senate, where Louisiana Democrat Mary Landrieu proposed an amendment to the Farm Bill restoring the subsidies, but the amendment was not voted on. Chances are that unless Congress acts, there will be wholesale defaults on loans. Home owners recently sent large baskets of keys to Senator David Vitter, R-La., advising that their home loans will become unaffordable because of the mistakes of FEMA in its failure or inability to prepare accurate maps or present accurate actuarial analysis of risks.
But let’s be fair to Congress and FEMA. If the actuarial analysis and mapping were easy and the risks tolerable, private insurers would attempt actuarial analysis of flood risks and mapping for profit. Neither is possible and the attempt of Biggert-Waters without mapping and without accurate actuarial analysis is clearly wrong, so all seem to be calling for Congressional action to revoke Biggert-Waters and for the implementation of a national flood insurance approach that is reasonable and that can be sustained in home and business loans.
A sample of the approach needed has recently been introduced by Senator Landrieu, D-La., who has introduced a standalone bill called the Strengthen, Modernize and Reform the National Flood Insurance Program (SMART NFIP) Act that would delay flood insurance premium increases, continue subsidized rates for homes that are sold, and allow the rebuilding of community facilities in V-Zones if they are destroyed in disasters.
After all, if the CDO crisis presented bank and insurance company failures that were “too big to fail,” shouldn’t we consider the economic impact to all coastal communities in the nation. Aren’t the banks providing the loans, federal loan guaranty programs insuring the loans and related economic consequences “too big to fail?” A reasonable subsidy of the NFIP is currently provided by the home owners and business owners who pay flood insurance premiums to the FEMA. Certainly, the current approach to affordable payments by coastal communities who built lives and businesses with the assistance of the federal NFIP program, should not now be immediately undermined by the federal government regulatory taking of property without a rational basis (at least accurate mapping) or any (not to mention “due”) process of law via Biggert-Waters.