The Disaster After the Disaster Why Homeowners Insurance is by wku19297


									The Disaster After the Disaster: Why Homeowners Insurance is Leaving More and
              More Policyholders High and Dry After a Total Loss

                 Legal Lessons of Hurricane Katrina and Other Natural Disasters
                                      December 9th, 2009
               “Insurance companies have reneged on promises, offered only
               pennies on the dollar in settlements, dribbled out payments,
               deliberately underestimated the cost of repairs, dropped longtime
               customers and sharply increased the cost of coverage.” 1

I.     Introduction

       Home ownership is the single biggest investment undertaken by most American

families. 2 It is the cornerstone of the American dream and the principal means by which wealth

is created. 3 Approximately 68% of U.S. adults are owner-occupiers of their residence while

roughly 60% of middle-class wealth in the United States is derived from owning a home. 4 These

statistics and others make it clear that home ownership is not only a monumentally important

investment undertaken by a large segment of society, it is the chief benchmark of success for

millions upon millions of individuals.

       While ownership continues to play a significant role in the lives and livelihoods of

Americans, the safety net designed to protect this lifetime investment has withered over the last

20 to 30 years. As natural disasters such as Hurricane Katrina and the Cedar fire have wreaked

havoc on the Gulf Coast and Southern California, a disturbing number of homeowners have

found that their insurance policy did not leave them “in good hands” and their insurance provider

was not the “good neighbor” they expected. For a variety of reasons, a wide disparity has

developed between what homeowners expect from their insurer in the event of a total loss and

what insurers are actually willing to provide.

       According to insurance industry consulting firm Marshall and Swift/Boeckh, about 61%

of homes in the United States are underinsured by an average of 25%. 5 With the median value

of an existing single-family home in the United States hovering around $169,000, 6 a homeowner

with a typical shortfall is at risk to pay an additional $40,000, or more, after a total loss towards

the cost to rebuild.  Figures like these lift the veil on an acute and widespread problem: the

amount of money homeowners need to rebuild after their home is destroyed is oftentimes tens, if

not hundreds, of thousands of dollars more than the amount of coverage their insurance policy

provides for. 7 Further, it is usually only after homeowners experience a total loss and only after

their lives have been turned upside down that they realize they were inadequately protected

against the unthinkable.

        Given that insurers have long offered various levels of coverage, the underinsurance

phenomenon is certainly nothing new. 8 If homeowners want to purchase a policy that leaves

them with only partial protection against a total loss they are certainly free to do so. What has

become troubling over the last 15 years is that even homeowners with top-of-the-line policies are

beginning to come up short after their home and its contents are destroyed. 9 According to

Robert P. Hartwig of the Insurance Information Institute, an industry group dedicated to

improving public understanding of insurance, 10 “the problem of underinsurance is everywhere,

disasters simply expose it.” 11 Further, as the disasters of the 80s and 90s have given way to the

mega disasters of the 00s, insured loss totals and the number of homes reduced to rubble have

smashed old records. 12

        When one searches for the roots of this growing underinsurance problem, they will be led

to cost calculating software used to set coverage levels, certain policies within the industry, a

lack of information amongst consumers, and a host of other problems. 13 John Garamendi,

California’s former Insurance Commissioner, has said he has little doubt that “Quick Quote” and

other forms of policy pricing software “lead to errors.” 14 According to Garamendi, “the reasons

for underinsurance are simple: people are misled, misinformed, or simply did not have enough

coverage for a total loss.” 15

        Inherent in any insurance analysis is the assumption that the risk-sharing agreement

between the insurer and the insured will properly meet each party’s expectations. Because an

event like Hurricane Katrina or the Cedar fire needs to occur before the agreement is fully tested,

and because each party’s interests are inherently at odds, it follows that insurer-insured tensions

are bound to result after a natural disaster. The tensions that have followed Katrina and other

recent disasters have been made worse by the fact that they come at a time when insurance

companies appear to be profiting off their customer’s pain. 16 In advancing this argument, critics

point to record insurance industry profits of $48 and $68 billion in 2005 and 2006 respectively –

the two years following Hurricane Katrina. 17 These windfalls come on the heels of a dozen-year

effort by the insurance industry to insulate itself from the most extreme financial consequences

of catastrophe. 18 Simply put, today’s insurance policy covers less and costs more, all while

industry profits continue to swell. 19

        Additionally, many industry representatives have fanned these flames by sharply

downplaying the problem and by shifting the blame to policyholders themselves. As the industry

sees it, “it’s the homeowner’s responsibility to see to it that his home is properly insured.” 20 As

a result of the opposing views adopted by insurers and the insured and the fact that so much is at

stake for policyholders, the usually eye-glazing topic of homeowners insurance is quickly

becoming a hot button issue. The issue of insurance became so incendiary in Louisiana in the

aftermath of Katrina that politicians proposed jailing insurance executives found to have acted in

bad faith. 21 In California, community meeting after community meeting has been packed with

homeowners who are furious at insurers over the way they handled post-wildfire claims. 22

        This comment explores why it is that the principal safety net for homeowners is so

flagrantly misunderstood and why it is that an increasing number of policyholders wind up

overstressed and underinsured after their home has been destroyed. It is an exposé of the

problems with and dirty little secrets of modern homeowners insurance, both before and after

disaster strikes. Part III will look at the evolution of homeowners insurance while identifying the

roots of contemporary problems. Part IV will examine problems with homeowners insurance

during the policy execution and maintenance stage before disaster strikes. Part V will address

problems with homeowners insurance during the claims, recovery, and rebuilding phase after

disaster strikes. Part VI will examine steps taken by the California legislature to alleviate these

problems. Part VII will offer this author’s conclusion and recommendations.

II.    Thesis

       Over the last 20 to 30 years, homeowners insurance has evolved into a deficient,

problematic, and wildly misunderstood protection for a majority of American homeowners. As

disasters such as hurricanes and wildfires have become more frequent and their damage more

severe, an increasing number of homeowners have fallen victim to a second financial catastrophe

as they attempt to recover and rebuild. This second catastrophe results from a fundamental

disconnect between the level of assistance – monetary and otherwise – that homeowners expect

from their insurer before and after disaster strikes and the actual assistance most insurers are

willing to provide. Without some pronounced changes in the way insurers and the insured

conduct themselves, this fundamental disconnect will continue to devastate homeowners in a

way few natural disasters can.

III.   Historical Context: The Evolution of Homeowners Insurance into what it is Today

a) Insurance Beginnings

       Homeowners insurance dates back to the Great Fire of London in 1666, a sweeping

disaster that destroyed the homes of 200,000 Londoners. 23 As a result of this devastating

catastrophe, the city of London passed laws that permitted organizations to incorporate for the

purpose of indemnifying homeowners against losses due to fire. 24 Realizing the need, and now

legal ability, to offer protection against future calamities, Dr. Nicholas Barbon and others formed

the first insurance company in 1667, fittingly called “The Insurance Office”.25 To protect the

houses and other buildings it was insuring, The Insurance Office formed actual fire-fighting

teams whose job it was to put out fires solely in the buildings they insured. 26   Approximately 85

years later Benjamin Franklin helped popularize the concept of fire and homeowners’ insurance

in the United States when he created the Philadelphia Contributionship in 1752. 27 Over the next

200 years, insurance grew exponentially as more and more individuals realized the need to not

only protect their home, but their health and a wide variety of valuables.

       The first major development with modern homeowners insurance came in 1945 with the

passage of the McCarran-Ferguson Act. 28 Upon its passage, the Act exempted the insurance

industry from federal anti-trust legislation.29 In so doing, McCarran-Ferguson gave states the

exclusive authority to regulate “the business of insurance” with little interference from the

federal government. 30 By exempting insurers from many of the “rules of the game” that other

businesses have to comply with and by leaving it up to the states to craft their own regulations,

McCarran-Ferguson provided insurers with a unique ability to influence the way their product is

packaged and sold to consumers. While some politicians have occasionally threatened to repeal

McCarran-Ferguson and revoke the industry’s cozy arrangement, the Act remains in effect to this


b) Homeowners Insurance during the 80s and early 90s

       Over the last 20 to 30 years, insurance has become an increasingly competitive business.

During the 1980s, as insurers competed for market share, they wooed homeowners with

unrealistically low premiums and guarantees of full compensation if their home was destroyed. 31

Known as a “guaranteed replacement cost” policy, this consumer-friendly protection paid the

entire cost of rebuilding a home after a total loss, even if that cost was well above the individual

policyholder’s coverage limits. 32

       After spending the better part of the 80s writing guaranteed replacement cost policies,

insurers were overwhelmed by a slew of disasters in the early 90s. In 1992, Hurricane Andrew

destroyed 28,066 homes in Florida, damaged another 107,308, and caused $17 billion in insured

losses. 33 In 1994, the Northridge earthquake razed thousands of buildings across the Los

Angeles area and resulted in more than $15 billion in insured losses. 34 These catastrophes

caught the industry off-guard and when the dust settled insurers had to make good on their gold-

plated promises. As a result, most providers wound up paying dearly and realized they wrote far

too many consumer-friendly policies, particularly in vulnerable regions. 35 It was only after the

Northridge earthquake and the crippling losses that followed that 21st Century Insurance and

other carriers realized they were too concentrated in the Los Angeles area. 36 On the other side of

the country, Hurricane Andrew rendered seven small Florida insurers insolvent. 37

c) Homeowners Insurance During the Mid to Late 90s

       After the disasters of the early 90s ravaged the industry, insurers began drastically

changing the way they did business. In a move to slash claims-related expenses, insurance

companies across the country raised premiums and deductibles on basic policies, 38 stopped

selling earthquake insurance, 39 and dropped policyholders they no longer wanted to insure. 40

Before Hurricane Andrew, nearly 300 insurers provided a variety of coverage options to

Floridians. After the disaster, 34 insurers informed the state they intended to withdraw from the

market entirely while 29 others reduced their coverage options. 41 Insurers in most states began

phasing out guaranteed replacement cost policies in favor of similar-sounding “extended

replacement cost” policies with a crucial difference: they pay only the amount stated on the

policy, plus, typically an additional 20-25 percent. 42 Market leaders such as State Farm, Allstate,

and Farmers all redesigned their coverage options to cap their liabilities. 43 State Farm, for

example, began selling new single-family-home policies in 38 states that limited replacement

cost coverage to 120% of the insured value of the dwelling. 44 All of these changes signaled the

end of the guaranteed replacement cost era and the beginning of an era in which insurers, and not

policyholders, appear to be best protected against future risk.

d) Insurance Today

               “People have to understand that the insurance policy has really
               changed. It’s not your mom and pop’s insurance policy. The risk
               is on you to get the numbers right.” 45
                                Brian Perkins, Staff Director with the California Senate
                                 Banking, Finance, and Insurance Committee

       As insurance companies began pegging the amount of money they were willing to pay

the insured to hard and fast numbers in each policy, insurance has become much more

treacherous for consumers. Homeowners must now make sure their policies are up to date and

that their coverage levels stay current with inflation, rebuilding costs, and other variables. 46

Making matters worse, insurance companies have done a poor job educating consumers about

the need to keep their own policy up-to-date. According to Amy Bach, Executive Director of

United Policyholders, a non-profit organization dedicated to educating the public on insurance

issues, 47 “insurance companies have made the problem worse by no longer selling guaranteed

replacement policies because they have not changed consumer expectations one bit.” 48 Few

policyholders realize it is now their responsibility to keep their policy up to date. They wrongly

assume that their coverage levels are fine and if they aren’t, their insurer will notify them.

Because of this misunderstanding, more and more homeowners today are becoming woefully

underinsured as conditions change and rebuilding costs go up. As Hurricane Katrina, the Cedar

fire, and other disasters of the 00s have struck, newly-homeless policyholders are discovering a

sizeable gap between their policy limits and the actual cost to rebuild. 49

       To be clear, a basic homeowners policy today covers replacement of your house, but not

the land it sits on. Insurers presume the land will withstand wind and fire damage. 50 Further,

basic insurance policies do not cover losses caused by either flood 51 or earthquakes. 52 In order

to protect against these threats, homeowners must purchase either costly supplements to their

existing coverage or a wholly separate policy through a governmental or quasi-governmental

agency. 53 Flood insurance must be purchased from the National Flood Insurance Program,

which Congress created in 1968 to help provide a means for property owners to financially

protect themselves. 54 Conversely, earthquake insurance must be purchased through quasi-

governmental entities such as the California Earthquake Authority (CEA). Established in 1996

following the Northridge earthquake, the CEA is a privately-funded, publicly-managed

organization that sells earthquake policies through participating insurers. 55

       With a few minor exceptions, policyholders today have three coverage options to choose

from: extended replacement cost, replacement cost, and actual cash value. 56 As has been

explained, an extended replacement cost policy will pay up to a certain amount above the policy

limit to replace a home, generally no more than 120 to 125 percent total. 57 Beyond rare

situations in which guaranteed replacement cost policies are still available, extended replacement

cost offers the best possible protection for homeowners today. The next best protection, a

replacement cost policy, pays the dollar amount needed to replace damaged property without

deducting for depreciation. However, recovery under a replacement cost policy is limited to the

policy’s stated coverage limits. 58 Finally, an actual cash value policy offers the least protection

in that recovery is limited to the replacement cost of damaged property up to the policy limits,

less depreciation. 59 Because about 61% of homes in the United States are underinsured by an

average of 25%, 60 even extended replacement cost policies leave many homeowners with

coverage gaps after a total loss.

       Regardless of what option a homeowner chooses, policies today are usually divided into

sections by what is covered and the maximum amount the insurer will pay in the event of a

loss. 61 These sections include: dwelling coverage (coverage A), other structures (coverage B),

personal property (coverage C), additional living expense (coverage D), and landscaping/debris

removal. Dwelling coverage, or coverage A, is the largest and most important coverage limit in

a policy because the coverage limits of other sections are usually a percentage of it.62

IV.    Problems that Arise Before Disaster Strikes

       A homeowner may not experience a disaster until years after a policy is executed, if at

all, but steps taken or not taken from the moment a policy is contemplated will determine

whether that homeowner is prepared for the unthinkable. This section looks at some of the

problems with homeowners insurance from the moment the sales pitch is made right up until

disaster strikes. The first part of this section examines problems during this period with insurers

and their agents. The second part examines the most prominent policyholder misconceptions and

provides tips on what homeowners ought to do to keep themselves protected.

a) Problems with Insurers and Agents

i) Pushing Low Premiums Instead of High-Quality Coverage

        Perhaps the biggest reason why more and more individuals are finding themselves

underinsured after their house is destroyed is that insurance companies purposely sell coverage

that, from the outset, is simply inadequate to protect against a total loss. 63 While it sounds odd

that insurance companies would want to down-sell coverage – and therefore collect less in

premiums – that is exactly what is happening. This down-selling phenomenon occurs for two

principal reasons. First, because insurance companies and agents are under considerable

pressure to make sales, they often aim low in valuing houses in an effort to keep premiums

low. 64 It reasons that by keeping premiums low, and therefore coverage low, insurance

companies prevent consumers who price-shop for premiums from signing on with a competitor.

Many of the nation’s largest insurance providers have engaged in this race to the bottom for

years. According to Amy Bach of United Policyholders, “the agents are afraid to tell people they

should be paying a higher premium for more coverage because they will move to a different

carrier.” 65

        In refuting this first down-selling argument, insurance industry executives have long

argued that it would make no sense to intentionally undervalue homes. As they see it, higher

values lead to higher coverage, higher coverage leads to higher premiums, and higher premiums

lead to an influx of money. 66 John Garamendi, California’s former Insurance Commissioner

disagrees with the industry’s stance. According to Garamendi, “you want the sale first. OK, you

can get a little more premium if you give full coverage, but you lose the sale.” 67 Regardless of

which side you believe two things are clear: undervaluation is rampant 68 and homeowners who

realize only after a loss that their coverage is woefully receive little solace from learning it was

an accident.

       Second, insurers tend to down-sell coverage, particularly in areas susceptible to disaster,

because doing so reduces their liability if a catastrophe does occur. When insurers permit policy

add-ons such as higher coverage levels, extended periods of mortgage and living expense

payment and so on, they take an especially hard hit when the wave of claims come in after a

disaster. Even if policyholders pay higher premiums along the way to cover the cost of these

add-ons, insurers are hesitant to dole them out because the amount they wind up paying goes up


       One of the best examples of these higher payout scenarios that insurers want to avoid was

the 2007 wildfire season in San Diego County. That year, the Witch Creek, Harris, and Rice

Canyon fires destroyed 1,584 homes in the San Diego area 69 and resulted in $1.7 billion in

insured losses. 70 By comparison, 2003’s Cedar fire burned over 600 more homes, 71 yet insured

losses were only $1.28 billion. 72 Despite destroying roughly 30% fewer homes, the 2007 fire

season was approximately 33% more expensive to insurers than the Cedar fire. This added

expense was the result of mandatory evacuations that forced insurers to pick up the tab of tens of

thousands of policyholders who left their homes and checked into hotels. 73 While the additional

living expense coverage that paid for these hotel stays is a common feature of most policies, the

entire episode shows that seemingly subtle variables can make a disaster considerably more

expensive for insurers.

ii) The “Quick Quote” Problem

       The industry’s use of cost calculating software such as “Quick Quote” to write policies is

another major problem with insurance today. “Quick Quote” software, produced by Marshall &

Swift/Boeckh, allows insurers and their agents to calculate premium and coverage quotes in a

matter of seconds after asking homeowners a short series of generic questions. 74 This software

is inherently problematic because it allows agents, who are invariably paid a commission for

each policy they sell, to cut corners and rush through the process of structuring coverage.

Further, the true cost to rebuild is often 40-60% higher than the quick quote appraisal. A low-

ball estimate by “Quick Quote” has broad repercussions because coverage for other losses such

as personal belongings, debris removal and landscaping are calculated as a percentage of the

coverage A rebuilding limit. 75 “Quick Quote” is able to produce coverage figures that better

reflect true rebuilding costs, but only if the agent takes the time to supply detailed information

about a house, such as ceiling height, type of floors, and the number of fireplaces. 76

       According to Peter Wells, senior Vice President of Marshall & Swift/Boeckh, answering

10 short questions asked by “Quick Quote” will produce an estimate within 10% of the actual

replacement cost of a home. 77 Wells argues that “Quick Quote” is intended to help agents

provide callers with a rough estimate of the coverage they need and points out that the software

comes with instructions that the quick quote function should not be used to write policies. 78 At a

government hearing held after the Cedar fire, Bob Dowdell, Chief Executive of Marshall &

Swift, claimed that few insurers actually use quick quote to write policies. 79

       Despite the contentions of both Wells and Dowdell, there is considerable evidence that a

majority of policies are in fact written using the quick quote function. George Kehrer, a retired

lawyer and consumer advocate, purchased the software and tested it on more than 200 burned-

out and deeply underinsured homeowners at community meetings following the Cedar fire. 80

Kehrer, who lost his home during the Oakland Hills fire in 1991, found that the coverage amount

that came up after asking the same short series of questions intended for estimates only was close

or identical to the replacement cost figure on many of the homeowners’ policies. 81 All of these

underinsured Cedar fire victims were forced to either scale down their replacement home, pay

tens of thousands of dollars out of pocket, give up on rebuilding altogether, or some combination

of the three.

iii) Poor Training, Indifference, and a Lack of Due Diligence within the Industry

        If “Quick Quote” or intentional down-selling techniques do not leave policyholders with

inadequate coverage, chances are widespread indifference, poor training, and a lack of due

diligence within the industry will. At the center of this problem are insurance agents. While

there are certainly numerous examples to the contrary, agents as a whole are not able to provide

individual homeowners with well thought out policies because they aren’t willing to take the

time to do so or they simply don’t know how to. Because insurance is a volume business where

an agent’s compensation and value to his employer is usually proportional to the number of sales

made, quantity, and not quality, is the name of the game. As a result, experts both inside and

outside the industry agree that agents are often unable accurately assess the value of a home and

rarely, if ever, will they physically inspect the property before selling a policy. 82

        Further indicting insurers and their agents is the fact that many burned-out homeowners

said they made it clear to their agent up front that they wanted enough coverage to be able to

replace their home. 83 Several homeowners even claim they specifically asked their agent for

more coverage but were told they did not need it. 84 According to California’s current Insurance

Commissioner Steve Poizner, once a homeowner has informed their agent that they need to

update their policy to reflect additional coverage needs, “it’s up to the insurance company to ‘do

the right thing’ and provide proper coverage.” If they don’t, Poizner said he will “hold the

insurer responsible.” 85 In the case of the Cedar fire, it appears as though the “right thing” never

happened for many homeowners.

        The way many agents operate certainly presents a dilemma, but the industry as a whole

has failed to address it. Given their unapologetic stance toward policyholders who come up

short, it is unclear whether insurers are willing to concede a problem even exists. As they see it,

insurance gaps usually result from policyholder failures, not agent or industry failures. 86

According to an Allstate spokesperson, “those people who are maintaining a dialogue with their

insurer aren’t going to be underinsured, and they won’t be unprepared.” 87 Pete Moraga, a

spokesman for the Insurance Information Network of California, further spoke to the industry’s

philosophy in saying, “if you buy a car and you’re given an option of getting $30,000 in

insurance but only get the bare minimum, is the insurance company at fault when you get in an

accident?” 88

        Courts across the nation seem to agree with this sentiment and routinely side with

insurers when policyholders sue over underinsurance issues. In Everett v. State Farm, a case

involving a woefully underinsured victim of the Cedar fire, the California Court of Appeals

concluded that homeowners have the burden of determining whether they have sufficient

coverage for their needs. 89 The tough luck mentality of insurers and courts has bewildered many

policyholders and consumer advocates. Amy Bach of United Policyholders believes the

responsibility to keep vigil over coverage levels “can’t be placed on the policyholders. They

don’t have the information. It’s just absurd.” 90 Donald McCormick, a burned-out San Diego

area math teacher agreed, “they’re the experts, I don’t go to the doctor and tell him how to do

surgery.” 91

        While a troublesome pattern has developed, some insurers stand out for taking a more

responsible approach. Auto Club, otherwise known as AAA, has been held up as a good

example of the way insurers and agents should function. Auto Club officials testified at a post-

wildfire hearing that before the fires, they realized they needed to update customer policy limits

because some were too low. Now, AAA mails the new policy limit and a home description to

each customer before renewal, to make sure they agree. 92 The underinsurance phenomenon

would shrink considerably if more insurers were willing to adopt this standard of care.

b) Misconceptions of Policyholders and the Problems they Create

               “I paid for a replacement cost policy, but it didn’t replace it.” 93
                                R. Huston, who lost her home during the Cedar Glen fire

       The biggest misconception is that most policyholders assume their insurance agent will

sell them a policy with the appropriate level of coverage and do what it takes to keep that

coverage fine tuned over time. Based on data showing that over 60% of U.S. homes have

coverage levels that, on average, are 25% less than the true cost to rebuild, this could be a costly

mistake. 94 Karen Reimus, an attorney-turned-advocate who lost her home in the Cedar fire, has

been on a crusade to warn homeowners that it is up to them to make sure that they are well-

covered. 95 Reimus believes it is essential that policyholders “do the homework” and “go beyond

[their] agent to find out how much it costs to replace [their] home and landscaping.” 96 Reimus

and other experts suggest policyholders:

    1. Get an assessment from an independent insurance agent who can advise them on
       how to properly insure their house. 97 Independent agents tend to provide more
       objective advice because they represent multiple insurance providers. 98

    2. Buy the highest percentage replacement cost endorsement they can afford. 99 This
       extra 20-25% provides a crucial buffer as expenses add up after a total loss.

    3. Find out whether they have a replacement cost policy or actual cash value policy
       and educate themselves on the difference. 100

    4. Tell their insurance agent outright that they are concerned about underinsuring
       their home. 101

     5. Hire a local contractor to compute the price per square foot of replacing their
        home. 102 They should then compare that figure to other rebuilding costs in the
        area, contact their agent, and adjust coverage levels accordingly. 103

     6. Reassess the replacement cost of their home annually and adjust coverage levels.
        New kitchens, fixtures, room additions, landscaping and higher construction costs
        require additional coverage. 104

     7. Complete a detailed inventory of their possessions and periodically update it. 105
        Free home inventory software is available online and will walk policyholders
        through the process. 106

     8. Store their policy, an inventory of their possessions, and receipts for big purchases
        in a safe place away from the home, preferably a bank safe deposit box. 107

        While the list may seem daunting, homeowners who invest the time and effort to assess

their needs and structure their coverage to meet them will be well-protected. If policyholders fail

to take steps to protect their home, or they never realize the need to do so, financial devastation

could only be a disaster away.

V.      Problems that Arise After Disaster Strikes

        Even if a policyholder has adequate coverage levels they will encounter a host of

problems if a fire, hurricane, or other catastrophe claims their home. Many of these problems are

the result of failures, foul play, or questionable tactics within the insurance industry. On the

other hand, many problems stem from the fact that, given the sheer magnitude of most

catastrophes, every conceivable resource from the insurer on down is overwhelmed. Regardless

of what causes these problems, the end result for policyholders is a recovery and rebuilding

process that is stressful, dissatisfying, and painfully slow.

a) Post-Disaster Problems due to Foul Play and Questionable Tactics within the Industry

i) Insurance Bad Faith and Stalling or Denying Payouts

               “The first adjuster was great. He comes in and says ‘Let’s get the
               ball rolling’. The second adjuster says, ‘I just got your file, I have
               to review it.’ The third adjuster hardly shows up and doesn’t
               return phone calls. And then you’re onto your fourth, fifth, or sixth
               adjuster. Many people have had five adjusters, and each time the
               process starts all over again.” 108
                                C. Thornton, whose Harbison Canyon home was destroyed
                                 during the Cedar fire

        According to the California Supreme Court, an insurer is said to act in “bad faith” when it

breaches its duty to deal “fairly” and “in good faith” with its insured. 109 The term “bad faith”

does not require that the insurer engage in “positive misconduct of a malicious or immoral

nature.” 110

        Following the 2003 fire season in Southern California, nearly 300 homeowners who

experienced a total loss filed formal complaints with the California Department of Insurance. 111

The homeowners alleged that insurers engaged in a variety of deceptive practices before the fires

hit and acted in bad faith after. 112 The bulk of these complaints were directed at the three largest

insurers in California – State Farm, Farmers, and Allstate – who collectively control around 56%

of the market. 113 Homeowners claim that these insurers and others have been assigning as many

as four or five adjusters to each claim, leading to confusion among both policyholder and

adjuster. 114 John Garamendi went a step further and claimed that rotating adjusters is a

deliberate tactic to stall making payouts and therefore stall recovery. 115 These homeowners are

supported by data showing that only 9% of the approximately 1,600 homes destroyed in San

Diego County during the 2007 wildfire season had been rebuilt within a year of the fires. 116

Finding a reputable builder certainly led to delays but slow and contentious insurance

negotiations received the lion’s share of blame.

        Homeowners and advocates also allege that after deliberately slowing payouts, some

insurers attempt to deny reimbursement altogether for things like destroyed household items on

the grounds that too much time has passed since the disaster. 117 Consumer advocate George

Kehrer summed up the problem by saying, “we now have insurance companies saying, ‘Well,

it’s been two years and if you haven’t resolved the matter in two years, it’s not our problem.’” 118

Industry representatives have rebuffed these allegations and claim that only a small percentage of

policyholders were dissatisfied and that the industry has done a good job overall. 119

       These types of bad faith allegations have been just as pronounced in other parts of the

country. In the aftermath of Hurricane Katrina, many policyholders became infuriated with

insurers who they view to have reneged on promises, offered only pennies on the dollar in

settlements, dribbled out payments, and deliberately underestimated the cost of repairs. 120 The

state of Louisiana estimates that on average, insurers underpaid each policyholder $7,500 for

wind damage alone following the storm. 121 This widespread underpayment resulted in “Road

Home,” the federal government’s rebuilding program, picking up an extra $900 million in

expenses that insurers themselves purportedly should have paid out. 122

ii) Skyrocketing Premiums and the Withdrawal of Insurers in Disaster-Stricken Areas

       Insurance premiums often skyrocket after disasters and this is exactly what happened in

New Orleans and along the Gulf Coast following Hurricane Katrina. There, some homeowners’

premiums have quadrupled yet their policies still usually feature notable coverage gaps. 123

According to Louisiana’s Insurance Commissioner, some companies are no longer writing

policies in the state and most are raising prices, increasing deductibles, and cutting coverage for

wind and hail. 124 These higher premiums and increased deductibles not only create a direct

financial hardship for policyholders, they make buying or selling a house considerably more

difficult. Louisiana became so worried that insurance companies would abandon the state that it

agreed to provide over $100 million worth of incentives to keep and lure insurers. 125

        The same phenomenon is playing out in California as insurers, in an attempt to reduce

their exposure in high-risk areas, are declining to provide coverage to homes in canyon areas or

on hillsides exposed to dry brush. 126 The California Department of Insurance has said that

consumer complaints they have received suggest that the number of policyholders being dropped

is on the rise. According to a department spokeswoman, insurers are tightening their guidelines

by requiring greater brush clearance and checking the distance between insured homes and full-

time fire stations. 127 As early as 2004, Allied Insurance, California’s eighth largest insurer,

began dropping policyholders who live as far as a quarter-mile from brush areas. 128 These

dropped homeowners often end up in a secondary market for high-risk insurance where policies

command higher premiums, require larger deductibles, and offer less coverage. 129 Some experts

and industry representatives have downplayed the scope of the problem and claim that instances

of dropped coverage are isolated and based almost exclusively on a home’s proximity to known

and potential fire risks. 130

b) Post-Disaster Problems due to Other Factors

i) Rebuilding Costs Rise Over Time and Spike After a Disaster

        Oftentimes the biggest hurdle a homeowner faces after a disaster destroys their home is

the sheer cost of rebuilding. While most insurance policies include a built-in escalator to keep

pace with general inflation, the cost of building supplies and paying for construction tend to rise

at a faster pace. 131 These expenses also usually spike after a disaster as the supply of builders

and materials dwindles and the demand for construction booms. The U.S. Census Bureau

estimated that residential building costs in Western states were 35% higher in 2006 than they

were in 2003. 132 This statistic has played out all over California as the per-square-foot cost of

rebuilding has risen well above coverage limits in most policies. 133 These higher expenses come

at the worst possible time for burned-out homeowners and add considerable stress to an already-

debilitating set of circumstances.

       In an attempt to make the most of this costly situation, homeowners and builders have

taken creative steps to stretch dollars and keep rebuilding costs down. Builders like Hallmark

Communities of San Diego have said that the cost of rebuilding drops if policyholders band

together to achieve economies of scale. 134 When it got 10 or more to burned-out homeowners in

one San Diego neighborhood to join forces, Hallmark was able to buy materials in bulk and they

rebuilt homes at the relatively low price of $102 per square foot. 135 Considering the wildly

expensive nature of rebuilding, this has proved to be an effective strategy that more and more

aggrieved homeowners are turning to.

ii) Hidden Expenses Along the Way

       The lion’s share of focus after a catastrophe is on the home and everything inside it, but

the lost wages, lost business, and sheer time that goes into rebuilding lives, businesses, and

communities is a profound resource drain. 136 Before their lives were turned upside down, most

homeowners went to work, conducted business, earned a wage and went home. After a natural

disaster, focus shifts from one’s job to the 24-hour business of regaining normalcy. During this

period routine expenses – often covered by insurance as an additional living expense – skyrocket

while income typically dips.

       In a more specific sense, various lesser uninsured or underinsured expenses add up over

time. The cost of removing debris from the lot and replacing destroyed landscaping are two

conspicuous examples of this. These rarely contemplated expenses frequently exceed a

policyholder’s coverage by many thousands of dollars. 137 Because of this, homeowners must

once again get their checkbook out, scale down their planned rebuild, or both. Additionally, the

cost of meeting current building code standards are usually not covered by most policies unless

they were specifically included as a separate add-on. 138 All of these expenses tend to overwhelm

individuals as they are trying to get their life back together.

VI.    Past Legislation

       A series of bills dubbed the “Homeowner’s Bill of Rights” were passed by the California

legislature in the wake of the Cedar fire.139 Collectively these bills form a substantial set of new

protections for homeowners dealing with their insurance companies after a disaster. 140 One of

these bills, Assembly Bill 2199, gives policyholders 12 months to rebuild following a fire and 24

months to rebuild following a declared disaster. 141 Given the slow nature of the claims and

rebuilding process following a disaster, this was an important change in the law. AB 2199 also

allows policyholders to receive full replacement costs if they decide to build a similar house on a

site other than the insured premise. 142

       Assembly Bill 2962, another cog of the “Bill of Rights” legislation, changed the law so

that insurers cannot cancel insurance for a primary residence when it is up for renewal and has

not yet been rebuilt or during the rebuilding process, except for reasons stated in California

Insurance Code §676. 143 AB 2962 also provides that insurers must renew the insurance policy at

least once if a total loss to the primary residence was caused by a disaster and not the

homeowner’s negligence. 144 Finally, 2962 states that, for the purpose of actual cash value

policies, depreciation figures are to be calculated at the time the fire began, not some later point

in time. 145 These bills are far from a magic bullet, but they have proven helpful in that they

provide homeowners with more time, leverage, and money when they need it most.

VII.   Recommendations and Conclusion

               “I really don’t think that the industry has made the kind of
               fundamental changes that need to be made so this doesn’t keep

                 happening. The $60,000 question is how will the insurers behave?
                 Will they play hardball and get more bad publicity, or will they
                 work with people and fix it?” 146
                                 Amy Bach, Executive Director of United Policyholders

         One need not dig deep to find problems with the current state of homeowners insurance.

Policyholders generally assume they are well-protected against the unthinkable, yet in actuality

they are often a disaster away from financial devastation. Making matters worse, the insurance

industry has largely denied or ignored the problems with their product while shifting blame and

responsibility toward policyholders. We as a nation appear to have entered an era of more

frequent and more costly disasters. For this reason, risk-spreading agreements like homeowners

insurance have never been more important. As a result, there is simply too much at stake for

millions of Americans to justify a continuation of the status quo. Policyholders, the industry, and

state legislatures need to work together to close the ever-widening gap between what is expected

and what is provided after a total loss.

         Looking forward, in order to help close this gap, state legislatures should pass legislation


        1. Establishes a baseline series of questions that must be asked before a policy is
           written that exceed current “Quick Quote” standards. This, in turn will force
           insurers and their agents to build more accurate policies for homeowners.
        2. Mandates that an insurer who writes a policy pay for an independent inspection of
           the home to be covered within 90 days of the policy being issued. After the
           independent inspection is complete, the homeowner is given the option of either
           adjusting their coverage levels to better reflect true building costs or signing an
           informed waiver declining additional coverage. A homeowner’s ability to adjust
           their coverage at a later date would not be affected.
        3. Helps simplify insurance and make things like the declarations page more readily
           understandable by consumers. Follow Florida’s model of mandating minimum
           Flesch-Kincade readability scores for all policies. 147

           4. Institutes a $10 annual tax on all policies and uses the revenues to fund an
              awareness campaign that educates the public on the need to, among other things,
              keep their policy up-to-date and maintain an inventory of household possessions.

              As it stands, countless homeowners experience a disaster after the disaster. If appropriate

legislative steps are paired with insurers and consumers who are more willing and better able to

do their part, future catastrophes will have happier endings.

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    West's Fl. Stat. Ann. § 627.4145


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