California in Crisis Turned Catastrophe: How We Got Here and How We Get Out
Intro
The crisis in California’s homeowner insurance market has been developing over time. However, with the devastating impacts of the Palisades fires, fault lines in the market have exploded and the crisis has evolved into a catastrophe. With wide-ranging effects on the marketplace impacting individual Californians seeking to protect themselves from risk, we need to understand how we arrived at this point, and more importantly, what we can do to move forward and course correct.
How Did We End Up Here?
Proposition 103 plays a major role in creating the current state of the California insurance market. Adopted by a narrow vote in 1988, the Prop 103 ballot measure expanded the regulatory capacities of the California Department of Insurance (DOI) by requiring them to approve any rate increases, allowing for intervenors to weigh in on ratemaking, and making the insurance commissioner an elected position. This has led to a slow moving system unable to react quickly to market needs, all potentially influenced by individual political gain.
Election of Insurance Commissioner
California is one of 11 states in which the insurance commissioner is elected, rather than appointed. With election, the insurance commissioner seat can be filled by a career politician as opposed to a business or insurance expert. Used as a stepping stone for political aspirations, the influence of voter opinion – as opposed to objective market demands and regulatory needs – has the potential to sway a commissioner’s ratemaking decisions. Requirements for market stability and strength can be at odds with the short-sighted decisions of an insurance commissioner working towards political career advancement.
Regulatory Impacts of Proposition 103
Prop 103 requires that attempts by an insurance company to raise rates in excess of 7% for personal lines and 15% for commercial lines be subject to an extensive review process. This change shifted the market from one of open competition to a prior approval regulatory system. This level of governmental control is logical at times, but in the wrong conditions, it is disastrous.
Here in California, approval for insurance rate increases does not keep pace with inflation. California is one of the slowest states in the US to resolve rate filings, sometimes stretching the process out for months and even years. Prop 103 also enables any individual as an intervenor to enter the regulatory process. In theory, intervention could be a potential safeguard to excessive increases. However, in practice, it is often a means for unnecessary and excessive delay. Subsequently, rates are held artificially low and stress the system beyond its capabilities.
Rate suppression creates a gap between the actuarially indicated rate and the rate approved by regulators. This gap causes insurance providers to pull back on quoting as well as exit the California market due to unsustainability. We end up with a less competitive market and an artificial supply-and-demand issue. Californians are left with fewer options and less market competition to keep rates at appropriate levels.
While the California FAIR Plan exists to provide fire insurance to property owners who cannot find private market coverage, these plans are often more costly and cover less than a commercial plan. With the already strained insurance market and the devastation caused by recent fires, the FAIR Plan is unable to pay out all claims.
State regulators have said they will allow the FAIR Plan to collect $1 billion from private insurance companies assessed on their market shares in order to pay claims. Likely, this will further drive up insurance costs for all in California and perpetuate a dangerous cycle – private insurers exit the market, more homeowners seek coverage through the FAIR Plan, the FAIR Plan’s ability to cover claims is stretched beyond capacity, more insurers are assessed and, consequently, leave the market and the cycle begins again.
How Do We Get Out of Here?
Rectifying the current state of the California insurance market necessitates a multifaceted approach with various reforms, regulatory changes, and federal funds.
Regulatory Changes
It is paramount to provide nimble rate changes that reflect accurate risk. Catastrophic weather events are more common, and the role of the insurance commissioner and the industry is to provide risk coverage at an actuarial rate commensurate with risk. Adopting new means such as predictive models to underwrite risk on a more accurate level can assist with this process.
Ratemaking must also accelerate in some instances. Uncontroversial rate increases may even warrant fast-tracking to ensure homeowners have access to coverage.
The role of regulation in the industry is to establish rate changes with agility and accuracy. This allows providers the ability to stay in the market, create competition, and provide products to consumers.
Federal Funds
While state regulators have already given the go-ahead for the FAIR Plan to request funding from all private insurance companies operating in the state, federal funding will most likely also be necessary to cover claims. However, a one time federal payout acts as a bandaid to the larger problem and does not mitigate the risk going forward or the likelihood of being in a similar position in the near future.
Electing the Right Insurance Commissioner
California is one of 25 states that requires insurers to file rates, meaning that there is transparency in the process. This governance is good in terms of consumer protection provided that the insurance commissioner’s goal is aligned with protecting the market long-term. The issue arises when a commissioner’s goals are focused on personal career gain when the best decision for the market may be temporarily unpopular with voters. Timely approvals for increases that keep pace with inflation as well as increased risk must be a commissioner’s main objective to truly serve the people of California.
The insurance market in California is in a catastrophic state. And the effects of such a crisis will inevitably spill over to other markets and parts of the US. This is a topic we all need to be talking about and working to resolve. One step that we can take is to remember the importance of our votes in the 2026 election for California Insurance Commissioner. How we vote has a significant impact on our future ability to purchase homes in California and, should devastation hit, restore them in a reasonable manner.
Matt Clark, Partner, Personal Lines
