State programs may also  be postfunded through state general revenue funds and federal disaster  relief payments. Second, homeowners may  not receive appropriate price signals about the risk of living in catastrophe- prone locations. Homeowners do not purchase natural  catastrophe insurance for a variety of reasons, including financial reasons. We estimate that the federal government made approximately  $26 billion available for homeowners and renters who lacked adequate  insurance in response to the 2005 hurricanes. Inaccurate Home Valuations Can Result in Underinsurance

Homes may be underinsured because replacement costs are not calculated  accurately. The  Comptroller General of the Unites States has repeatedly warned that the  current fiscal path of the federal government is “imprudent and  unsustainable.” In addition, we reported that, for state and local  government sectors, large and growing fiscal challenges will begin to  emerge within the next few years in the absence of policy changes. Options for Changing the Federal Role in Natural Catastrophe Insurance Attempt to Address Market Issues but May Not Limit Federal Exposure

We identified seven public policy options for changing the role of the  federal government in natural catastrophe insurance (see fig. We examined the advantages and disadvantages of these policy options and  evaluated them against four broad public policy goals. These goals are   charging premium rates that fully reflect actual risks,   encouraging private markets to provide natural catastrophe insurance,   encouraging broad participation in natural catastrophe insurance   limiting costs to taxpayers before and after a disaster. The first option—a mandatory all- perils homeowners insurance policy—would help create broad  participation and could provide a private sector solution. A second  option would involve providing federal reinsurance for state catastrophe  funds—a change that could lead to greater private insurance market  participation but that could also displace the private reinsurance market. These incentives offer some advantages, but could also represent  ongoing costs to the federal government and taxpayers. Tax-Deferred Reserves for Insurance Companies Could Encourage Greater Private Sector Coverage but Could Be Costly for the Federal Government and Have Other Disadvantages

A fourth policy option would be to permit private insurers to establish tax- deferred reserves for future catastrophes. Objectives, Scope, and Methodology

Our objectives in this report were to examine (1) the rationale and funding  of the federal and state programs that have supplemented, or substituted  for, private natural catastrophe insurance; (2) the extent to which  Americans living in areas of the United States that are at high risk for  natural catastrophes are uninsured and underinsured, and the types and  amounts of federal payments to such individuals since Hurricanes Katrina,  Rita, and Wilma; and (3) public policy options for revising the federal role  in natural catastrophe insurance markets. We reviewed or analyzed documents on federal and state natural  catastrophe insurance programs, the numbers of uninsured and  underinsured and federal payments to them, options to redefine the federal  role in natural catastrophe insurance, and principles on which change  options can be based and evaluated. Selected State Natural Catastrophe Insurance Programs

State government natural catastrophe insurance programs, in most cases,  have been created after disasters because homeowners insurance coverage  for catastrophic events is often not available from private insurers at prices  deemed affordable by state legislators and insurance regulators. Particularly in catastrophe-prone locations, government insurance  programs have tended not to charge premiums that reflect the actual risks  that homeowners face, resulting in financial deficits. After the 2005  hurricanes, for example, some of these state programs faced large  accumulated deficits and required substantial public funding to continue  operations.
Why GAO Did This Study

In recent years, much attention has been focused on the roles that the private sector and federal government play in providing insurance and financial aid before and after catastrophic events. In this context, GAO examined (1) the rationale for and resources of federal and state programs that provide natural catastrophe insurance; (2) the extent to which Americans living in catastrophe-prone areas of the United States are uninsured and underinsured, and the types and amounts of federal payments to such individuals since the 2005 hurricanes; and (3) public policy options for revising the federal role in natural catastrophe insurance markets. To address these questions, GAO analyzed state and federal programs, examined studies of uninsured and underinsured homeowners and federal payments to them, identified and analyzed policy options, and interviewed officials from private and public sectors in both high- and low-risk areas of the United States. GAO also developed a four-goal framework to help analyze the available options.

What GAO Found

The federal government and some states have developed natural catastrophe insurance programs that supplement or substitute for private natural catastrophe insurance. These programs were created because homeowner coverage for catastrophic events is often not available from private insurers at prices deemed affordable by insurance regulators. Large losses associated with natural catastrophes are some of the biggest exposures that insurers face. Particularly in catastrophe-prone locations, government insurance programs have tended not to charge premiums that reflect the actual risks that homeowners face, resulting in financial deficits. After a resource-depleting disaster, the programs have postfunded themselves through, among other sources, payments from insurance companies and policyholders and appropriations from state and federal taxpayers. Large numbers of Americans are not insured for natural catastrophes. Homeowners may not purchase natural catastrophe insurance because doing so is voluntary and they may not believe that the risk justifies the expenditure. In addition, some homes may be underinsured--that is, not insured for the full replacement value. GAO estimates that the federal government made about $26 billion available to homeowners who lacked adequate insurance in response to the 2005 Hurricanes Katrina, Rita, and Wilma. Given the unsustainable fiscal path of federal and state governments, they will be challenged to maintain their current fiscal role. As Congress reevaluates the role of the federal government in insuring for natural catastrophes, Congress is faced with balancing the often-competing goals of ensuring that citizens are protected and limiting taxpayer exposure. This report examines seven public policy options for changing the federal government's role, including establishing an all-perils homeowner insurance policy, providing reinsurance for state catastrophe funds, and creating a mechanism to provide federal loans for state catastrophe funds. Each option has advantages and disadvantages, especially when weighed against competing public policy goals. For example, establishing an all-perils homeowner policy is a private sector approach that could help create broad participation. But low-income residents living in parts of the United States with high catastrophe risk could require subsidies, resulting in costs to the government. Similarly, federal reinsurance for state programs could lead to broader coverage, but could displace private reinsurance. GAO also identified several policy options for tax-based incentives for insurance companies, homeowners, investors, and state governments. But these options, which could help recipients better address catastrophe risk, could also result in ongoing costs to taxpayers. While some options would address the public policy goals of charging risk-based rates, encourage broad participation, or promote greater private sector participation, these policy goals need to be balanced with the desire to make rates affordable.