CEA, insurers reach tentative quake-insurance agreement

After lengthy negotiations, the state’s major property insurers and the California Earthquake Authority have reached a tentative agreement on a financing plan that would increase the average quake-insurance policy by $55 annually and includes a new $1.2 billion commitment from insurers.

The CEA’s three-member governing board–composed of representatives of Gov. Arnold Schwarzenegger, Insurance Commissioner Steve Poizner and Treasurer Bill Lockyer–approved the draft in a 2-1 vote. Lockyer, critical of the CEA’s financial structure, opposed the proposal.

The board’s agreement is not final, however. The Legislature must sign off on the deal in the form of SB 430, a bill authored by Sen. Mike Machado, D-Linden, which currently is being rewritten. Machado, who heads the Senate Banking, Finance and Insurance Committee, is playing an important role in crafting the final agreement. The full draft of his bill is expected to be completed within the next few days and could be in print as soon as next week.

Machado said the proposed deal, which represents a compromise between insurers and the CEA, is necessary to keep the homeowners’ insurance market healthy.
“We have been working to try and keep it viable,” Machado said, “and I think it is a step in the right direction. [The $55 increase] is about five bucks a month, but that is looking at a higher standard of coverage. There is a give and take here between consumers and insurers.”

The crux of the negotiations–which until recently flew under the public’s radar–has been the role and financial responsibility of the insurers.

The CEA, financed by insurers and investors, is a pool set up in 1996 to offer earthquake insurance. California law requires insurers that sell homeowners’ insurance to also offer quake coverage. With Northridge, a number of insurers were pushed to the brink of insolvency and beyond as they struggled to cover some $12.5 billion in insured losses stemming from the quake. To protect themselves, insurers representing about two-thirds of California’s homeowners’ insurance market financed the CEA pool to provide earthquake coverage. The device enabled insurers to offer quake coverage while shifting risk to the pool. Just as importantly, it allowed insurers to continue selling homeowners’ coverage.

“Our perspective is that the companies and the CEA are partners, and that we should be working together. We’ve all got a stake in the CEA,” said Sam Sorich, president of the Association of California Insurance Companies.

Some 760,000 California homeowners currently have coverage through the CEA. The basic policies cover principal residential structures only and carry deductibles of 10 percent or 15 percent. The CEA also offers policies that include additional coverage and temporary rental housing. The cost of an average CEA policy is about $624 per year.

Perhaps the most hotly debated pieces in the draft agreement involve the insurer’s financial responsibility and the CEA’s reserves.

The insurers agreed to assume the responsibility to pay an additional $1.2 billion worth of damages in the event of a quake. The $1.2 billion only would kick in after all the other financial layers, known as the “layer cake,” in the CEA’s complex payment schedule are exhausted. The $1.2 billion would constitute a new top layer, above the current layer, also financed by insurers, of $1.5 billion.

To obtain the $1.2 billion in protection, under the draft agreement, the CEA will pay about $35 million a year–not to the insurers, but into the CEA’s own reserves. The idea was to help boost the CEA’s reserves, which have not grown as quickly as projected. Currently, the CEA has about $3 billion in reserves.

“It is a well-balanced proposal that will keep the CEA financially viable to handle claims,” said Rex Frazier, president of the Personal Insurance Federation of California. The group’s members include State Farm, California’s largest property insurer.

The negotiations have been going forward under deadline pressure. The original legislation that created the CEA included contractual provisions that allowed insurers to withdraw their financial support from the CEA by the end of 2008. The insurers’ initial financing was viewed as seed money that could be withdrawn after the CEA was self-sufficient.

But CEA’s critics, who include Lockyer and consumer activists, believe the CEA’s financial status is shaky and that the insurers should be forced to continue to participate financially. For their part, insurers say they do not wish to leave, but rather want to keep CEA viable in order to continue to sell homeowners’ coverage.