Jane Dotson
California has the highest risk of earthquakes in the US, with only 13% of homes covered by earthquake insurance. In the event of a major earthquake, structures may be damaged beyond repair, leaving owners unable to repay mortgage loans. This poses a significant risk to taxpayers as loans from government-sponsored enterprises (GSEs) like Freddie Mac and Fannie Mae are backed by the federal government. While GSEs do not currently mandate earthquake insurance for mortgages, California laws have proposed implementing policies requiring Freddie Mac and Fannie Mae to include earthquake insurance as a condition of purchasing a mortgage for single-family residential structures. This mandate, however, does not extend to condominium units or townhomes.
| Characteristics | Values |
|---|---|
| Did Freddie Mac withdraw the earthquake insurance mandate in California? | No, they did not. Instead, they implemented policies to require earthquake insurance for single-family residential structures as a condition of purchasing a mortgage. |
| Risk of earthquakes | California and Oklahoma have the highest risk of earthquakes and associated property damage. |
| Insurance coverage | Only 13% of California homes are covered by earthquake insurance. |
| Uninsured earthquake risk | Fannie Mae and Freddie Mac have $205 billion of uninsured earthquake risk on their books. |
| Taxpayer exposure | Taxpayers may be on the hook for bailing out government-sponsored enterprises (GSEs) in the event of earthquake damage losses. |
| Options for GSEs | GSEs can require mortgage originators to include a premium for earthquake insurance in appropriate regions or use insurers or reinsurers to backstop the losses. |
| Standard property insurance | Earthquake damage is generally excluded from standard commercial property insurance policies. |
| Importance of earthquake insurance | Earthquake insurance covers the cost of repairs or rebuilding after an earthquake and may also cover the contents of the building. |
| Factors influencing cost of earthquake insurance | Location, building characteristics, and local soil conditions are factors that influence the cost of earthquake insurance. |
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What You'll Learn
- California has the highest earthquake risk in the US
- Freddie Mac and Fannie Mae have $205 billion of uninsured earthquake risk
- Only 13% of California homes have earthquake insurance
- Earthquake coverage is not required to secure mortgage collateral
- Earthquake insurance covers building repairs and content replacement
California has the highest earthquake risk in the US
California is one of the most earthquake-prone states in the US. Southern California has the highest level of earthquake risk in the country, with half of the expected financial losses from earthquakes in the US expected to occur in this region. The area has a complex set of faults, with over 300 faults capable of producing magnitude 6 and larger earthquakes. The San Andreas Fault, California's longest fault, can cause powerful earthquakes as big as magnitude 8. The Northridge quake in 1994, for example, caused $13 to $44 billion in damages.
The high level of earthquake activity in Southern California's complex tectonic regime provides a unique opportunity for studying the physics of earthquakes. Scientists have developed a new earthquake forecast model for California, a region under constant threat from potentially damaging events. This model, referred to as the third Uniform California Earthquake Rupture Forecast (UCERF3), estimates a 99% chance of at least one earthquake of magnitude 6.7 or greater striking anywhere in California in the next 30 years. The probability of an earthquake in California is higher than in most states, although it does vary from region to region.
The San Francisco region in Northern California also has a high risk of earthquakes, with a nearly 3 out of 4 chance of one or more magnitude 6.7 or greater earthquakes occurring in the near future. The three Bay Area faults most likely to cause a damaging earthquake are the Hayward fault, the Calaveras fault, and the San Andreas fault. San Jose, in particular, has a high risk of earthquake damage due to the presence of several major faults intersecting the city and nearby communities.
Given the high risk of earthquakes in California, it is concerning that only 13% of California homes are covered by earthquake insurance. This lack of insurance coverage leaves both homeowners and government-sponsored enterprises (GSEs) vulnerable to significant financial losses in the event of a major earthquake. GSEs, such as Fannie Mae and Freddie Mac, have been urged to address this issue and consider options for transferring the risk to the private market or requiring earthquake insurance for mortgage borrowers in high-risk regions.
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Freddie Mac and Fannie Mae have $205 billion of uninsured earthquake risk
In 2016, Fannie Mae and Freddie Mac had $205 billion of uninsured earthquake risk on their books, according to an R Street Institute policy paper. The risk is due to the fact that earthquake coverage is not required to secure the collateral of mortgages owned or guaranteed by government-sponsored enterprises (GSEs). In the event of a major earthquake, GSEs could face significant losses, leaving taxpayers to bear the burden of securing loans.
The R Street paper argues that Fannie Mae and Freddie Mac should transfer this risk to the private market and provide incentives for property owners to insure their homes and invest in risk mitigation. The paper highlights the potential for losses to top $300 billion in the event of another Northridge-size quake, which is considered a near certainty over the next 30 years.
The high concentration of earthquake risk and property damage is in California and Oklahoma. However, only 13% of California homes are covered by earthquake insurance. The GSEs have options to mitigate their earthquake risk, such as requiring mortgage originators to include a premium for earthquake insurance in appropriate regions or using insurers or reinsurers to backstop losses.
Fannie Mae and Freddie Mac are government-sponsored enterprises that provide mortgages to borrowers. In the past, lawmakers have questioned the exposure of earthquake damage losses facing these enterprises. Loans from the GSEs are backed by the federal government, and it is prudent for them to protect themselves from asset loss.
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Only 13% of California homes have earthquake insurance
California is one of the top three markets in the country for earthquakes, alongside Washington and Missouri. Despite this, only 13% of California homes have earthquake insurance. This is a concern because, in the event of a serious earthquake, structures may be damaged beyond repair, or beyond the owner's financial ability to repay the mortgage loan on the devastated structures.
There are several reasons why so few Californians have earthquake insurance. Firstly, people don't think it will happen to them, and they believe it is too expensive. The last major earthquake in California was 25 years ago, so it is easy for people to forget the danger and go on with their busy lives. Another reason is that earthquake insurance is specifically excluded from homeowner's policies in California and everywhere else in the US. Some people also believe that the government will step in after a disaster and rebuild homes, but the reality is that government assistance is limited. For example, a FEMA grant is limited to emergency repairs, with a maximum of $33,000, which is not enough to rebuild a home.
The low uptake of earthquake insurance in California has financial implications for government-sponsored enterprises (GSEs) such as Fannie Mae and Freddie Mac. In 2016, R Street estimated that the GSEs had $205 billion of uninsured earthquake-exposed collateral on their books. This represents a significant risk to taxpayers, as loans from the GSEs are backed by the federal government. There have been proposals to address this risk, such as requiring mortgage originators to include a premium for earthquake insurance in appropriate regions. However, as of 2023, Fannie Mae and Freddie Mac have not implemented policies to require earthquake insurance for single-family residential structures as a condition of purchasing a mortgage.
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Earthquake coverage is not required to secure mortgage collateral
In the United States, earthquake coverage is not required to secure mortgage collateral. This means that unlike other common perils such as floods, fires, and windstorms, the majority of earthquake risk in the country is uninsured. Specifically, government-sponsored enterprises (GSEs) like Fannie Mae and Freddie Mac do not currently oblige mortgage borrowers to insure their mortgages against earthquake damage.
This issue is particularly pertinent given that the GSEs are owed $355.71 billion of unpaid principal for mortgages in the 249 most earthquake-prone US counties. R Street estimates that the GSEs have $205 billion of uninsured earthquake-exposed collateral, which could result in taxpayers being left with nothing but rubble to secure those loans in the event of a major earthquake.
Despite California having the highest risk of earthquakes, only 13% of homes in the state are covered by earthquake insurance. This low uptake of earthquake insurance could be attributed to the fact that insurers do not always offer earthquake coverage, and when they were previously required to, some dropped out of the homeowner casualty insurance market.
The lack of earthquake insurance coverage among California residents is concerning, given the potential for significant seismic events and their destructive consequences. Earthquakes can cause building collapse, severe structural damage, and destruction of equipment and inventory. Even if a property survives an earthquake, there may still be significant business disruption and increased vulnerability to other perils such as fire or theft.
To address this issue, GSEs could require mortgage originators to include a premium for earthquake insurance in appropriate regions or provide exemptions from fees for homeowners with seismic mitigation measures or existing earthquake insurance. Additionally, GSEs could use insurers or reinsurers to backstop losses and include monthly payments in mortgages. By implementing these strategies, GSEs can mitigate their earthquake risk and reduce the potential burden on taxpayers in the event of a major earthquake.
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Earthquake insurance covers building repairs and content replacement
Earthquake insurance is designed to help put a roof back over your head and cover some of the losses and damage caused by earthquakes. It covers damage to your home and belongings, as well as other buildings on your property, such as unattached garages, sheds, and driveways. It can also pay for temporary accommodation and associated costs while your home is repaired or rebuilt. However, it is important to note that earthquake insurance has limits and usually will not replace everything lost. For example, it typically does not cover landscaping, pools, fences, masonry, or separate buildings.
In California, only 13% of homes are covered by earthquake insurance, despite the state having one of the highest risks of earthquakes and associated property damage. This lack of insurance coverage has resulted in a significant financial risk for government-sponsored enterprises (GSEs) like Fannie Mae and Freddie Mac, which are owed billions of dollars in unpaid principal for mortgages in earthquake-prone counties.
To address this issue, there have been proposals for Fannie Mae and Freddie Mac to implement policies requiring earthquake insurance for single-family residential structures as a condition of purchasing a mortgage. These proposals aim to reduce the financial risk to GSEs and taxpayers by ensuring that properties are insured against earthquake damage. However, it is unclear if and when these policies will be mandated.
While earthquake insurance is not mandatory for homeowners in California, it is essential to consider the potential benefits of having this coverage. Earthquake insurance can provide financial protection and peace of mind, ensuring that you have the resources to repair or rebuild your home and replace damaged belongings if an earthquake occurs.
It is recommended to review your insurance policy carefully and understand its exclusions and limitations. Some policies may have separate deductibles for the building, its contents, and any unattached structures. Additionally, some earthquake insurers may need to inspect your property before providing coverage, and it is important to be aware of any specific coverage requirements they may have.
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Frequently asked questions
Freddie Mac and Fannie Mae have been criticized for having \$205 billion of uninsured earthquake risk on their books. However, as of 2023, they are required to implement policies to require earthquake insurance for any single-family residential structure as a condition of purchasing a mortgage.
Earthquakes are among the most devastating and economically destructive natural disasters. If your property is damaged or destroyed by an earthquake, you will be responsible for all the costs out of pocket unless you have specific earthquake coverage.
Earthquake insurance covers the building itself, as well as the contents of the building, including furniture, equipment, and inventory. It can also cover the cost of rebuilding to meet updated building codes.
