California homeowners face an insurance crisis. What will it mean for home prices in the state?

By Aarthi Swaminathan

The cost of owning a house in California is about to go up

Californians are facing yet another setback on the housing front after a major insurer said it is pulling out of 72,000 home-insurance policies - and the insurance industry's steady retreat from the state could have a serious effect on home prices and sales, experts say.

Insurance giant State Farm, which stopped accepting applications for homeowners insurance in California last May due to increased wildfire risk, went a step further this week and said it would not renew 72,000 existing insurance policies in the state, citing rising costs.

Starting July 2, State Farm will no longer cover 30,000 homes and 42,000 apartments in California that currently have policies with the company, representing about 2% of its policies in the state.

"This decision was not made lightly and only after careful analysis of State Farm General's financial health, which continues to be impacted by inflation, catastrophe exposure, reinsurance costs, and the limitations of working within decades-old insurance regulations," the company said.

State Farm isn't the only insurer leaving the Golden State over heightened wildfire risk. Allstate (ALL), Farmers Insurance, the Hartford (HIG) and USAA previously announced they would pause issuing new policies to California homeowners.

Extreme heat and drought, which are symptoms of climate change, have worsened fires that cause damage to wildlife as well as property. The state is also grappling with its forest-management strategies.

Consequences for the real-estate market

The insurance industry's pullback from California will have consequences for the real-estate market, Selma Hepp, the chief economist at CoreLogic, told MarketWatch. If a home buyer is unable to get homeowners insurance, it could affect their ability to purchase a home, because mortgage lenders usually require such insurance, Hepp said.

"As a result, we could see - and already do - slowing of demand for homes in those areas, and falling home prices," she added.

In a 2023 study of San Diego County property values, CoreLogic found that with every 10-point increase in wildfire risk - which takes into account variables like a house's proximity to vegetation and the slope of the land - home prices fell by 1.3%.

In other words, for a home in San Diego priced at $910,000 - the median sales price for the area - an increase in its wildfire-risk score from 40 to 60 would mean a price drop to $886,000. However, "mortgage lenders and originators often overlook this negative impact of climate change on property values," the authors of the study noted.

Existing homeowners aren't spared, either, Hepp added: Nonrenewals of insurance policies potentially mean that the "new insurance cost may be prohibitively expensive and lead them to have to sell a home."

Affected home buyers and homeowners should use this as an opportunity to shop around for alternative providers, Jeff Taylor, managing partner at mortgage-industry consulting firm Mphasis Digital Risk, told MarketWatch.

"It's a very competitive marketplace, and where one insurance company might see regional risk or overexposure, another insurance company might see opportunity," he said.

With the increased risk of wildfire, Hepp expects more homeowners in fire-prone areas to sell their homes due to rising costs and the threat of natural disaster. That "would put an additional downward pressure on home prices," she added.

Cost of homeowners insurance is rising

The situation unfolding in California also highlights how insurance has become a major headache for homeowners across the country.

The cost of premiums has risen across the U.S.: For a single-family home with a 30-year mortgage, the average annual insurance premium in 2023 was $1,522, according to a recent report by Freddie Mac, up 11% from 2022.

The highest premiums were borne by homeowners in Louisiana, Oklahoma and Kansas, according to Freddie Mac. Homeowners in those states paid over 2.5% of their monthly income toward homeowners-insurance premiums.

California isn't at the top of the list because "insurance companies offering homeowners insurance are subject to strict regulation, which limits the rates they can charge," Freddie Mac noted. California homeowners spent 1% of their monthly income on homeowners-insurance premiums.

Regulation - particularly Prop 103, which limits how much insurers can increase premiums - may partly explain the relatively lower homeowners-insurance rate in California, compared with "similarly disaster-prone states" like Louisiana and Mississippi, the government-sponsored mortgage company added.

Some homeowners may decide to forgo home insurance due to rising premiums. But doing so puts them at risk not only of losing their home in the event of a disaster, but of potentially losing their equity in the house if they tap into it to finance repairs, Hepp said.

Some people are considering moving due to sharp increases in home-insurance costs. In a December survey by Mphasis Digital Risk of 1,634 respondents across the U.S., 27% said they were considering moving to a different state to escape hikes in home-insurance premiums.

How have insurance costs and home prices affected your life and how you think about the U.S. economy? Let us know at readerstories@marketwatch.com. One of our reporters might reach out to you to learn more.

-Aarthi Swaminathan

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03-26-24 1124ET

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