We're with Lloyds

All sides agree that the current system of setting homeowners insurance rates in Texas needs improvement, although fewer agree on the remedy. Numerous bills now pending at the Legislature would address various aspects of the homeowners insurance system, and most claim the eventual effect will be to bring rates down -- how much, remains uncertain. Here's a look at how we got the system we have, and (in brief) what's being proposed to fix it.

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Benchmarks and the Lloyds Exception

The current homeowners insurance rate-regulation system, installed in 1991, is called a "benchmark" system. Each year, the Texas Dept. of Insurance sets a benchmark rate, within a "flexibility band" that allows insurers to charge premiums 30% higher or lower than the benchmark (a wider deviation requires prior TDI approval).

But from the beginning, certain policies were exempt from the benchmark system -- those issued by industry affiliates known as "Lloyds" companies, in theory to enable particularly higher-risk customers to get insurance at higher prices. The actual effect was quite different: In 1993, one year after the system went into effect, 62.9% of Texas homeowners insurance policies were being issued or renewed by insurers into rate-unregulated Lloyds companies. By 2002, 95% of homeowners were covered by Lloyds policies. Texas insurers had effectively evaded any rate oversight.

Insurers blame the benchmark system for forcing them to write Lloyds policies, calling the system insufficiently market-responsive. Commissioner José Montemayor agrees, saying, "It's like moving a Sherman tank through a motorcycle race."

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Changing Coverage

Industry representatives concede that their rates are almost completely unregulated, but argue that's a consequence of too strict regulation of the policy forms they're allowed to use. "Since the 1930s the insurance companies [have] sold policy forms controlled by the state of Texas," says Beaman Floyd of the industry lobby group Texas Association for Affordable Insurance Solutions. "They were all the same one or two. The HO-B was a very comprehensive policy that covered a lot of different risks. The way it handled water [damage] was interpreted to mean that [it] was covered even if it was [due] to a pipe that had been dripping for years."

So in 2001 -- over loud protests from consumers -- the TDI axed comprehensive water damage coverage from the HO-B, replacing it with "sudden and accidental" damage only. That effectively eliminated any coverage for slow-growing mold -- yet homeowners' rates in Texas have yet to decline accordingly. Ballard says her POA members now report paying still higher premiums, and for 60% to 80% less coverage. And despite the changes to the HO-B, many insurers moved to the HO-A form which consumer advocate Dan Lambe says is "worth as much as the paper it's written on." The insurers are now lobbying hard to eliminate both state forms altogether, in favor of "national forms," which allow insurers to offer (or not) any kind of coverage they want. Such a move would make comparison-shopping by consumers virtually impossible.

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"File and Use" vs. "Prior Approval"

In addressing premium rates, the pending homeowner insurance bills fall into two distinct approaches, exemplified by Sen. Mike Jackson's SB 14 and Rep. Steve Wolens' HB 600.

SB 14 would create a "file and use" system: Insurers would file new rates with the state and immediately apply those rates, allowing the TDI a limited period to review the rates for fairness. HB 600 would implement a "prior approval" system: Insurers could not impose new rates without first receiving approval from TDI. (Meanwhile, rates would be rolled back to those used in January 2001.)

The industry lobby and the state agency charged with regulating the industry say the solution to rising rates is the file-and-use system; consumer advocates find it absurd that after years of explosive rates under the benchmark system, insurance companies should be offered more freedom. "It's the insurance companies that got us into this mess," says Lambe. "It's laughable that we would listen to them for solutions."

Ballard says file-and-use "gives the insurance companies a lot more flexibility than I would entrust them with. ... Sometimes you've got to parent the bad child. If a child steals from your wallet and lies about where they're going, do you give them no curfew and a large allowance? File-and-use doesn't parent the bad kid; they need supervision until they've proven themselves worthy."

Would-be insurance disciplinarian Montemayor, mysteriously, says the apparent differences between file and use and prior-approval are just "semantics ... ultimately there isn't a whole lot of difference."

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The California Solution

Harvey Rosenfield, of the California-based Foundation for Taxpayer and Consumer Rights, finds the commissioner's attitude preposterous. "That is a shockingly ignorant statement for an insurance commissioner," he says. "That indicates that you have a public official that hasn't done his research."

Rosenfield should know. In 1988, he wrote California's Proposition 103, which created a strict prior approval system. Following its passage, insurance rates went down and have stayed down -- between 1989 and 1998, he says, California was the only state that saw consistently lower rates. Prop. 103 mandated a rate rollback, banned monetary contributions by insurance companies to political candidates, made the post of insurance commissioner an elected position, and limited excessive "management" fees to parent companies. (For the three-month period from June to September 2002, nationwide Farmers Insurance companies paid their Los Angeles-based parent company over $459 million in "management fees.")

In California, says Rosenfield, insurers submit proposed "rates for prior approval, and these are open to public inspection, and they can challenge them in public hearings. And any [commission] decision is appealable to court." Yet California's insurance industry is thriving. "They got leaner and meaner and rates got reasonable," he says. "The problem is that the insurance industry doesn't want anybody to know about the success of Prop. 103. They hate regulation in the same way that crooks hate cops."

Bob Hunter, a former insurance industry actuary and TDI commissioner turned consumer advocate, agrees that "definitely California is the model." Hunter -- partly at the request of the industry -- helped write the 1991 legislation that created Texas' now-failed benchmark system. "The understanding at the time was that we were doing an experiment," he says. "The insurance companies said, 'If you give us the flex band, we'll do it.'" In the end the system -- mainly through the Lloyds loophole -- effectively collapsed. "The insurance companies told us that we should trust them," Hunter says. "We've proved in Texas that deregulation fails."