California's State-Run Insurer Of Last Resort Could Be Facing $10B Bill For Covering Pacific Palisades And Altadena Fire Claims

The fires that devastated Pacific Palisades and Altadena, California have been a nightmare for thousands of citizens who have lost loved ones and their homes. Although the human cost of tragedies of this magnitude can never be calculated, the financial fallout will extend far beyond the fire's immediate victims. That's because California's state-run insurance company could be facing up to $10 billion in liability from fire-related claims.

California FAIR Plan was conceived as an insurer of last resort for homebuyers in rural areas with elevated levels of fire danger. However, the last several years have witnessed many of  California's largest insurance companies stop writing home insurance policies or exit the state entirely. The exodus has left California FAIR as the only option available to many California residents.

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According to Fortune Magazine, California FAIR's exposure to losses has increased by 300% and it now insures $458 billion worth of property in the state. According to the FAIR Plan, it has received 3,600 claims since wildfires swept through Pacific Palisades and Altadena last month. The company estimates that its policies cover 22% of the buildings in Pacific Palisades and 12% of the buildings in Altadena. The combined cost of claim coverage could be $4.775 billion.

The good news is that the cost of claims is not expected to bankrupt the insurer. In a statement regarding the claims, FAIR said, “The FAIR Plan, a not-for-profit catastrophe insurer, has the payment mechanisms in place to ensure all covered claims will be paid. The FAIR Plan operates on a cash-in, cash-out basis, meaning its financial situation evolves daily.”

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However, this is where the situation gets complicated. According to the Los Angeles Times, California FAIR has roughly $400 million in cash reserves, which means it will likely have to rely on reinsurance to help cover claim costs. Reinsurance is insurance that insurance companies buy to hedge against the cost of massive claims and FAIR says they can access this resource once they've paid out $900 million in claims.

The $900 million is for all intents and purposes a deductible, and once that threshold is crossed, FAIR's reinsurance will cover up to $350 million in cash. From there FAIR has various reinsurance arrangements with the insurance carriers that still operate in California. The combined cost of these various reinsurance arrangements could reach $5.78 billion, and California policyholders could be on the hook for a lot of that bill.

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California law allows FAIR to pass on its unpaid claims' costs to the state's remaining licensed insurers via an assessment from the state insurance commissioner. It also allows insurers facing FAIR Plan assessments to pass that cost on to their policyholders. Although FAIR has not petitioned the insurance commissioner to make an assessment request, there is a strong possibility that it will.

Advocacy group Consumer Watchdog estimated that California policyholders could be hit with surcharges ranging between $1,000 and more than $3,700 if a worst-case scenario major fire occurred. The Pacific Palisades and Eaton Fires would certainly qualify as a worst-case scenario. Although the long-term outlook is unclear, California's real estate and insurance industries are certainly facing long, difficult, and expensive recoveries. 

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