Insurance companies rely on several factors to calculate the premiums they charge to protect commercial property owners. Those factors include:
- The value of the building and its contents
- Its location, including proximity to fire stations and vulnerability to natural disasters
- Building construction, including materials and quality
- Type of business(s) and activities conducted in and on the property
- Prevalence of up-to-date protective measures, including fire alarms, sprinklers, and security systems
One of the most significant factors driving price increases today? Natural disasters. Even areas unaffected by a specific disaster, like a hurricane or flood, can feel the pinch of higher premiums.
According to Traveler’s Insurance, catastrophic loss resulting from natural disasters is one of the main factors increasing costs. “The frequency and severity of major catastrophes [resulting from hurricanes, floods, wildfires, tornadoes, and winter storms] continue to stress the industry. In the last four years, these events have caused annual insured losses of more than $100 billion globally. In 2023, total insured losses were an overwhelming $118 billion. Severe convective storms (SCS) represented 58% of the losses globally [and cost the U.S. $60 billion in 2023], and in the U.S., six of the 10 most expensive events were SCS events.”
Many factors at play
While a region might not experience a disaster directly, the interconnected nature of the insurance and reinsurance markets and broader economic and industry-wide factors can drive rates up.
- Reinsurance costs
Insurance companies typically use reinsurance to protect themselves from large payouts in the event of a disaster. Reinsurance rates often rise after a major natural disaster as reinsurers face paying large claims. This cost increase can trickle down to the primary insurers, who may raise premiums across the board, even in areas that weren’t affected, to offset their increased expenses. - Risk modeling adjustments
After a disaster, insurers and reinsurers re-evaluate their risk models. They might determine that the likelihood of future disasters in other areas is higher than previously thought, even if those areas weren’t hit. For example, a major hurricane might prompt the industry to update models for flood risk nationwide, leading to premium increases in areas with potential exposure.
Some industry experts are calling for more innovative approaches to risk management, including “a proactive approach to new and emerging risks…[and] the need for a comprehensive reassessment of how the industry responds to and absorbs large-scale losses.” - Increased demand for materials and labor
As rebuilding efforts begin, natural disasters often create a spike in demand for construction materials and labor. This escalation drives up repair costs everywhere, not just in the disaster zone. Since insurance companies factor repair costs into their pricing, the increased expenses can generate future higher premiums even in regions unaffected by the disaster. - Capital strain on insurers
Insurers can feel a financial strain after paying out large claims from natural disasters. For example, Moody’s RMS risk modeling unit predicts that insurance companies will pay between $35 to $55 billion for claims associated with hurricanes Helene and Milton.
Rebuilding their reserves and maintaining solvency may require insurers to raise premiums across their entire customer base, including those in unaffected areas. This strategy helps them stay solvent and prepared for future claims. Another option is potentially pulling out of high-risk markets like Florida, Louisiana, and California. - Insurance pools and insurance of last resort
Sometimes, insurance programs pool resources across large areas to cover catastrophic losses. When a disaster strikes one part of the pool, all members may be affected by rising premiums to replenish the pool’s resources. Islands in the Caribbean and Pacific have taken advantage of these pools via the Caribbean Catastrophe Risk Insurance Facility (CCRIF SPC) and the Pacific Catastrophe Risk Assessment and Financing Initiative (PCRAFI) Insurance Program.
Currently, 30+ states offer an insurer of last resort (FAIR) plan for property insurance. These plans provide homeowners and corporate insurance for properties in areas more vulnerable to hurricanes, fires, and tornados.
- Broader Economic Impacts
Major disasters can affect national or regional economies by disrupting supply chains, creating inflationary pressures, and leading to changes in financial markets. Insurers, like other businesses, respond to these broader economic conditions, and they may adjust rates in various regions to reflect these changes — or leave certain markets entirely.
Two (expensive) case studies
Hurricane Katrina
It’s been nearly 20 years since Hurricane Katrina decimated Louisiana. One of the costliest hurricanes in U.S. history, its effects reverberated across the entire insurance industry — including areas not hit by the storm.
Katrina resulted in $150 billion in losses, of which the insurance industry paid $62 billion. Global reinsurance costs surged as reinsurers had to pay massive claims. The price for catastrophic reinsurance in the U.S. rose an average of 76% in 2006, directly impacting insurance companies nationwide.
Even states far from the Gulf Coast saw substantial property insurance rate increases after Katrina — in some cases by 30% or more. Some insurance companies opted to drop their clients in Florida or reduce coverage in multiple states along the east coast.
Katrina also led insurers to reassess flood and hurricane risks nationwide, triggering adjustments to risk models — especially in coastal and flood-prone areas. Many regions, including parts of the East Coast and non-costal states with river flood exposure, experienced higher premiums as pricing models integrated the new data.
The overall U.S. property-casualty insurance market saw an average 1.8% increase in premiums in 2006-2007. These increases affected commercial properties as well, driving up the cost of business insurance across the Midwest and Northeast — areas that aren’t hit by hurricanes.
Hurricane Katrina shows how a localized disaster can disrupt national insurance markets, driving rate increases beyond the immediate disaster zone.
The California wildfires
California’s 2017-2020 wildfires, including 2018’s Camp Fire — the deadliest and most destructive wildfire in the state’s history — also affected insurance rates nationwide.
Catastrophic wildfires resulted in tens of billions of dollars in insured losses. The Camp Fire alone caused over $13 billion in damage. After these devastating fires, reinsurance costs increased globally, trickling down to insurance companies far from California. The overall cost of U.S. catastrophe insurance rose 15-20% in 2019-2020, with the increase impacting all states as insurance faced higher reinsurance premiums — and passed them on to policyholders.
Homeowners and commercial property rates also increased — even in those areas not prone to wildfires. Between 2019 and 2020, commercial property and casualty insurance premiums increased 7.4%. Since 2019, home insurance rates have increased by over 37% cumulatively.
No easy solution
The costs haven’t been fully calculated yet, but some estimates suggest that Hurricane Helene will have caused as much as $75 billion in damage, and Hurricane Milton has caused an estimated $50 billion more.
Considering the estimated 11% increase in commercial property insurance premiums last year (and up to 50% increases in more weather-vulnerable areas like California and the Gulf Coast), how can landlords, developers, and investors manage these cost hikes? One proposed solution is for lenders to allow CRE owners to purchase insurance with higher deductibles to reduce coverage costs. Another idea? Lenders approving policies covering the value of the bank loan “instead of the cost of replacing the building if it is destroyed,” said Kevin Kaseff.
Other analysts believe “the insurance problem is more of a headache than a potential catastrophe, and data on loan delinquencies shows stress but no cause for major alarm. By being extremely cautious about their lending and shedding as many older CRE loans from their books as they can, banks may have staved off a[n insurance] crisis.”
Some CRE investors are “devising new approaches to managing risk by stitching together coverage from multiple insurance carriers and employing alternative risk-financing solutions such as captives and self-insurance,” according to a new report, Insurance on the Rise: Climate Risk and Real Estate Investment Decisions, published by the Urban Land Institute and Heigman. For other strategies to try, check out this summary of the report.
Are you a commercial real estate investor — or looking for a specific property to meet your company’s needs? We invite you to talk to the professionals at CREA United: an organization of CRE professionals from 92 firms representing all disciplines within the CRE industry, from brokers to subcontractors, financial services to security systems, interior designers to architects, movers to IT, and more.
