Recalibrating the Destabilized U.S. Property Insurance Industry
Navigating Climate Risks, Financial Forensics, and Innovative Solutions
Forensic accounting plays a crucial role in modernizing climate risk insurance models. As climate change intensifies extreme weather events, insurers are struggling to accurately price risk, detect fraudulent claims, and maintain financial stability. This article explores how fraud, forensic accounting, and innovative risk management practices intersect with these challenges, while examining alternatives to traditional property insurance and the global implications of climate change.
The effects of global warming and climate change are increasingly evident, with extreme weather events, rapid-onset, and slow-onset, wreaking havoc across the globe. In the United States, localized catastrophes like hurricanes, wildfires, and flooding have led to unprecedented insured losses, reshaping the landscape of property and casualty (P&C) insurance. This article explores how fraud, forensic accounting, and innovative risk management practices intersect with these challenges, while examining alternatives to traditional property insurance and the global implications of climate change.
Market Conditions
In 2024, the National Association of Insurance Companies (NAIC) reported strained reinsurance capacity and higher costs for personal premium lines while experiencing solid performance in commercial lines. According to the National Oceanic and Atmospheric Administration (NOAA), events including hurricanes, tornado outbreaks, and widespread wildfires accounted for unprecedented, record-breaking losses. Such losses are amplified by population growth in vulnerable areas prone to cascading weather events.
As P&C insurers retreated from the market in anticipation of continued challenges, connective storms from the 2024 hurricane season were anticipated to account for the majority of the challenges. Investment of premiums returns in a higher interest rate environment positioned industry growth. The companies most exposed to negative impact on their ratings and weakened capital are those in which the recently reported wildfire losses exceed earnings and reinsurance limits.
The Growing Impact of Climate Change on the Insurance Industry
Over the past decade, U.S. insurers have paid out more in claims than they received in premiums. 2024 was the warmest year on record and the third most expensive year for weather disasters, with $320 billion in global losses. This has forced insurers to increase premiums, reduce coverage limits, cap payouts, and increase deductibles. In spite of U.S. home insurance premiums rising 34% between 2017 and 2023, insurers lost money on homeowners’ coverage in 18 states in 2023. As the insurance landscape becomes increasingly dire, about 7.4% of U.S. homeowners have given up on insurance, leaving an estimated $1.6 trillion in property value at risk.
The Los Angeles Wildfires: A Turning Point in the Insurance Crisis
The Pacific Palisades and Eaton fires destroyed over12,000 structures. The average home price in these areas was close to $3.5 million, which is close to five times the California average home price and 10 times the national average. The average home price in the Altadena area was just under $1.3 million. As a result, the economic losses from these fires have amounted to between $135 billion and $150 billion, making this the costliest natural disaster in California’s history. Many of the largest property insurers, who made up 80% of the California market, withdrew from offering wildfire coverage or stopped selling new policies prior to the fires, leaving only about 25%, or $30 billion in value, insured.
These affected communities must now decide how or whether to rebuild. Insurers are dealing with increased claims, supply chain disruptions for rebuilding, and lawsuits. The trend of underinsuring properties has left many homeowners unable to fully recover from losses. Declining property values is a hurdle for areas where it has been deemed too dangerous to insure.
California’s insurance commissioner temporarily issued a one-year moratorium on policy non-renewals and cancellations in areas affected by wildfires. According to Lilit Asadourian, a partner at the L.A. law firm Barnes and Thornberg, noted as an added protection, public adjusters who offer to work on behalf of policyholders and negotiate with insurers, should be fully vetted prior to engaging in their help. The fees of these adjusters often take a large chunk of the recovery, anywhere from 10% to 25% and are not always discussed with the policyholders upfront.
Lessons from the L.A. Fires: Mitigating Risk and Rebuilding
Local and state officials have issued executive orders to begin the rebuilding process in Los Angeles, and FEMA is now requiring disaster claimants to rebuild on safer ground or to higher resilience standards. This incorporates the concept of creating lower risk climate havens where insurance protection is more viable.
There are California mandates for insurance discounts for policyowners who install fire-resistant roofs or take other mitigation measures. These measures require an evolution of building codes to include weather resilient construction. An estimated investment of $3.5 billion in U.S. homes upgrades to storm-resistant standards may save insurers up to $37 billion by 2030. These enhancements include fire-resistant siding and roofing, improved fire suppression systems, advanced detection technology, and stricter landscaping regulations.
The current water system in Los Angeles was designed to fight localized house fires, not citywide conflagrations. As of recent, there are questions regarding a water system redesign, funding sources for such a redesign, and long-term fire suppression infrastructure. In spite of 90% of U.S. catastrophes involving flooding, the Insurance Information Institute reports only 4% of U.S. homeowners have flood insurance. These disparities highlight the need for better education and incentives to increase insurance coverage in high-risk areas. Additionally, addressing wealth and resource disparities will be critical in shaping equitable insurance and housing policies moving forward.
The Role of Financial Forensics in Forward-Looking Climate Risk Insurance Models
Forensic accounting plays a crucial role in modernizing climate risk insurance models. As climate change intensifies extreme weather events, insurers are struggling to accurately price risk, detect fraudulent claims, and maintain financial stability. Traditional actuarial models, catastrophe models, and underwriting practices prove to be inadequate in assessing and mitigating risks on a forward-looking basis. Financial forensics provides a data-driven approach to verifying claims, reducing fraud, and refining risk assessments at a more granular spatial scale. Additionally, it helps insurers, businesses, and policymakers integrate financial loss projections with climate science to enhance resilience in both residential and commercial sectors.
The rise in climate-related claims may lead to inflated damages, or claimants may file multiple claims for the same loss. This shift has paved the way for a deeper focus on environmental crime scenes. Financial forensics play a crucial role in assisting in business interruption claims, uncovering fraud and employing advanced data analytics and financial forensics to investigate suspicious claims. According to the Coalition Against Insurance Fraud, fraud costs insurers $80 billion annually in the U.S. alone, with a significant portion attributed to exaggerated or fabricated weather-related claims.
Forensic Accounting’s Integration into Climate Risk Insurance Models
- Enhancing Actuarial Models for Climate Risk Assessment
Actuarial models are essential in insurance risk evaluation, relying on statistical techniques to determine premium pricing, reserve requirements, and policy terms. However, climate change introduces uncertainties that traditional actuarial methods fail to capture. Forensic accountants may help bridge this gap by conducting in-depth financial analysis of historical claims data to detect irregularities in risk projections, incorporating non-traditional variables, such as regional climate trends, policyholder behavior, and regulatory changes, into risk evaluations, and refining the assumptions used in actuarial models to improve pricing strategies, ensuring policies remain both profitable and affordable. Forensic accountants also help insurers structure more resilient financial portfolios by analyzing exposure to climate-driven losses across various geographical regions and industries.
- Strengthening Catastrophe Models with Financial Analytics
Catastrophe models (CAT models) simulate potential losses from extreme weather events using hazard data, exposure, and vulnerability functions. Forensic accounting refines these models by validating financial data to ensure accuracy in catastrophe loss projections, adjusting loss distributions to reflect inflationary trends in reconstruction costs (materials, labor, regulatory fees), and conducting post-disaster audits to differentiate legitimate claims from exaggerated or fraudulent submissions. With a more refined spatial scale, forensic accounting improves catastrophe modeling precision, allowing insurers to assess risks at the neighborhood level rather than broad regional estimates.
- Climate Change Risk Modeling and Financial Fraud Detection
As climate change alters historical risk patterns, forensic accountants help insurers adapt their financial models by auditing climate risk projections to identify potential over or underestimations in loss calculations. This includes investigating discrepancies in claims data; particularly for emerging risks such as extreme heat damage, groundwater depletion, and supply chain disruptions, and detecting fraudulent claims related to climate-driven disasters, such as staged property damage, inflated repair costs, and coordinated fraud schemes. Financial forensics ensures that climate risk insurance remains financially viable while minimizing payouts for illegitimate claims.
Broadening the Scope: Commercial Sector and Business Interruption Insurance
The role of financial forensics extends beyond residential property insurance to the commercial sector, where businesses face increasing risks from extreme weather events. Key applications include:
- Business Interruption and Supply Chain Risk Assessment
Forensic accountants analyze financial records to determine the extent of losses from climate-induced disruptions, such as factory shutdowns, logistics delays, or power grid failures. They also assist in calculating appropriate business interruption coverage by modeling revenue loss scenarios based on climate-related disruptions. Through detailed audits, forensic accountants help businesses prove legitimate losses and avoid underinsurance gaps.
- Commercial Property Insurance and Liability Risks
Commercial properties often have higher insurance exposure due to their size, location, and structural complexities. Forensic accountants work with insurers to analyze loss claims, ensuring that payouts align with the true monetary impact of climate-related damage. They help businesses implement proactive financial risk mitigation strategies, such as investing in resilient infrastructure or adopting parametric insurance policies.
Expanding Geographical and Hazard Coverage in Risk Modeling
To better anticipate and mitigate climate risks, financial forensics in insurance modeling is evolving to use granular, localized data rather than broad regional estimates to assess risks at a city, neighborhood, or even individual property level. It assists in expanding hazard coverage beyond traditional perils (hurricanes, wildfires) to include emerging climate threats like extreme heat, sea-level rise, and changing precipitation patterns. Forensic accountants may also develop financial risk models that integrate global climate trends, ensuring that both insurers and policymakers account for cross-border risks such as supply chain vulnerabilities and climate migration patterns.
Challenges with Traditional Insurance Models
Historic patterns used in traditional insurance models often fail to capture the evolving realities of climate change. Geographical areas previously deemed lower risk for hurricanes or wildfires are now experiencing increased frequency and severity of such events. Data from Munich Re shows that climate change has increased the frequency of 100-year floods in some areas to every 25 years, significantly altering risk assessments.
Atmospheric Feedback Loops and Risk Modeling: Atmospheric and physical feedback loops, such as rising temperatures fueling more intense wildfires and storms, challenge traditional risk models. For example, data from the Intergovernmental Panel on Climate Change (IPCC), shows that each 1°C increase in global temperatures correlates with a 7% increase in the moisture-holding capacity of the atmosphere, leading to heavier rainfall and flash floods. Insurers increasingly rely on stress tests to evaluate the impact of these feedback loops, yet even advanced models struggle to predict cascading secondary effects accurately. For example, a hurricane may lead to flooding, which in turn sparks a wildfire due to damaged electrical infrastructure.
Liabilities on Insurer Balance Sheets: The two largest liability components on a property and casualty insurer’s balance sheet are the loss reserve and unearned premium reserves. Loss reserves represent the estimated cost of claims that have been reported but not yet settled, as well as those that have occurred but have not yet been reported. Unearned premium reserves, on the other hand, account for premiums collected for future coverage periods. These liabilities are difficult to measure due to the inherent uncertainty of future claims, particularly in the context of climate change where historic patterns may no longer apply.
Incorporating Uncertainty Factors: To address these challenges, some insurers propose adding uncertainty factors to premiums, accounting for unknown variables associated with climate change. This approach, while innovative, has sparked debate over its fairness and transparency. For example, a study by Milliman found that incorporating uncertainty factors could increase premiums in high-risk areas by 15–25%.
Shorter-Term Policies: Another proposed solution is the introduction of one-year home insurance policies. This allows insurers to adjust premiums annually based on evolving risks but provides little stability for homeowners, especially in high-risk areas. This has led to increased dissatisfaction among policyholders, as highlighted in a 2023 survey by J.D. Power and is noted as driving new policy shopping in the 2024 J.D. Power U.S. home insurance study.
Exploring Alternatives to Traditional Property Insurance
As climate risks intensify, alternative insurance models are emerging to address the shortcomings of traditional property insurance.
Parametric Insurance: In contrast to traditional insurance, this model pays out a predetermined amount based on specific triggers, such as wind speed or rainfall levels, and is linked to a specific event, rather than actual losses. The scope of coverage is expanded, covering gaps traditional policies may fail to address, thus leaving the insured unprotected. While the utilization of pre-defined triggers and measurable indexes promote transparency, faster payouts, and reduced administrative costs, when faced with challenging underwriting conditions it may also leave policyholders undercompensated if the trigger thresholds are not met.
Community-Based Insurance: Pooling resources at the community level can help distribute risks more equitably. For instance, microinsurance programs in developing countries have successfully mitigated climate-related risks for smallholder farmers. Adapting similar models in the U.S. could address gaps in coverage for underserved communities.
Technology-Driven Solutions: Blockchain and AI are being explored to streamline claims processing and enhance transparency. These technologies could also help insurers better assess price risks, particularly in high-risk areas. The approach of using advanced climate modeling, big data, Gen AI, blockchain, IoT, and robotic process automation (RPA) may assist in detecting fraud and enhancing accuracy. Some advantages of utilizing big data include streamlining underwriting and claims to reduce losses and risks, simulating risks with augmented reality and digital twins, and automating underwriting with machine learning. These proposed technology-driven solutions look to transform the industry with efficiency, better customer experience, and innovation despite geopolitical tensions and climate-related catastrophes. Drones have also emerged as a valuable tool for insurers to survey properties and assess damage. For instance, following Hurricane Ian in 2022, insurers used drones to inspect over 50,000 properties in Florida. However, fraudsters have begun exploiting drone-captured data by manipulating imagery or staging damages. This underscores the need for robust fraud examination protocols, including AI-powered tools to verify the authenticity of claims.
Conclusion
The insurance industry faces an uphill battle in adapting to the realities of climate change. From combating fraud to enhancing risk models and exploring alternative insurance solutions, insurers must embrace innovation and collaboration to navigate this new era. The liabilities on insurers’ balance sheets, the impact of underinsurance, and the challenges of accurately pricing climate risks underscore the need for a comprehensive, forward-looking approach. As climate change continues to reshape natural disaster risks, forensic accounting is becoming an essential component of forward-looking insurance models and the management of this heightened volatility with AI predictive modeling will be crucial. By refining actuarial models, strengthening catastrophe models, detecting fraud, and broadening risk assessments, forensic accountants play a key role in ensuring the financial sustainability of the insurance sector. Their work not only benefits insurers but also helps businesses and homeowners navigate the increasingly volatile landscape of climate-related financial risks.
Christina LoRusso, MSA, CDFA, CFE, CVA, MAFF, is the founder of LoRusso Forensics LLC, a firm specializing in litigation support, business valuation, and financial forensics. She brings extensive expertise in analyzing complex financial matters involving nonprofits, healthcare, marital dissolution, fraud, and economic damages. Ms. LoRusso has also served as an economics expert and legal assistant, with a background in domestic and international tax advisory for real estate investors. Actively engaged in public service, she collaborates with law enforcement through the LVMPD Multicultural Advisory Council, as well as assisting citizens in investigating alleged misconduct, and has contributed to a task force promoting credentialing pathways for military and police professionals through the NACVA.
Ms. LoRusso may be contacted at (702) 241-0063 or by e-mail to c.lorusso@lorussoforensics.com.
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