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Insurance Rates Are Eating Cash Flow Away—Here’s What Investors Should Do About It
If rising interest rates weren’t already putting a strain on cash flow, skyrocketing homeowners insurance premiums have now become the final blow for many property owners.
A perfect storm of factors—including labor shortages, inflation, higher reinsurance costs, increased building materials, and frequent extreme weather events—has sent insurance premiums soaring. In some cases, premiums have increased up to six times the previous amount, and some insurers are even refusing to offer coverage at all. On top of this, property taxes, utility costs, and homeowners’ association fees have also risen, further squeezing budgets.
The Crippling Impact on Property Owners
As real estate agent Kara Breithaupt from New Orleans puts it, “The insurance is just as crippling, if not more so, than interest rates.” In places like New Orleans—where natural disasters such as floods and hurricanes have wreaked havoc—homeowners and landlords are now facing exorbitant insurance costs. For example, a $500,000 property with an $8,000 homeowners insurance premium and a $2,000 flood insurance premium can lead to carrying costs that have grown exponentially.
Traditionally, home insurance was relatively affordable, covering homeowners and landlords in case of damage due to natural disasters. However, as hurricanes, heat-induced wildfires, and flooding have become more frequent, this insurance model is no longer sustainable. According to AM Best, a global credit rating agency, underwriting losses for U.S. property insurers reached $47 billion in 2022 and 2023. Premiums have risen by over 30% since 2020, with average increases of more than 10% in 19 states due to large payouts related to natural disasters.
Insurance Companies Are Struggling
It’s not that insurers are trying to take advantage of property owners—many of them are barely staying afloat. In California, seven out of the state’s 12 insurers have either stopped offering coverage or gone bankrupt in recent years. The situation is so dire that 12% of U.S. homeowners have chosen to forgo insurance altogether.
Landlords are caught in a tough position—bear the brunt of rising insurance premiums and reduce or eliminate cash flow, or try to pass on the increased costs to tenants and risk losing them. Adding to the problem, landlords face additional insurance costs compared to homeowners.
Rising Construction Costs Add to the Pressure
Many landlords assume their insurance policy’s replacement value is accurate, but this can be misleading. If a disaster occurs—whether a fire, flood, or natural disaster—escalating construction costs may prevent the payout from being sufficient to rebuild. According to CoreLogic, the cost of construction materials and labor has surged by 40% and 16%, respectively, from 2019 to 2023. While prices have somewhat stabilized, the proposed tariffs could drive costs even higher.
Jeffrey Burns, a senior real estate advisor, highlights that many landlords were complacent, assuming they only needed “just enough” insurance. But as many have learned the hard way, that’s not enough to fully cover losses, leaving some property owners with no choice but to sell.
Affordable Housing Is Taking the Hardest Hit
The rising insurance premiums are also devastating affordable housing developers, especially those bound by rent-control or budget limits. Many nonprofit housing developers are now unable to stay in business due to the crushing insurance costs, particularly in coastal states. Frank Woodruff, the executive director of the Community Opportunity Alliance, warns that this trend could severely impact affordable housing development, exacerbating homelessness and creating ripple effects throughout the housing market.
What Property Owners Can Do to Offset Insurance Costs
While there’s no magic bullet to solve the insurance crisis, property owners can take a few steps to reduce their premiums and protect their cash flow:
- Bundle Insurance Policies: Landlords can bundle multiple properties into a master policy, lowering overall rates. Adding auto insurance to the bundle can further reduce premiums.
- Account for Upgrades: Ensure any recent upgrades—such as security systems or storm-resistant windows—are included in your insurance policy. Regular maintenance and enhancements can help lower premiums.
- Review Building Valuations: Make sure your insurer has an up-to-date understanding of your building’s current construction costs and replacement value.
- Shop Around for Quotes: Insurance companies often vary in premium amounts, so it’s worth comparing several quotes to find the best deal.
- Invest in Weatherproofing: Adding storm-resistant features, better landscaping, and effective drainage systems can reduce your premiums.
- Never Let Banks Control Your Insurance: Always select your own insurance policy, as banks may not offer the best coverage options for your specific needs.
Final Thoughts
While it’s tempting to let insurance slide in order to keep your rental property profitable, that can be a dangerous move. Having experienced the devastating effects of fire damage in two apartment buildings, I can’t overstate the importance of insurance. If you can’t afford it, keeping your rental property isn’t worth the risk.
But there are strategies to help improve cash flow and offset the rising insurance costs. These include:
- Appeal Your Property Taxes: Work with an attorney to appeal your property taxes and potentially reduce your costs.
- Increase Rent: A small, regular rent increase is better than a large, unexpected hike that may push tenants away.
- Charge for Extra Amenities: Offer parking, laundry, or fitness amenities at an extra charge to help cover costs.
- Set Up Payment Plans for Utilities: Managing utility expenses through a payment plan can help maintain predictable cash flow.
- Negotiate Management Fees: If you have a sizable portfolio, see if your property management company will reduce their fees to help cover rising costs.
- Consider Self-Management: If you have the time and resources, managing your properties directly can save significant amounts on management fees.
Insurance premiums are a growing burden for property owners, but taking proactive steps to manage costs and protect your investments can help keep your properties afloat.
In the previous post: “Is Now a Better Time to Invest in Real Estate Debt or Equity?“
Insurance Rates Are Eating Cash Flow Away—Here’s What Investors Should Do About It
Has the U.S. Housing Market Finally Begun to Thaw After the Pandemic?
It seems like the housing market might be showing signs of life. According to a recent report from Redfin, pending home sales in early October have seen their largest year-over-year rise since 2021, with a 2% increase in the four weeks ending October 6.
This news is likely to be welcomed by real estate investors who have felt the market has offered limited opportunities over the past few years. However, it’s important to take a cautious approach—one promising statistic doesn’t necessarily indicate a broader trend.
Is the Housing Market Truly Recovering?
Let’s explore the different factors at play.
Interest Rate Reductions: A Critical Factor or a Red Herring?
The Redfin report links the surge in pending sales to the Federal Reserve’s much-anticipated rate cut announcement in mid-September. According to Redfin, this announcement prompted buyers to re-enter the market in late September, despite mortgage rates having already been falling for weeks before the cut.
This psychological boost is crucial. Although buyers were aware of the falling rates beforehand, many seemed to be waiting for a formal signal to act. This could be attributed to a lingering fixation on the ultra-low rates of 3% to 4% that buyers enjoyed before 2022.
Any rate cut announcement serves as a nudge for prospective buyers, making them feel that now might be the right time to purchase, even if mortgage rates had been decreasing already. In an unstable mortgage market, such announcements hold significant influence.
However, mortgage rates are just one piece of the puzzle when analyzing housing market performance. As noted by Investopedia, the real estate market is driven by four primary factors: interest rates, demographics, economic conditions, and government policies.
Demographics: Shaping the Market
During the pandemic, demographic shifts had a profound effect on U.S. real estate, with major population movements like the Sunbelt migration fueling booms in cities such as Phoenix and Austin, which later became unaffordable for many.
Age is another key demographic factor, and the millennial generation’s pent-up demand continues to be a driving force behind the rise in home purchases. Despite the challenges of the past few years, millennials who have longed to become homeowners are now entering the market in greater numbers, as more properties become available.
Rising Inventory: A Sign of Stabilization
A key factor contributing to the market’s stabilization is the growth of housing inventory over the last year. The pandemic had a significant impact on the availability of homes, with sellers hesitant to list properties due to COVID-19 restrictions and, later, higher mortgage rates.
Some homeowners, particularly those upgrading to larger homes, found it financially challenging to sell and take on higher mortgages. Others, however, simply chose to wait for a more favorable market.
Although the latest Realtor.com report shows that inventory remains down by 23.2% compared to pre-pandemic levels, we are seeing an upward trend. For instance, new listings have been rising since last year, with a 5.7% year-over-year increase for the four weeks ending October 6.
As of September 2024, some states have even surpassed their pre-pandemic inventory levels, including Tennessee, Texas, and Idaho, with others, like Washington, close behind.
Vulnerabilities in Certain Regions
However, not all regions are showing positive signs. For example, some areas, particularly those affected by extreme weather, have seen inventory spikes not because of market recovery, but due to homeowners trying to offload damaged properties they can’t afford to repair.
For instance, regions like Florida and North Carolina, hit by hurricanes, have experienced increases in home listings, but these may reflect a response to climate-related challenges rather than market health.
Opportunities for Investors
Investors should be discerning when choosing markets, focusing on regions where inventory is growing due to increased home construction rather than climate-related distress. States like Idaho, Utah, North Carolina, and Texas, which are building new homes, offer potential, though caution is needed in areas prone to natural disasters.
The Midwest and Northeast, meanwhile, still face significant challenges in recovering to normal market conditions. These regions have lower rates of new construction, meaning inventory remains scarce, which could present both opportunities and difficulties for investors.
The Bottom Line
The U.S. housing market is showing signs of recovery, but the situation remains complex and varies by region. Interest rates play an essential role in unlocking the market, but investors should also consider other critical factors, such as homebuilding trends, climate risks, and government policies. While the market is heading in the right direction, it’s crucial to examine regional differences carefully before making investment decisions.
In the previous post: “Is Now a Better Time to Invest in Real Estate Debt or Equity?“