The Florida Catastrophic Storm Risk Management Center The Capitalization of Homeowners Insurance Premiums in House Prices THE CAPITALIZATION OF HOMEOWNERS INSURANCE PREMIUMS IN HOUSE PRICES THE CAPITALIZATION OF HOMEOWNERS INSURANCE PREMIUMS IN HOUSE PRIC

Executive Summary The primary questions of interest in this study are whether and, if so to what extent, changes in homeowners insurance premiums affect real estate prices. As a cost of owning a home, homeowners insurance would have an impact on the homeownership decision, but in normal times one would expect the impact to be marginal. However, during a period of high insurance costs or rapidly increasing premiums, these costs would likely have a stronger effect on housing demand and the capitalization of these higher costs into house prices could create a downward pressure on prices. The supply of housing could also be affected as homeowners find the increasing ownership costs a hardship or unbearable and decide to terminate ownership. As such, higher insurance costs could have a significant impact by both reducing the demand and increasing the supply of housing. with adjustable-rate mortgages, which had become popular in the early-mid 2000s, experienced increasing contract rates and payments as these loans reset. Borrowers with interest-only adjustable-rate loans, which had also become more popular over the last several years, saw an even more dramatic increase as payments became amortizing. Second, the dramatic increase in property values in the early-mid 2000s led to continual increases in property taxes as property assessments increased. Insurance provided the third, and in some cases, most visible evidence of increasing homeownership costs. A doubling of premiums was not uncommon in areas of the state that had the highest natural disaster risk exposure. Many highly leveraged homeowners had little or no additional income to offset these increasing costs and were forced to consider selling their properties. Simultaneously, however, demand for real estate was decreasing as prospective buyers factored these additional costs into the prices they were willing to pay. The size and price volatility of the Florida housing market over the 2004-2009 time period in conjunction with the shock losses that the property insurance market sustained over this period provide an excellent setting in which to examine the relationship between a significant housing cost factor (homeowner's insurance) and the demand for residential real estate. Given that property taxes are a main revenue source for many states and local jurisdictions and given that property tax collections are based on property values that can be affected by factors such as changes in insurance costs, it is important to better understand the cost factors that ultimately have a significant impact on the demand for real estate and real estate prices. A better understanding of these relationships can provide for more effective public policy decisions regarding insurance pricing and regulation of the insurance industry in general. This study examines the extent to which changes in homeowners insurance premiums affect the demand for housing. Previous research, using primarily floodplain data, has shown that increased insurance costs are negatively capitalized into house prices. This study used Miami-Dade County home sales and Citizens Property Insurance Corporation data for the period 2004 through 2009 to measure the capitalization effect of increases in premiums on house prices. Using a hedonic pricing model and measures of changes in homeowners insurance premiums over one-, two-and three-period segments prior to the sale of the property, the results showed that increases in premiums are negatively capitalized in prices. In the data used in this study, homeowners spent an average of $2,145 per year for property insurance. The changes in insurance premiums during the time period were dramatic: the one-, two-, and three-year decreased the average house price by$13,484.62. These changes in the average house price produce implied cap rates of 11.53%, 8.92%, and 11.55%, respectively for the one-, two-, and three-year premium increases. THE CAPITALIZATION OF HOMEOWNERS INSURANCE PREMIUMS IN HOUSE PRICES Abstract This study examines the impact of changes in property insurance premiums on house prices. Previous research, using primarily floodplain data, has shown that increased insurance costs are negatively capitalized into house prices. This study uses Miami-Dade County home sales and Citizens Property Insurance Corporation data for the period 2004 through 2009 to measure the capitalization effect of increases in premiums on house prices. Using a hedonic pricing model and measures of changes in homeowners insurance premiums over one-, two-and three-period segments prior to the sale of the property, the results show that increases in premiums are negatively capitalized in prices