Climate change should be considered a new core aspect of creditworthiness when prospective home buyers apply for a mortgage, a new report suggests.
The analysis from the climate risk financial modeling firm First Street is a groundbreaking nationwide look at the ties between the growing risks from extreme weather such as floods and wildfires, and a long-suspected spike in mortgage defaults in hard-hit areas.
It finds that lenders and borrowers are exposed to more financial risk than they are aware of because current ways of determining creditworthiness leave out exposure to climate disasters as a factor.
If climate risk were to be taken into account by lenders — which the analysis shows may be increasingly necessary as climate change worsens the severity and frequency of certain extreme weather events — then the next time someone goes to get a home loan their credit score could be knocked down (or adjusted upward) due to their climate risk exposure.
At the same time, mortgage lenders could become more hesitant to provide policies, or raise the cost of borrowing, in certain risky areas with greater exposure to climate-related hazards.
First Street finds weather-driven mortgage foreclosures could cause $1.2 billion in lender losses in today’s climate, with the majority of that happening in just three states: California, Florida and Louisiana.
Over the next decade, this could increase to up to $5.4 billion per year by 2035, which would be about 30% of annual lender losses, the report says.
“This growing share of foreclosure losses is largely driven by the escalating insurance crisis and the increasing frequency and severity of flooding anticipated in the next decade,” the report states.
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It is well-known that the cost of home insurance is increasing in many areas due in part to climate change-driven hazards. This is causing insurance policies to become unaffordable for many people, which exposes them to financial risk from a flood, wildfire or hurricane, for example.
It is also prompting insurance companies to flee particularly disaster-prone locations, such as Florida and California. In California, State Farm is raising rates by 17% in one year due in large part to wildfire-related losses.
“When climate events destabilize local housing markets, it doesn’t just affect those directly hit,” said Jeremy Porter, head of climate implications for First Street and an author of the report.
“It ripples through the financial system, driving up mortgage rates, directly impacting individual credit risk, and pricing more people out of homeownership,” Porter said.
Relying on a combination of peer reviewed methods and new techniques, Porter looked at the number, amount and pattern of foreclosures following wildfire, extreme wind and flooding events nationally. He found the best predictor of rising foreclosure rates among climate-related factors is flooding, particularly when it occurs outside of FEMA flood zones, where homeowners are far less likely to have flood insurance.
The study also linked rapid increases in insurance premiums over time at the ZIP code level to increases in foreclosures in those same ZIP codes, finding that insurance increases are putting many families in a more financially vulnerable position and creating greater risks for lenders.
Properties flooded in an extreme weather event face a 57% higher foreclosure rate than nearby, unflooded homes, Porter said.
One underlying trend used for the study is the rapid increase in costs of natural disasters in the US, as shown in the National Oceanic and Atmospheric Administration’s billion-dollar weather and climate disaster database.
However, the agency recently announced that due to staffing cuts and shifting priorities, it will no longer update this list, forcing groups like First Street to rethink their methodology and rely on other, potentially inferior datasets.
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