FEMA's Future Creates Uncertainty for Disaster Recovery and Insurance Markets

KBRA's new research report, Preparedness Policy in Limbo: FEMA, Federal Funding, and the Future of Disaster Recovery, examines the growing uncertainty surrounding the role of the Federal Emergency Management Agency (FEMA) role in US disaster recovery efforts and the potential implications for state and local governments and the insurance industry.

FEMA has faced increasing scrutiny over response timeliness, staffing adequacy, and funding uncertainty, according to KBRA. The report notes recent findings from the US Government Accountability Office (GAO) and a January White House executive order targeting improvements to agency operations. Persistent questions about the federal government's long-term disaster recovery responsibilities continue to shape the outlook for impacted stakeholders, per the report.

KBRA said states and localities may be expected to assume a greater share of disaster recovery costs as Congress and the administration reconsider FEMA's role and responsibilities. The report highlights that there is no guarantee that future federal funding levels will match historical support, raising material concerns for public finance issuers, according to the report.

Proposed reforms under discussion include elevating FEMA to Cabinet-level status, simplifying disaster assistance applications, raising the threshold for presidential major disaster declarations, shifting toward estimate-based grants, and implementing a sliding federal cost-share scale tied to state mitigation investments, per KBRA. The report indicates that these changes would have significant credit implications for public entities required to shoulder increased financial and administrative burdens.

KBRA said questions remain about how well state and local governments can prepare for disasters no longer meeting higher threshold requirements. The report outlines analytical considerations for issuers, including reserve planning, emergency management capacity, and the need for strengthened administrative processes, particularly for entities exposed to frequent natural disasters, according to the report.

The report underscores FEMA's critical role within the insurance industry, particularly through its management of the National Flood Insurance Program (NFIP), which provides more than 4.7 million policies and over $1.3 trillion in coverage, per KBRA. FEMA directly underwrites NFIP policies, reimburses insurers, and uses private reinsurance to share catastrophic risk, according to the report.

Congress must periodically reauthorize the NFIP, and recent lapses—including one during a federal shutdown—underscore the program's vulnerability, per KBRA. While claims continue to be paid during a lapse, new policies cannot be issued without authorization, creating potential disruption in real estate transactions and compliance challenges for lenders, according to the report.

According to KBRA, federal regulators have advised lenders that they may continue making loans requiring flood insurance during an NFIP lapse if they adhere to flood determination and borrower-notification requirements. The report notes, however, that lenders must manage legal and safety-and-soundness risks throughout any lapse period.

FEMA's collaboration with private insurers extends beyond the NFIP through partnerships with reinsurers, catastrophe bond markets, and modeling firms designed to diversify disaster risk, per the report. FEMA also supports mitigation efforts—such as home elevation, drainage improvements, and the NFIP's Community Rating System—to lower property losses and insurance costs, according to KBRA.

The report outlines several NFIP reform themes currently under consideration, including affordability and participation improvements, enhanced financial solvency measures, expanded use of risk-based premiums, and more consistent multiyear reauthorization, per KBRA. The private market, while expanding, lacks sufficient capacity to absorb the NFIP's full exposure should the program's authority lapse or its mandate be reduced, according to the report.

Any reduction in FEMA's mandate or funding could create material challenges for insurers, reinsurers, capital markets, and policyholders by increasing financial exposure and catastrophe-related volatility, per KBRA. The report adds that without FEMA investments in mitigation programs such as Building Resilient Infrastructure and Communities and Hazard Mitigation Grant Program, property losses and claims severity could rise, potentially affecting insurer financial strength.

Federal disaster mapping, hazard data, and pricing frameworks are essential components of underwriting accuracy, and the loss of federally maintained standards could fragment flood-risk information nationwide, per KBRA. The report states that such fragmentation could impede regulatory oversight and increase compliance and underwriting challenges across the financial system.

According to KBRA, FEMA's withdrawal as a national disaster backstop could produce broader systemic effects, including uninsured losses, mortgage defaults, regional economic disruptions, and potential investment-risk impacts in municipal bonds and mortgage-backed securities. Insurers could face heightened reputational and social risks if coverage gaps emerge due to diminished federal support.

The report concludes that FEMA serves as both a stabilizer for state and local governments and an essential partner to the US insurance ecosystem.