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Spotlight on Economics: Is Your House Free of Flood Risk?

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Lei Zhang, assistant professor, NDSU Agribusiness and Applied Economics Department (NDSU photo) Lei Zhang, assistant professor, NDSU Agribusiness and Applied Economics Department (NDSU photo)
Flood risk can affect a home’s market value.

By Lei Zhang, Assistant Professor

NDSU Agribusiness and Applied Economics Department

A flood is an overflow of water that submerges land that is usually dry. Flood risk is the risk of being flooded.

To find out the flood risk of a specific house, people usually follow the guideline provided by the Federal Emergency Management Agency (FEMA). FEMA creates flood insurance rate maps (also known as FIRMs) to show areas of high risk, moderate to low risk and undetermined risk.

If an area has a chance of being flooded once in 100 years, it is designated as a high-risk area. We usually call it a 100-year flood plain. If the chance of being flooded is once in 500 years, the area is defined as having a moderate flood risk. It also is called a 500-year flood plain. Areas outside 100- and 500-year flood plains are low-risk areas.

Researchers have found that houses within a 100-year flood plain usually sell at a discount, compared with other properties just outside the 100-year flood plain. The estimated discounts have varied from 4 to 12 percent. Sale prices of houses within a 500-year flood plain are not affected by the flood risk.

An important assumption for all past flood studies is that flood risk is dichotomous, which means houses within a 100-year flood plain face flood risk, while houses outside a 100-year flood plain are assumed to be free of flood risk.

Apparently, in the real world, this assumption may not be appropriate. Because a flood plain is designated based on the likelihood of flooding of the land area, everyone lives in a flood plain: low, moderate or high. Houses in a 100-year flood plain face high flood risk, while houses outside a 100-year flood plain face moderate or low flood risk.

During an actual flood event, even though houses outside a 100-year flood plain may not be damaged by flood, neighborhood facilities closer to a 100-year flood plain may be damaged, causing a downgrade of the neighborhood environment, which negatively affects house prices. Therefore, flood risk may change as the distance from the property to the flood plain varies. Houses farther from a 100-year flood plain may face lower flood risk, compared with equivalent houses nearer a 100-year flood plain.

In my recent research, I used house sale data from 2007 to 2013 in the Fargo-Moorhead metropolitan statistical area to estimate the effect of flood risk on residential property values. I found that the market value of a house within a 100-year flood plain is lower than an otherwise similar house outside the 100-year flood plain.

The flood price discount increases as I compare with houses farther from the 100-year flood plain. Particularly, compared with houses within 250 feet of the 100-year flood plain boundary, the discount is about 8 percent. Compared with houses between 250 and 1,000 feet from the 100-year flood plain boundary, the discount increases to about 15 percent. Finally, compared with houses within 1,000 to 1,500 feet from the flood plain boundary, the discount is as high as 21 percent.

If we interpret the flood price discount as a metric for home buyers’ mean evaluation of flood risk, then home buyers clearly perceive some level of flood risk, even outside of the 100-year flood plain, and the level of flood risk decreases with distance from the flood plain.

In summary, future studies should not assume that flood risk outside of a 100-year flood plain is negligible. Home buyers need to reconsider the flood risk when purchasing a house.


NDSU Agriculture Communication - Oct. 3, 2017

Source:Lei Zhang, 701-231-9797, lei.zhang.3@ndsu.edu
Editor:Ellen Crawford, 701-231-5391, ellen.crawford@ndsu.edu
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