An answer in the archives

An answer in the archives

A buried proposal to solve flood cover problems could provide a cyclone region blueprint as the Government looks again at a reinsurance pool

By Wendy Pugh

Assistant Treasurer Michael Sukkar may find it useful to look into the filing cabinet for inspiration after reviving a discussion about a reinsurance pool to solve north Queensland’s insurance affordability problems.

In 2011 rainfall of Biblical proportions and water releases from the Wivenhoe and Somerset dams inundated homes near the Brisbane River, highlighting the fact that most people did not have flood insurance in their policies and were confused about the cover they did have.

The Federal Government launched an inquiry, chaired by John Trowbridge and panel members Jim Minto and John Berrill. The resulting Natural Disaster Insurance Review report was delivered to then-Assistant Treasurer Bill Shorten in September 2011.

The report recommended establishing an agency to “for the first time bring together flood risk management and insurance in a manner designed to ensure the availability and affordability of flood insurance to all insured Australians”.

The agency was envisaged as a driver of mitigation and affordability measures and would oversee a system of premium discounts linked to a government-backed reinsurance pool.

“Our report was pretty ground-breaking,” Mr Berrill tells Insurance News. “It was the first time that it had been run up the flagpole that there should be anything like a reinsurance facility in Australia for anything other than terrorism.”

Various report recommendations were adopted, but the pool and discount proposal was resisted by the insurance industry and, like so many government studies and reports, left to gather dust.

Much has changed since the 2011 report, while some familiar insurance issues persist.

Flood cover is now widely available and a definition was agreed to ease confusion. But that didn’t really do much to ease insurance affordability frustrations in cyclone-prone parts of the country.

“As much as the Government didn’t accept our reinsurance premium pool idea, periodically the issue of affordability gets raised, and it gets ramped up as premiums get higher and higher,” Mr Berrill says.

“The idea of a reinsurance pool is getting some oxygen again, and interestingly it is coming from the Government.”

The issue came to the fore early last year after devastating monsoonal flooding hit Townsville and was still generating political heat when Mr Sukkar met insurers and community representatives in November.

The Insurance Council of Australia (ICA), which has long been opposed to the pool concept, agreed to support a Treasury-led effort to again explore the feasibility of a government-underwritten cyclone reinsurance facility.

ICA members have mostly been united against a pool, with the exception of Allianz.

But IAG Managing Director Peter Harmer agreed at the November meeting that there’s merit in the idea and it deserves a further look.

Mr Berrill says the 2011 Natural Disaster Insurance Review Inquiry into Flood Insurance and Related Matters remains relevant to the discussion.

Flood was the front and centre issue in that report, but it touched on rising premiums in cyclone-prone areas and flagged the possible extension of its solutions for availability and affordability problems.

The panel wanted all home building policies to include flood cover, but realised that if premiums then soared in high-risk areas, the people most exposed might drop insurance altogether.

Any solution needed to keep people insured, while retaining price signals for risky areas and ensuring incentives for mitigation and building in safer locations remained.

As a result, the review proposed a model of discounts assessed with reference to an “affordability threshold” for the flood component of the premium. Insurers would retain and price a portion of the risk, with the remainder to be ceded to the pool at a discounted reinsurance premium.

Rates should still reflect relative risk exposures, only existing properties would be eligible for discounts, and assistance limits would apply for high-value homes where property owners have greater financial resources. Homes without risk would not pay a flood premium and there would be no cross-subsidisation.

The reinsurance pool would enable insurers to deliver discounts without compromising underwriting commercial soundness and would preserve relationships with customers for writing and renewing policies and managing claims.

Losses from smaller events would be completely covered by the private sector, limiting the need to call on the reinsurance pool to larger incidents.

“Delivering discounts through this mechanism would effectively subsidise claims rather than premiums,” the report says.

The premium charged to the policyholder would be the sum of the insurer’s own price for the portion of the risk it retained and the premium the insurer paid to the pool, plus taxes and charges.

“The premium charged by the pool to the insurer would be transparent to the policyholder and, where the premium the insurer pays to the pool is discounted, the policyholder would be informed of the level of the discount,” the report says.

Insurers could also use the pool for policies that weren’t eligible for a flood affordability discount.

“Insurers would use it whenever they liked its prices, but would not use it for good risks that they could underwrite themselves at lower prices. In this way it would enable insurers to limit their own exposure to flood risks and thereby provide capacity to the insurance market,” the report says.

The review panel proposed the discounts could be phased out gradually, with people adjusting to their risk exposure and pricing signals, although that could take up to 20 years in the case of the larger premium discounts.

Some homeowners would be able to reduce their risk through property improvements or relocating; while others would have time to make financial adjustments. The report also envisaged separate mitigation and government action for homes at extreme risk to avoid unnecessarily exposing the reinsurance facility.

The Federal Government would stand as guarantor for the pool, and in the case of any shortfall the state or territory where an event occurred would be called upon to contribute.

“The relevant state would still be on the hook to some extent, providing incentives for that state to be heavily involved in mitigation works and so on,” Mr Berrill says.

Overall, the report aimed for an integrated approach to availability, affordability, mitigation and planning, with the whole overseen by the proposed new agency.

Various pool approaches have been examined several times since then as the focus has shifted to affordability in cyclone-battered north Queensland, but the various reports commissioned by the Government have been at best lukewarm about introducing a new element of government backing.

The 2015 Northern Australia Insurance Premiums Taskforce report says mitigation is the only way to reduce premiums on a sustainable basis, while the shortcomings of a reinsurance pool include the cost to government and the difficulty of ever weaning a community off subsidised insurance arrangements.

Last year’s Australian Competition and Consumer Commission’s (ACCC) Northern Australia Insurance Inquiry second interim report also rejected the concept of a pool.

Other countries have introduced pools after the private market baulked at risks, whereas insurance and reinsurance is still available for north Queensland, the ACCC says. The regulator also maintains there are better options to address affordability in a targeted way, while the costs of a government pool are difficult to estimate with a high level of certainty.

Mr Berrill says people worrying about government involvement tend to overlook the fact that taxpayers are already footing hefty bills for disasters.

“I think everyone is a bit spooked by the idea of the Government underwriting the risk, but when you get a disaster, the Government sets up emergency programs anyway, and it costs a motza,” he tells Insurance News.

“That is why our review was set up in the first place. The Government said, ‘this is not good public policy for us to be simply handing out big wads of money every time there is a disaster. We need to see whether this can be dealt with in the insurance market’.”

The flood insurance review touched on problems in Far North Queensland, noting premiums gains following Cyclone Yasi and accepting “prima facie” an affordability issue.

The panel did not have the means or the time to investigate fully the causes of cyclone-zone price increases, but recom- mended an investigation to see whether affordability discounts, along the lines of the proposed flood insurance plan, should be granted for homes and units in northern Australia.

“When we went to Cairns to interview people, they said the market was shrinking – and that was in 2011,” Mr Berrill says. “It has gone south, not north since then, I would have thought.

“The market hasn’t completely collapsed, in that there are still some insurers. But as insurers flee – and it is a shrinking group – the price pressure is not there and it affects affordability.”

In November Mr Sukkar told reporters after meeting with the insurers in Townsville that the number one goal was to reduce pre- miums and increase availability of coverage in the region.

“People are sick of reviews and commit- tees and reports – this sort of endless cycle of navel-gazing at the issue.”

Nevertheless, another review of reinsurance pools is underway, and the 2011 report’s proposals are still there for consideration.

Allianz: a pool is the best way to fix affordability

By Nicholas Scofield, Chief Corporate Affairs Officer, Allianz Australia

If large numbers of Australian homeowners cannot afford property insurance due to their exposure to natural peril risk, not only do they have problems, so does the insurance industry.

Apart from our inability to offer affordable protection to the whole community (which it can reasonably expect), one of those problems is the risk of ill-considered government intervention. In Allianz’s view the insurance affordability issues faced by some homeowners in north Queensland, which materialised after 2011’s Cyclone Yasi makes government intervention inevitable, more so after further premium increases and restrictions on cover following the February 2019 Townsville flood.

Allianz strongly supports intervention to reduce premiums in the form of government-funded mitigation, both public (for example flood levies) and private (that is, at the property level). However, mitigation alone cannot address all North Queensland homeowners’ insurance affordability issues, at least in the short to medium term.

Queensland Government stamp duty on property insurance should be abolished, but that would only provide relief of around 10% and inflationary premium increases would wipe out any benefit in a few years. Only intervention that directly reduces those home insurance premiums that the community regards as unacceptably high can solve the affordability problem.

There are different measures a federal government could use to address affordability concerns. These include mandated community rating and direct premium subsidies (for example, income tax rebates) as occurs in CTP and/or private health insurance. However, Allianz believes the consequential regulation of property insurance covers and premiums that would inevitably follow would be highly disruptive and detrimental to insurance markets.

Of the different forms intervention could take to address affordability issues driven by cyclone risk, Allianz’s view is that a government-backed reinsurance facility, funded out of consolidated revenue, would be the least worst, as well as the most effective, efficient and least disruptive to insurance markets.

In terms of effectiveness, the cost of cyclone reinsurance can comprise more than one-third of the pre-tax home insurance premium for a house located in coastal north Queensland. Reducing or eliminating this cost could reduce some policyholders’ premiums by up to 50%.

To reduce the impact on commercial property insurance premiums from the lack of access to and/or the high cost of terrorism reinsurance, the Australian Reinsurance Pool Corporation (ARPC) has proved to be an efficient and effective mechanism, and has had no discernible disruptive impacts on the commercial property insurance market. A cyclone reinsurance pool established under the ARPC architecture could be expected to work just as effectively and efficiently.

Suncorp: why mitigation is the best answer

By Darren O’Connell, Executive General Manager, Insurance Portfolio and Products, Suncorp

It’s important to start by acknowledging that insurance in northern Australia is expensive and a significant cost of living pressure.

However, unless we change the underlying risks that drive the high prices, anything else will be a band-aid solution. Put simply, insurers, government and individual homeowners all have a role to play in lowering the risks so that insurers can lower the price.

Instead of investing in practical solutions that can make a difference right now, we continue to investigate, again and again, a reinsurance pool. The ACCC and APRA have both recently explored if this is the right solution, and have landed on the same answer – no.

As northern Australia’s largest insurer, we’ve spent the past 100 years understanding insurance in the region and supporting countless people and communities recovering from devastating natural disasters. We are acutely aware and uniquely placed to understand the importance of insurance for individuals, businesses and communities in the north.

While we remain unconvinced that a reinsurance pool will work, we have committed to constructively working with the Government and industry on this. It would be complex and difficult to design, and potentially very costly for all Australian taxpayers without a clear exit strategy.

Let’s not forget a reinsurance pool can only achieve a significant reduction in premiums by providing a subsidy, which will dilute the price signal. It does nothing to reduce the emotional and physical toll on people and communities that will be affected by the inevitable cyclones, floods and fires. A reinsurance pool does nothing for this heartbreak.

Any action must address the main driver of high home and contents insurance premiums in the region – the physical impact on homes due to the increasing severity of natural disasters both now and in a changing climate.

We can build a more resilient northern Australia by improving building standards for all natural hazards, limiting the construction of new homes in floodplains and high-risk bushfire zones, vegetation management and building flood levees where needed.

We also need to encourage and reward homeowners for protecting themselves, including with cyclone resilience measures like window shutters, reinforcing garage doors, and re-roofing non-cyclone rated homes. These are proven to go a long way to reducing the risk, and in turn lowering insurance premiums.

Suncorp may sound like a broken record on the need for more focus on mitigation and resilience, but that’s because it works. This has been proven in Roma and other towns following the construction of flood levees, and for homeowners in north Queensland who have strengthened their homes against cyclone impacts through our Cyclone Resilience Benefit.

Lower the risk, lower the price.