No more cheap home insurance

by Rebecca Macfie / 30 July, 2011
Since the Christchurch earthquakes, homeowners face massive cost increases and some may fail to get insurance at any price.
A destroyed house in Christchurch, photo/Getty Images

When your annual insurance bill arrives in the post, best make yourself a stiff drink and sit down before slicing open the envelope. This will be the moment when – if it hasn’t already – the destruction in Christchurch will be visited upon your personal finances.

Stuart Windle thought he was prepared when his bill arrived. Having two daughters in Christchurch with earthquake-damaged homes and land, he feels intimately tied to events in the city and was well prepared to “take a hit”. But he wasn’t prepared for AA Insurance’s 80% hike in the cost of insurance for the four-year-old rental property he owns in Kaikoura. The increase, from $767 to $1371, is equivalent to a month’s rent, and he predicts if premium hikes like this become common, rents will be forced up.

For his family home in the small coastal town two hours north of Christ­church, he has been told to expect a 50% increase when the policy comes up for renewal later in the year.

Dissatisfied with AA Insurance’s explanation, he is planning to take his business to another company. But though his enquiries suggest he can get a better price elsewhere, every insurance company is ramping up premiums.

AA Insurance has flagged an average home-insurance cost increase of 50%. Vero (which, like AA, is owned by Australian listed company Suncorp) says its prices will rise an average of 25%, but the increase in Wellington and Christchurch could be 50-60%.

AMI says its premiums will go up by an average of 20% across the country, and Australian-based IAG group (which includes the State Insurance and NZI brands) is talking an average increase of 15-20%. Tower has still to decide how much its rates will rise, but “they will go up and I don’t think they will be small increases”, says chief information officer Tony Dixon.

The era of cheap, generous insurance is over. Auckland insurance lawyer Andrew Hooker says the industry has been fiercely competitive over the past 15 to 20 years, with companies cutting premiums to the minimum and inventing all manner of “bells and whistles” – such as clauses offering stress payments, and crematorium fees for deceased pets – to attract customers and premium income.

“One area that insurance companies have really taken each other’s throats out is over replacement conditions. So now they offer new for old on just about everything.

“Twenty years ago, most houses were insured for market value, and if your house burnt down you got what it was worth as a 20-year-old house, and your contents were insured for second-hand value, so if you had a two-year-old computer you got 100 bucks. Nowadays they give you new for old on everything.”

It’s the sort of largesse that has been possible in what was a quiet, trouble-free corner of the global insurance industry. Until the Christchurch earthquakes, the international reinsurance market regarded New Zealand as a “cold spot” – as distinct from “hot spots” such as the US, with its costly hurricanes and potential for devastatingly expensive earthquakes; Europe, where winter storms can wreak financial havoc; and densely populated and seismically active Japan.

“New Zealand hasn’t been seen as a high risk,” says Insurance Council chief executive Chris Ryan. “Our earthquakes have been localised and relatively modest, and EQC has covered them. Our cyclones and tornadoes are localised. But this [Christ­church] earthquake – I travel all over the country, and New Zealanders don’t realise how serious this is. They don’t understand it, that it is transforming our economy, [affecting] insurance and reinsurance for the entire community.”
Figures on the cost of recent natural disasters, supplied by Paul Allison, chief operating officer of reinsurance broking firm Guy Carpenter & Company, help show why New Zealand is suddenly arousing anxiety among international reinsurers.

Cyclone Yasi, photo/Getty Images

Insured losses from Christ­church are predicted to be as high as $18 billion; the Australian floods will cost $3.5 billion; Cyclone Yasi $1.8 billion; the Japanese earthquake $36 billion; and the US tornadoes $18 billion. That adds up to the most expensive six-month period on record for the global insurance industry – around $77 billion, of which New Zealand accounts for almost a quarter.

Ryan says the domestic industry will pay out about $3 billion of Christchurch’s $18 billion in losses – the rest will be picked up by international reinsurers. “So we are in the hands of reinsurers on the other side of the world.”

The scale of the losses in Christchurch has made them rethink both the models on which they assessed their risks in New Zealand, and the level of exposure they are prepared to tolerate here – and, of course, their prices.

But why should the price go up for people in, say, Wellington, Auckland or Invercargill, for whom the risks of catastrophe are theoretically no greater now than they were a year ago? “Reinsurers are only human, and they are capable of having emotional reactions to major losses,” says AA Insurance head of corporate affairs Suzanne Wolton. “What we are seeing with these massive rate increases is a combination of them recalibrating their models to say, ‘The risk is higher than we thought’, but also an emotional response, saying, ‘Well, we’ve had this massive loss and we want to recoup a bit.’”

One by one, New Zealand insurance bosses have returned home from visits to the global reinsurance capitals of Bermuda, London, Geneva, Munich and Singapore with stories of eye-watering increases in the cost of their annual contracts, or so-called “treaties”. EQC chief executive Ian Simpson told the Listener last month the cost of the Crown agency’s reinsurance had doubled. Wolton says AA Insurance’s treaty costs have gone up “hundreds of per cent”, and for some layers of the com­pany’s reinsurance programme the increase was 500%.

AMI chief executive John Balmforth says his cost has doubled on a “like for like” basis, plus the company has just doubled its reinsurance cover to $1.3 billion. IAG’s New Zealand chief executive, Jacki Johnson, says the company isn’t due to renegotiate its treaties until the end of this year, but when cover has been reinstated after the Christchurch earthquakes, the price has doubled.

And Civic Assurance, which has been the insurer of property owned by 47 local bodies, found it impossible to buy reinsurance on the international market at any price.

Which raises the question: could there come a point where other companies can’t get reinsurance, leaving householders without comprehensive protection? After all, only 10% of Japanese households have earthquake cover and only 12% of Californians, according to US catastrophe modelling firm Eqecat. So why should seismically active New Zealand be any different, particularly given the highly unusual nature of the Christchurch disaster, with three major quakes within a few months?

Following the June 13 quake in Christ­church, Ryan publicly warned that not only would New Zealand see increases in premiums and excesses, but also the industry could begin to question “the level of insurability for earthquakes that New Zealand receives”.

Andrew Aitken, Vero’s executive general manager (commercial and personal), agrees if reinsurers keep racking up their prices in response to major losses, there will come a time when the share­holders behind the big insurance companies say “enough is enough”. He says it is an “open question” whether New Zealanders will ultimately end up like California and Japan, where earthquake cover is only available to a few.

“The GNS Science people are telling us there is a 30% chance of a major earthquake in Christchurch in the next 12 months [now reduced to 23%]. If that happens, and depending on where it is, I imagine there will be a number of insurers reappraising where they go in terms of offering earthquake insurance in that market.”

One reinsurer, speaking on condition of anonymity, agrees it is a concern. “New Zealand has flown under the radar because it is so small … But it has now been truly recognised for what it is putting out there into the market, and that’s why there have been a number of [reinsurers] that have suddenly realised that and are no longer present.”

Wolton says it is “not inconceivable” that New Zealand could end up without the backing of international reinsurers for earthquakes, “but it’s not reinforced by any experience I am having with reinsurers at the moment. Although the price has gone up and one or two [reinsurers] have withdrawn from New Zealand, the majority are still here. So I don’t see [large-scale withdrawals] as a real possibility.

“I know that after June 13 there were very alarmist statements being made. The reinsurers who have withdrawn have for the most part been Japanese, where they have had their own tragedy, and that has resulted in huge losses for those reinsurers, so their withdrawal is probably driven by lack of capacity rather than them being totally switched off New Zealand.”

And she says New Zealand’s seismic risk – in insurance terms – is not as great as that for highly populated areas like California and Japan.

Flooding in Lower Hutt, photo/Fotopress

“I don’t believe that New Zealand has the [equivalent] level of risk of property loss associated with earthquakes, because we are not very populated. Look at San Francisco or Tokyo – there, you have cities with the populations three times the entire population of New Zealand, all sitting in one place. That makes the risk very different for reinsurers.”

Civic Assurance chief executive Tim Sole says the existence of EQC, which charges an annual levy and pays the first $100,000 on houses damaged by earthquakes, slips, volcanic activity and tsunami, also makes it easier for private insurance companies to get “top-up” cover from the international reinsurance markets. He predicts that provided there are no more earthquakes in Christchurch, the anxieties of the reinsurers will settle, and things will go back to something like normal within three or four years. “The reinsurance market has a very very short memory.”

Three major reinsurers – Munich Re, Swiss Re and Gen Re – declined to be interviewed by the Listener. However, Lloyd’s chairman Lord Peter Levene commented publicly on a visit to Christchurch this week that reinsurers would continue to cover New Zealand, but needed to better understand the risks and price it economically.

Even though homeowners are beginning to pay the price of reinsurers’ nervousness, further cost increases are likely to filter through. Ryan points out the EQC levy – currently $69 a year – is certain to increase, and the fire service levy may also be hiked.

But the industry walks a fine line when foisting big price rises on the home-owning public, he acknowledges. “Insurance is seen as a reluctant purchase. If you put prices up too much, people will react by not taking out insurance, and the consequences for the individual can be disastrous, and it does affect the bottom line of the insurance companies because they need those premiums to survive. It’s a very sensitive area.”

On the other hand, he predicts insurance companies in the future will become more picky about who they choose to insure. “For houses they might say, ‘We will inspect your property, and if we feel it is subject to rot or is structurally compromised, we might not insure it.’ Insurers have rarely inspected properties in the past, “but where they are taking on a new risk in Canterbury, now they are requiring a full geotechnical report, an engineer’s report, a builder’s report.”

He says this approach may become more widespread. “There is no guarantee they will insure people who are patently a bad risk. There is no obligation on an insurer to insure you.”

Homeowners in Christchurch trying to move on from damaged homes are learning this the hard way, with insurers refusing to take on new risk because of ongoing aftershocks. IAG, for instance, is refusing to write new policies in the Port Hills or areas zoned “orange” (awaiting further assessment of land damage). It says it will consider taking on new customers elsewhere in the region only if the house being bought is already insured by the group.

AMI won’t write new home policies but says it will continue to cover existing ­clients if they buy an undamaged home. Vero will cover existing customers who rebuild because their house is written off, but for customers moving into Christ­church it will provide no earthquake cover beyond the EQC’s $100,000. AA says it won’t write new home insurance policies in the area unless the house being bought is already insured by the company.

IAG’s Johnson says the nationwide focus on insurance and reinsurance in the wake of Christchurch is an opportunity for the industry to better educate the public about how they should protect their major assets from disaster. She says when buying insurance, people need to look at the company’s credit rating and find out who the owner is. They then have to decide whether to take out replacement cover or insure for a specific sum. And they must keep their insurer informed of any additions or changes to the house, and keep their contents cover up to date whenever they make major new purchases.

She says homeowners need to be familiar with what’s in their policy, and check what it offers in the way of temporary accommodation in the event that the home is uninhabitable for a long period – as thousands of Christchurch houses now are. They should check also whether it covers expensive external structures such as swimming pools, driveways and fences.

She says some homeowners choose to lower their premium costs by accepting a higher excess – for instance, by carrying their own risk on the first $1000 of damage. Also, if the house has security measures such as a burglar alarm and window locks, let the insurer know, as it will attract a discount.

Her message to policyholders is “be proactive”.

Hooker, a lawyer who spent years working in the insurance industry and is now advising several Christchurch homeowners on quake claims, has a similarly succinct message for insurance companies – particularly those that lured customers over the past few years with “flamboyant” add-ons to their policies: “If you buggers want to promise the world, you’d better be ready to deliver it.”

Hooker says most mainstream insurance policies are good – the difficulty lies in getting insurance companies to follow through on them. “The big lesson for policy­holders is know your rights and stand up for them.”

In Christchurch, now a quagmire of insurance claims and looming disputes, key themes are emerging that are relevant to homeowners everywhere, he says.

At the top of the list, policyholders need to now that “replacement means replacement … If an insurance company says it will give you new for old, then that is what it must do. It can’t say, for example in an earthquake-damaged house, ‘Oh, we’ll salvage undamaged property out of your old house and use it in your new house.’ They can’t say, ‘Your ceilings were rimu, but we’re going to give you stained pine.’”

House fire Napier, photo/Hawke's Bay Today

And he says homeowners with replacement policies should resist pressure from insurance companies to sign up to contracts that specify a fixed sum. “Insurance companies have moved further and further … to [policies that] say you have no sum-insured limit. So, they say your house is insured without a monetary limit, up to the square metreage that is disclosed – if you have a 350sq m house, they say that regardless of cost ‘we will rebuild it’.

“Then when the house is destroyed in an earthquake or fire, they get one of their friendly builders who gives them a special rate, on which they base an estimate for the repair cost of the house, and then they try and get the insured person to sign a discharge agreeing to limit the company’s liability to a certain amount. Well, they can’t do that.

“If your policy has no sum insured, why should you be signing any document that limits the liability of the company? Because, I would bet you my eldest child that if you get an estimate from one of these insurance-company builders to rebuild your house for [a set sum], it will cost more than that. But if you have signed a discharge, that’s all you’re getting.”

Complicating matters, though, is that the bulk of the money to settle claims is coming from the international reinsurers, so they are in charge. Hooker says this is making it more difficult for insurance companies to be generous with their interpretations.

“Insurance companies as a rule are pretty reasonable when they deal with big claims. But when they have a reinsurer breathing down their necks who doesn’t give a damn about bad publicity or bad press, it does make it more difficult. And I have heard, coming out of the industry, people say, ‘We’d love to be paying these claims but the reinsurers won’t let us.’”


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