Flood Re welcomed but proposals under scrutiny

The committee today welcomed the Flood Re proposals announced last week but said alternative mechanisms must also be put on the table before a final decision on how best to cover high flood risk properties can be taken. Most commercial properties are excluded from the proposed Flood Re pool because their owners are able to obtain cover on a case by case basis in the open market, or can decide to self insure. But there are concerns that smaller firms, excluded from the scheme but lacking the resources to secure satisfactory cover, may fall through the cracks. The Association of British Insurers (ABI) and the UK government last week agreed a Memorandum of Understanding (MoU) on how to develop a not-for-profit scheme-Flood Re-that would ensure flood insurance remains widely affordable and available in the UK.hideThe MoU is a first step towards establishing the pool and confirms it as the government's preferred option, said the ABI. Flood Re would be run and financed by insurers to cover the cost of flood claims from high-risk homes and a small number of commercial properties. Insurers will pass the flood risk element from those properties deemed at high risk of flooding to the fund. Premiums for the flood risk will be calculated based on council tax banding up to a maximum limit. Flood Re would charge member firms an annual fee of £180m. This equates to a levy of £10.50 on all annual household premiums and represents the estimated level of cross-subsidy that already exists between lower and higher flood risk premiums. The scheme is designed to cover all losses up to those expected in the worst 1 of 200 years. A flood of this severity is extremely unlikely and would be six times worse than the heavy UK flooding in 2007, said the ABI. "The government recognises that the Flood Re scheme is not designed to cover 'catastrophic' flood events, and in such unlikely circumstances the government would have primary responsibility for an effective response," said the UK's insurance association. Providing operational issues, including governance and regulatory approval, are resolved, the aim is for Flood Re to be up and running by summer 2015, said the ABI. In the meantime ABI members will voluntary continue to meet their commitments to existing customers laid out in the now out of date Statement of Principles agreement. Properties built after 1 January, 2009 will not be covered by Flood Re, as was the case with the Statement of Principles, to avoid incentivising build in flood risk areas. Signalling the UK government's apparent preference for the Flood Re solution, UK Environment Secretary Owen Paterson said last week: "Flooding is terrible for anyone affected by it. We have worked extremely hard with the industry to reach an agreement on the future of flood insurance. There are still areas to work through but this announcement means that people no longer need to live in fear of being uninsurable and that those at most risk can get protection, now and in the future." Along with many market commentators, the Efra committee welcomed the Flood Re proposals. "We endorse in principle the agreement between the government and the insurance industry to introduce a levy-funded insurance pool for households at high risk of flooding which will keep premiums affordable for all," the Efra committee said today in a report entitled Managing Flood Risk. However, it warned the plans raise many questions about the operation of Flood Re, in particular how the scheme will be accountable to ministers and parliament, and how taxpayers' interests will be protected in the event of an extreme flood event requiring funding beyond the capacity of the scheme. It is unclear who will bear the costs from a 1 in 200 year flood event, it said. The committee is also concerned that the approach does not achieve 'the value for money normally required of government policies'. Furthermore, it says it is unclear how assurances will be enforced to limit the amount of levy to be paid by all householders and maintain premiums at affordable levels for those in the scheme. It insisted safeguards are introduced to keep the cost of cover down for insurance buyers. The regulatory regime must be fully transparent and open to parliamentary scrutiny, it said. "Ministers concede that they must publish further details on these issues. These must be provided urgently so that parliament can scrutinise fully both the Flood Re scheme proposals and the measures in the Water Bill," said the committee. Because of uncertainties around Flood Re, the UK's Parliamentary Under-Secretary for Natural Environment, Water and Rural Affairs, Richard Benyon, said in a ministerial statement that his government will also seek powers in the Water Bill to regulate for affordable flood insurance. "This approach would be pursued if Flood Re would not, or does not, deliver what we need, and insurers are otherwise unable to keep prices at affordable levels," said Mr Benyon. If introduced, the fallback regulatory approach would place an obligation on each insurer to take their share of high flood risk households, or face penalties. This Flood Insurance Obligation would have the objective of sustaining the existing market for high-risk households at affordable prices. This approach would not suit insurers, warned Fitch this week. "There are still significant challenges in agreeing the detail of the scheme [Flood Re] but we believe there is a strong incentive for insurers to find a solution, as the government's fall-back of direct regulation would be much more burdensome. Regulation would force insurers to take a specific share of high-risk households or face penalties. This would increase costs and limit insurers' freedom to choose the market sectors they target and their ability to price appropriately for risk," said the rating agency. Speaking to Commercial Risk Europe, Malcolm Tarling, spokesman for the ABI, assured that Flood Re is the UK government's and ABI's preferred option. "The agreement we reached with government was to establish a framework under which we can develop Flood Re. Until last Thursday we were discussing the options available. The government now agrees that the proposal we have come up with is the way forward. Now we need, with government, to iron out some of the operational issues that need to be resolved before it can be fully up and running," he said. Mr Tarling also explained that due to the individual nature and assessment of business risks, available and affordable flood insurance is less of an issue for commercial properties than for homes. "The overwhelming majority of commercial insurance is placed through a broker. So businesses and commercial risks are already largely served by brokers and intermediaries who can arrange cover. Flood insurance is an automatic inclusion in most business policies," he said. Therefore, as demanded by government, Flood Re's primary focus is on domestic properties. Flood Re would establish clear rules for borderline cases where the line between domestic and commercial property is thin. "One of the things we need to sort out in the intervening months is to work out clear guidance and demarcation in border lines between domestic properties and commercial, this can be quite hazy. I think the defining factor in deciding what and what is not included is whether the property is where a person lives. If it is your home and your business that will likely be the criteria, but this is something that needs to be decided. There need to be strict boundaries between what is domestic, and covered, and what is not," he said. Airmic have not been involved in discussions over Flood Re or alternative schemes because the issue of available flood cover has centered on domestic property. But the association's Chief Executive, John Hurrell, concedes smaller commercial insureds-generally not members of his association-could come unstuck. "Most of our members who have extensive property portfolios are happy to take high deductibles for flood risks or to go self insured, if flood cover is too expensive. So I think the problem will mainly now fall on smaller commercial insureds who fall outside of the new scheme but who don't have the balance sheets or negotiating power to find their own satisfactory solution," he told CRE. Market observers and players have been quick to praise the Flood Re proposals. "Risk pools of the type proposed by the UK government and the Association of British Insurers have been successfully adopted in many other European countries. The plan, known as Flood Re, means customers in high-risk areas will not be forced to remain with their existing insurer, as happens under the expiring deal that was first agreed with the government in 2003. This had resulted in some insurers, which were covered by that agreement, holding a disproportionate number of high flood-risk properties," said Fitch. James Rakow, Insurance Partner at Deloitte, said the agreement cannot come a moment too soon for the 200,000 households in Britain whose homes are at very high risk of flooding. "A key challenge for insurers is to ensure that their risk models and flood data are accurate enough to make effective pricing and underwriting decisions," he said. Mohammad Khan, Insurance Partner at PwC, said last week's announcement on the flood insurance fund is good news for homeowners in high risk flood areas. He also pointed out that under the terms of Flood Re new build in high flood risk areas without adequate protection is discouraged. New properties built without such flood measures will attract much higher insurance premiums, he said. "This is important, as it means that insurance companies are not left with the risk of insuring properties that would be almost guaranteed to flood every year with a very high annual claims cost. This would inevitably mean that the homeowner would have to pay very high premiums to cover the certainty of high annual claims costs," he added. Robert Rogers, Head of UK Reinsurance at Willis Re, also welcomed the move. "Willis Re believes that the proposed pool will not impose a significant administrative burden on insurance businesses nor undermine the commercial environment, which will therefore continue to compete to best underwrite the flood risk," he said.

Flood Re welcomed but proposals under scrutiny

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