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Standing Committee on Social Policy and Legal Affairs
Residential strata title insurance
House of Reps
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Standing Committee on Social Policy and Legal Affairs
CHAIR (Mr Perrett)
Moylan, Judi, MP
Symon, Mike, MP
Christensen, George, MP
Entsch, Warren, MP
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Content WindowStanding Committee on Social Policy and Legal Affairs - 16/02/2012 - Residential strata title insurance
BOOTH, Mr Dallas, Chief Executive Officer, National Insurance Brokers Association of Australia
Committee met at 09:04
CHAIR ( Mr Perrett ): I declare open this hearing of the House of Representatives Standing Committee on Social Policy and Legal Affairs inquiry into the operation of the insurance industry in disaster events. I would like to acknowledge the Ngunawal and Ngambri people—the traditional custodians of this land—and pay our respects to the elders; past, present and future. The committee also acknowledges the present Aboriginal and Torres Strait Islander people who now reside in this area and thanks them for their continuing stewardship.
Please note that these meetings are formal proceedings of parliament. Everything said should be factual and honest, and it can be considered a serious matter to attempt to mislead the committee. This hearing is open to the public, and a transcript of what is said will be placed on the committee’s website. Welcome, Mr Booth. Would you like to make an introductory statement before we proceed to questions?
Mr Booth : We appreciate the opportunity to provide some information to supplement our submission and to answer any questions that might be needed. I am presuming that the submission has been covered. I just want to make a couple of very quick points and I am happy to answer questions and have discussion. Clearly there is a serious market challenge for Australia in northern Queensland—there is no doubt about that. There is overwhelming evidence before the committee to that effect. There are some interesting aspects of strata that have emerged as a result of this particular exercise. Strata is an interesting area in that it is not normal residential or normal commercial—it is somewhere in between. Strata in itself has enormous variation, from quite small properties to very large multistorey buildings—effectively large commercial operations in their own right—yet these are all covered by largely similar sorts of legislation. There is a market issue. We do not believe there is market failure. There is market capacity, but it clearly is limited and the market is struggling at the present time.
The committee has heard from insurers and from the Insurance Council of Australia on a range of factors, and I am happy to talk about some of those if you wish. I will not repeat them now. Clearly cost of claims, cost of reinsurance, making sure that prudential standards are observed by insurers and general capacity to operate in the market are what is there. When there are difficult markets sometimes it takes a bit of time but normally those markets tend to sort themselves out, in terms of both availability and affordability. But there are a number of interesting factors here. One of the critical issues for North Queensland is the potential impact of future weather events on insurance generally and on insurance for strata. So there are difficult issues, and we acknowledge that.
The second issue we want to mention—and it is mentioned in our submission—is that a lot of insurance for strata is purchased by strata managers. They are not insurance brokers. They are not qualified or trained to do proper, comprehensive risk assessments or to give comprehensive personal advice to owners corporations on the nature of the risks, what insurance might be appropriate and what insurance might be available, or on how to approach the insurance market on behalf of their clients. So we think there are issues in relation to the purchasing of insurance by strata managers. Clearly in one sense it is self-serving but I think it is also fair to say that strata owners deserve professional, competent advice in the insurance context, which we suspect in many cases they are not getting at the moment.
There are some technical aspects of strata that have come out in the evidence to date. One of them, which I personally was not aware of, is the claim frequency—the number of claims that are being made against strata policies because of very low excesses. That is clearly an issue which may well be peculiar to strata. I personally was not aware of it from the feedback I have received but it is now on the record for the committee.
The final comment is one of our concluding remarks. There are various factors that impact on the cost of insurance but ultimately the cost of insurance reflects the cost of claims, and there have been severe claims experienced over the last period of time in North Queensland—in Australia generally but particularly in North Queensland. There is evidence to the committee of the personal experience of one insurer who is active in that market, and that information is on the record. At the end of the day NIBA strongly supports COAG policy and Australian government policy on resilience, risk mitigation and risk management as best as it can possibly be done, on a whole-of-government approach. As I think others have said, insurance will not fix floods. Insurance will not prevent cyclones. A whole range of activities will mitigate the damage and loss which would otherwise occur when the next cyclone hits North Queensland and when the next storm event hits the coastline of Australia.
CHAIR: Thank you, Mr Booth. Could you explain the typical commission? You are talking to a former electrician, a former lawyer and people from other callings where the fee for service is an hourly rate. That was certainly part of my day-to-day existence. Could you explain how the commission works? What is it a percentage of, and if the premium increases how does the fee change? Also, more importantly, what is done to earn that fee? Is it on a fee-for-service basis just generally?
Mr Booth : First, brokers are required to fully disclose their fee basis to their clients. Again, strata sits somewhere in the middle of this regulatory environment. Is it personal advice to a personal customer which is subject to the full gamut of financial services regulation, or is it something else? At the end of the day it does not really matter if it is subject to FSR—and most insurers and most brokers operate on the basis that it is: it is residential insurance for a corporation with a very small number of employees, so in one sense it falls within the small business definition of FSR. Most insurers treat it as personal advice. Fundamentally part of that is full disclosure of commission arrangements both through the financial services guide that is issued at the start of the relationship and through product disclosure statements and other information. Even if it is not, members of NIBA commit to give full disclosure of their commission and other structures to their clients through the Insurance Brokers Code of Practice. So there is no—
CHAIR: That is the macro. Can you unpack the micro?
Mr Booth : How it works in practice?
Mr Booth : It operates in either of two ways. It can either be a fee-for-service arrangement where an agreed fee for the nature of the service is agreed between the client—
CHAIR: So it is not an agreed hourly rate or anything?
Mr Booth : It will be a lump-sum rate or an agreed fee or it will be a commission. Probably the commission is more common in strata.
CHAIR: And what is the normal commission?
Mr Booth : Commission rates of around 20 per cent are regularly quoted. Commission does two things. First, it remunerates the broker for the services that they provide to their client. Second, commission covers the cost of a distribution mechanism for the insurer. Insurers operating through intermediaries—and I think Zurich has said that they operate primarily through intermediaries—actually do not have a distribution mechanism of their own right. Their products are sold and distributed through insurance brokers right across Australia. So if they were operating under a different model they would incur the cost of implementing a distribution process. They do not have that. So the commission covers two things. It covers the advice provided and it covers the distribution process which is provided on behalf of the insurer. As to what services are provided by the broker for the commission and what the service is to the client, we have outlined those on the first two pages of our submission. They assist the client to assess the risks and to determine what insurance might be available and how risks might otherwise be managed, and also they purchase the insurance on behalf of the client.
CHAIR: We heard evidence up and down the North Queensland coast that the broker would not necessarily physically inspect or even clap eyes on the facility at any time.
Mr Booth : A good broker has to establish the nature of the risk. They will work with the client as best they possibly can to establish whether it is a routine block of flats with no particular features—
CHAIR: That could be based on the oral evidence of the client?
Mr Booth : Clearly there is a legal duty on the client, and effectively on the broker in the shoes of the client, of utmost good faith in terms of the information that they put before the insurer.
CHAIR: But the insurance contract is between the client and the insurance company; it is a service contract between the broker and the client.
Mr Booth : Yes, with fairly substantial professional indemnity obligations if the relationship between the client and the broker falls down. There are obviously professional indemnity issues there.
CHAIR: In our other insurance inquiry you gave evidence of the strong relationship between the insurance company and the broker in terms of trust. Your association had a lot of long-term professionals in the field who have had a good relationship with the insurance company—and their clients as well.
Mr Booth : Particularly with their clients, that is right. For relatively routine risks there is no real need for a broker to actually physically inspect a property. The duty is on the broker to make sure that sound, comprehensive, accurate information which reflects the nature of the property and the nature of the risk is presented to the insurer. If there are special circumstances or special risks peculiar to the property, clearly there is an obligation on the broker to understand those risks and make sure that accurate information is presented to the insurer on behalf the client. To the extent to which that may require inspection, it may require, for example, engineering reports as to technical aspects of buildings and other things. For buildings that are built directly on the coast and directly exposed, there may be specific issues in relation to that that will require further investigation so that a full and complete description of the risk is presented to the insurer.
CHAIR: It is outside your bailiwick in a way, but would you have an idea of the usual strata title manager’s commission for the insurance—not overall but for the insurance component?
Mr Booth : I am just not aware of the level of commission which might be paid directly to strata managers.
CHAIR: You are on the record here, obviously, but do you have any idea of what they do for that service? Do they make a phone call to the general insurance company or do they phone around? Could you also compare and contrast this with what a broker might do in a typical circumstance when it comes to getting insurance. Is it, ‘We were with CGU last year and we’ll be with CGU next year. The price they offer is the price, and that is it. I’ll get my 20 per cent’—is it money for jam for the broker or the strata manager?
Mr Booth : It depends entirely on the nature of the relationship between the strata manager and the insurer. In the Corporations Act and under financial services regulation there is a concept called authorised representative, which is basically your distribution agent. There is evidence before the committee that many strata managers are appointed as authorised representatives of an insurer. So they are the agent of the insurer.
CHAIR: So they are not the servant of their client?
Mr Booth : For the purposes of insurance and for the purposes of that financial service they are the agent, the authorised representative, of the insurer.
CHAIR: So their loyalty—and I know we are using a different legal term—or their line of command is to the insurance company rather than to the person who is reposing trust in the advice they provide about what insurance should be used for the building? That is a bit of a leading question, Mr Booth, but feel free to respond as you wish.
Mr Booth : I am a lawyer by training but I will not give a considered view on that one. I take the point.
CHAIR: And then can you unpack what a broker does for their clients?
Mr Booth : In some instances insurance brokers are operating as authorised representatives. Where that is the case, they will make it very clear to the client that they are there in a representative capacity for the insurer. But the overwhelming nature of the insurance broker relationship is to act on behalf of the client and to take the client’s risk to the insurance market, and they are at all times accountable to their client for the business that they put in place. Their fiduciary duty is to the client and their obligations under the FSR generally are to the client and not to the insurer. That is where they would make the decision in terms of availability of cover, whether they need to go to one or to a number or to the total market if it is only a small number of suppliers.
CHAIR: The business relationship, then, is with the insurance company. Some businesses have a good relationship; sometimes it is a bit strained. But that ongoing business relationship is different to the loyalty to the client and fiduciary duty?
Mr Booth : It is not only loyalty; it is a fiduciary duty to the client.
Mr Booth : So the actual engagement and responsibility of the broker as a professional adviser is to the client.
CHAIR: And, just to be clear, there is no fiduciary duty between the strata manager and the body corporate they are managing?
Mr Booth : I am not aware—
CHAIR: My understanding is that would be a contractual relationship.
Mr Booth : I am not aware of whether things like secret commissions laws might apply. I have not considered that. I have not investigated that. That is why I am hesitating, Chair—because there are other areas like secret commissions and things that may or may not be relevant that I have not fully considered.
Mrs MOYLAN: I think this point came up in the general inquiry—the bigger inquiry. Some people expressed frustration at making claims where they had engaged a broker. When they went to the insurance company the insurance company would not process their claim and referred them back to the broker. That seems to cause a lot of frustration at times for individuals. Would you like to comment on that?
Mr Booth : Part of the service that brokers offer to their clients is to assist the client at the time of a claim. The overwhelming anecdotal evidence is that clients who purchase insurance through a broker and who are then represented by the broker in the claims process have their claims dealt with quickly and more successfully than those who deal directly with insurers, essentially because an insurer might say no or challenge the claim in some way and an individual acting on their own behalf might be unsure what to do next. Yes, there are complaints processes and so on, but a broker will know very quickly whether a particular loss is covered by a policy and will be able to take that argument back to the insurer straight away.
Mrs MOYLAN: I will just go another step with this. I am not sure of this, but you may know whether the frustration might have been because brokers do not have a 24-hour hotline. If there is a disaster, people want to ring straightaway and start getting things moving. Would that be an issue, do you think, that caused the frustration of people trying to lodge claims?
Mr Booth : I spoke about this when I gave evidence to the committee in relation to the other aspect of the inquiry. Times of major disaster put massive stress on the insurance process generally, whether it is the original process of making a claim, the assessment of the claim or the assessment of the loss. There are massive stresses and strains. What we do know is that insurance brokers in the last 12 months, particularly in Queensland, have worked very hard on behalf of their clients. Because of the amount of work and because some brokers’ offices themselves were damaged or flooded we know that a totally optimal service might not have been be available at all times, but we do know that the brokers in Queensland have put phenomenal effort in to do the very best they possibly can. I think that is probably all we can ask in those sorts of times.
Mrs MOYLAN: Has your association, though, considered the sort of scenario that well might occur where the event happens on Friday afternoon and people are left not able to do anything, if they go through a broker, until Monday morning in business hours? Has the association considered that there might be some kind of emergency number that could be called in those cases?
Mr Booth : We honestly have not investigated that. It has not been recommended to us by our members. But we are certainly more than happy to talk to our members as to whether a service of that nature would be appropriate, particularly an out-of-hours type service. We know that the Insurance Council of Australia is heading in that direction on behalf of people who place insurance directly with insurers.
Mrs MOYLAN: Actually the Insurance Council, in the case of the fire that swept through Toodyay in my electorate, rang me almost immediately when the extent of the fire was known and had people on the ground in that country town very quickly as part of the recovery team—almost within 24 hours is my recollection. You can understand the frustration of someone whose home is completely destroyed, whether it is by a flood or a fire or some other catastrophic event, if they cannot get hold of anyone to get the claim processed until perhaps Monday when the event happens on Friday. It can be very distressing for them.
Mr Booth : We do know that in times of those disasters insurance brokers have not observed business hours. We do know that. But by the same token it is likely that more could be done, and we would be more than happy to investigate that.
Mrs MOYLAN: Even some kind of rostered system, perhaps, in the case of a disaster.
Mr Booth : That is right.
Mrs MOYLAN: Thank you.
Mr SYMON: Mr Booth, I would like to ask you about the point, on page 5 of your submission, that some of your members have thought that the insurance market has been underpriced in previous years. Has that been a widespread view and is it long term?
Mr Booth : The comment was primarily in relation to the North Queensland strata. I made inquiries through our own members and through the Council of Queensland Insurance Brokers about the general state of the marketplace, and the view generally amongst brokers was that the market probably was underpriced for the last period of time. So that is a general view amongst brokers. There is evidence before the committee from one insurer of the state of their own book over the last five years in terms of the losses that they have sustained.
Mr SYMON: You go on in that section to talk about sound underwriting practices combined with resilient strategies to address that. Would that indicate that there were some not quite so sound underwriting practices in the past in that area if it was going out at a lower price than it should have been?
Mr Booth : Insurers form their prices based on a whole range of factors and they are constantly reviewing their prices all the time. I think there is evidence to the committee about that. One of the factors is the competitive nature of the Australian insurance market. Insurers in the direct space are very competitive between each other. For insurers in the intermediated space, which is where brokers operate, brokers effectively create the market by taking the risks to different insurers and getting the best possible price for the cover that is required. So a competitive market operates. The competitive pressure therefore is one of the factors that influence insurer pricing decisions. Other key factors of course are claims experience, reinsurance costs and the need to service capital which they need to support the business with. The cost of claims is probably the overriding factor. Insurers are always taking available data and assessing what price they think they should be charging. They look at the state of the competitive nature of the market and they work out how the market is. They look at what APRA is doing in terms of how much. So it is a constantly evolving situation for insurers, and brokers obviously play a role in trying to get the best price they can. In one sense customers and clients have had the benefit of probably lower than appropriate premiums for some years. But a pricing adjustment has had to occur.
Mr SYMON: Because of catastrophic events which then obviously push the whole pricing structure up?
Mr Booth : I think the biggest impact on pricing in Australia has been the response of the reinsurers into the market.
CHAIR: I am just going to not ambush you but just talk about a paper we have received. It says ‘draft’ but I think the actual version is available on the Insurance Council’s webpage.
Mr CHRISTENSEN: In fact, Chair, we heard evidence from the insurers themselves that reinsurance was the largest part of the risk, and again we are hearing it from Mr Booth today, but the paper we have received from the Insurance Council seems to indicate drastically otherwise.
CHAIR: And they said it was quite unusual to have insurance companies come together. This is aggregate data—and it is North Queensland data. If you look at the bar graph down the bottom, that is 100 per cent—obviously there is no GST, stamp duty, broker’s premium or strata manager’s commission or anything like that. This is just for the insurance company.
Mr ENTSCH: But they have put a percentage on that anyway.
CHAIR: They say natural peril risk—as in cyclone, flood, drought, flooding rain and all of that—is 36 per cent. The claims history is 30 per cent—and we had evidence that it is about 10 per cent for domestic properties and less for commercial properties; I think we had evidence that it was about five per cent claims for a commercial strata title property. Then reinsurance costs are six per cent. I am not sure if that is higher than it was. Then there are operating costs for the insurance company and then two per cent profit margin. I must admit I was a bit surprised to have this data. It is not an actual individual contract but it is aggregate data for North Queensland. Would you like to make comment on that? We were certainly led to believe by the evidence from strata title residents and even from brokers, and certainly from companies, that reinsurance was the biggest or the most significant factor in terms of the premium jumps that we have seen in North Queensland—the 100, 200, 300, 400, 500, 600, 700 or 800 per cent jumps that we have had. I think we have had as high as 800 per cent.
Mr Booth : There are two things here. I want to distinguish between the on-average components of a premium—and I think the bar chart is a very fair reflection of on-average components of a premium. What has happened in Australia, and in particular with the Queensland risks for the last 18 months or so, are two things. It is not just in the last two years—in the last five years there has been Larry, Yasi, a whole bunch of other things and the Queensland floods. So a very severe series of serious natural disaster events have occurred. That alone has forced insurers to seriously look at their underwriting and their pricing for Queensland property risks and to seriously review the situation. The other key factor—and I believe it is a genuinely key factor—is from a reinsurer point of view. Look at the Asia-Pacific experience for 2011. You have Christchurch, you have Queensland, you have some other, less influential, parts of Australia, you have Japan and you have Thailand. The reinsurance costs coming out of the Asia-Pacific for 2011 are phenomenal. They are probably larger than what they would regard as normal by a factor of 10 or 20 times. So there has been a major review by reinsurers of the pricing of the region. That has a direct impact on different insurers in different ways because each insurer has its own complex reinsurance program that it puts in place. But reinsurers have done two things. From what I understand—and this is in the insurance media generally—reinsurers have increased their own excesses, so they are insuring less at the bottom level. They are forcing insurers to take more risk and to take a greater proportion of the risk themselves. So they will be there for the big catastrophic claims but they will not be there for the severe storms and so on. They are forcing insurers to take more risk themselves. Second, they are reviewing their pricing as well. I am not saying that reinsurance is the biggest component of cost and I am not saying that reinsurance is the biggest component of the price increase. What I am saying is that the nature of the market in the way in which it is priced is being influenced very severely by two things: first, the experience of storm, water, flood and cyclone damage of the last five years, from Larry onwards; and, second, quite serious and fundamental changes which are impacting on insurers coming from the reinsurance market. They are having a very severe impact on insurer pricing. I am not saying that they are the specific causes of a price going from $8,000 to $30,000. But certainly there is a whole combination of factors in there which are driving the changes.
CHAIR: So that 36 per cent could be a significant factor—the actual natural peril risk—because it would reflect the reinsurance costs as well. I assume they are linked together in a way—are they? In terms of the evidence you just gave about Thailand—
Mr Booth : If the insurer is taking a greater proportion—if instead of paying the first $500 million they are now paying the first $1 billion of losses in respect of natural perils—they have to price for that. So the 36 per cent will become a bigger—
CHAIR: And capital has gone up—
Mr Booth : And they will then have to put capital in to back that up, and they will have to service that capital and so on. So whilst it might not be the specific driver of an actual price increase there is a very significant dynamic change happening. We are talking about this to our members on a very regular basis at the moment. I think it is actually putting a huge challenge on insurance brokers and it will require insurance brokers to work much harder on behalf of their clients, because the insurers are changing the nature of their cover. The far more widespread introduction of flood cover is occurring. Second, they are changing their underwriting criteria, so the terms and conditions on which they write cover are changing, and they are changing their pricing because of all the factors that have been discussed before the committee. So this is quite a challenging year for brokers.
Mr ENTSCH: In your opening statement you said your view was that the strata managers were bypassing the brokers and this was a problem. That does not seem to reflect what is actually happening—and I can only talk about far northern Australia—inasmuch as you said later that a number of the insurance companies will only deal with clients through brokers.
Mr Booth : Yes.
Mr ENTSCH: From my experience and evidence we have been given, many of them cannot go directly to the insurance companies if they are trying to save a broker fee, because the insurance companies will not take their inquiry unless they go through one of their preferred brokers. So how can there be a bypassing of the system? In your submission you say that for over $5 million there is really only one insurer now in northern Australia and a couple for others. How can it be the case that the strata managers are bypassing the brokers to go to the insurance companies when the insurance companies will not accept them?
Mr Booth : I have had a brief review of the transcript. CGU has said to the committee that they have authorised representatives who are strata managers. So there are strata managers there who are authorised to take insurance to CGU. That is one of the models that they work under. So the strata manager does not have to go and see a broker. More likely they will just get the relevant price from CGU.
Mr ENTSCH: Or Zurich.
Mr Booth : Zurich has said that it does not use authorised representatives; it has said it uses the brokers. So from the insurer perspective they are using a different distribution model. Zurich is using the broker intermediaries and CGU uses both intermediaries who will take business to CGU—
Mr ENTSCH: So you are saying that the CGU model is—
Mr Booth : CGU also has its own agents, called authorised representatives.
Mr ENTSCH: So you are saying that the CGU model would, in your view, be flawed?
Mr Booth : I would not say it is flawed. I would argue, and we do argue, that it is in the interests of owners corporations to be fully and professionally advised by competent insurance brokers.
Mr ENTSCH: The other thing that has come out when we have asked individuals who have used brokers is that the number that actually inspected properties was very low. So they basically took the order, placed it and came back. That is those that were able to get a price. So there is a very low incidence of brokers actually going out physically onto the property and assessing the risk and then passing that advice onto the insurance companies. There seems to be more evidence that they are order takers. What would your comments be on that?
Mr Booth : At all times the fiduciary duty of the broker is to properly present a comprehensive and accurate description of the risk to the insurer. It may well be that in a large number of cases they can do that without having to physically inspect the property themselves, based on their own knowledge of the risk and the property and their own dealings with the owners corporation over a period of time. As I said, there would no doubt be other instances where a property would have peculiar features. I think in those cases it would be incumbent upon the broker to take whatever steps would be appropriate to fully understand the nature of the building and the nature of the risks faced by the building and to make sure that those risks are properly presented.
Mr ENTSCH: In your submission you say you do not believe that there is any evidence of a broad market failure. When you say broad market failure, you obviously are talking nationally. What about a regional market failure?
Mr Booth : The classic example of broad market failure is terrorism. Following 9-11 you could not buy terrorism insurance full stop, for any property. So there was clearly a market failure. The Australian government responded to that by the creation of the terrorism insurance pool. Fortunately that pool has not had to be called upon. That was a clear market failure where you could not buy terrorism insurance from anyone anywhere in the world. In North Queensland there is an extremely difficult market at the moment with limited supply. There is no doubt about that. It becomes market failure when you do not have any supply. But I can certainly appreciate the hardship and the difficulties that many people are sustaining at the moment because of the limited supply into that market.
Mr ENTSCH: What do you say to your brokers when there is an inquiry for an insurance premium and they ring insurance company after insurance company and they say, ‘We don’t want to talk about it because it is above postcode 4363.’ There is now only one that provides a service, which, on the evidence we have, is absolutely and totally unaffordable at the current rate—and there is a suggestion that it is likely to increase. So people cannot afford to buy at today’s rate, and there is one choice. Would you not believe that to be regional market failure?
Mr Booth : I cannot deny that it is getting very close to market failure.
Mr ENTSCH: And of course we have examples of where people cannot get insurance at all, at any cost.
Mr Booth : I do not want to be seen to be taking the issue lightly. The issue is a real issue. At the end of the day we know that in respect of flood some properties are essentially uninsurable. It is a fairly glib statement, but insurance works really well when things might happen—and they might happen every five years or they might happen every whenever. But when things are almost guaranteed to happen—and we know that a certain creek floods every three years or that certain other things happen and we know that Queensland is going to be hit by another cyclone—insurance does not really work all that well because you cannot spread the risk.
CHAIR: Is it like a bookie not taking bets on Black Caviar?
Mr Booth : That is ultimately what it comes down to. Ultimately it is a risk, it is the prospects of a loss arising—that is what the actuaries do. If the insurer assesses that the prospects of a loss arising of a particular group of policies is just too great then insurance ceases to become viable and some other funding mechanism or solution needs to be put in place to manage those risks. That is why we think the COAG process on resilience and disaster management is so important. Insurance will only ever be part of that equation and part of that solution.
Mr ENTSCH: You say that it is all about increased risk, and we are talking about cyclones and floods. We are not talking about floods in northern Australia; we are talking only about cyclones. We are talking about a region that has since the late 1970s had to comply with particular building codes, which puts a very significant—I think it is 20 or 30 per cent—increase on the cost of building as compared to the southern areas. When you look at the actual series of events, there is a report that I have coming to the committee that was commissioned by the Insurance Council of Australia which shows quite clearly that the number of catastrophic events has actually significantly decreased since 1967 and extrapolating out into the future it suggests that it is not likely to get any greater. You have had one event in Darwin in over 25 years. There has been no other damage. You have had two events in Queensland—relatively moderate compared to Darwin, and most of the damage has been done to pre-1980s constructed buildings. It does not seem to make sense that suddenly you have these massive increases because there is a much greater risk, when every week you pick up the paper and see large areas of metropolitan Australia being damaged by cyclonic winds and yet you do not see the same price increase on strata units in Sydney, Melbourne, Brisbane or Canberra. I just wonder if you have a thought on that.
Mr Booth : I saw a chart which gives a very different picture of the 30-year history. It is on page 7 of the CGU submission. That is using data from Munich Re, which is one of the world’s biggest reinsurers. It is looking at major catastrophes and their effects in Oceania.
Mr ENTSCH: But you see that is Japan and that is cyclones and earthquakes.
Mr Booth : From a reinsurer perspective they look at Australia, New Zealand or Oceania—not necessarily Oceania; the reference there is Australia and New Zealand. So you are not talking about Japan and so on. But in Oceania from 1980 to 2010 there is a very clear increasing trend in major catastrophes.
Mr ENTSCH: Why doesn’t it happen in Sydney and Melbourne? They are in Australia too.
Mr Booth : At the end of the day the cost of reinsurance is having an impact on all property insurance in Australia. It will have a differential impact on some of the regions within that, no doubt. The other fundamental about insurance is the pooling of like risks. When I insure my motor car I want to be insured with the pool of safe drivers because I happen to have a very safe driving record, thank heavens. I do not want to be in the pool of drivers who are seriously accumulating points and so on and crashing their cars. So you pool like risks. The sharing of the costs of like risks is what insurance is all about.
Mr ENTSCH: In your submission, relating specifically to brokers, you say that risk has traditionally not reflected the true cost of the risk that was transferred to the insurers. So they underestimated the risk. That was evident with Zurich when they first entered the market in Cairns. They undercut everybody and as everybody started to drop out they started to increase their prices. Given that that is the case with Zurich, which relies exclusively on brokers to negotiate these deals, were your brokers falling down in providing advice with regard to risk for the properties that they had asked Zurich to insure, given that just in the last couple of years Zurich’s prices have increased—we have had examples of up to 1,000 per cent increase in two years? Was there a failing on the part of your brokers to provide appropriate and accurate information to the insurer, given that they use them exclusively?
Mr Booth : I am sure that that is exactly what they did. At the end of the day Zurich would have formed their view at the time in terms of the price that they wanted and needed to charge and were happy to charge for that portfolio. The other crazy thing about insurance is that there are lags in available data. What is the true cost of Yasi? Well, in a couple of years time, once virtually all of the claims are paid, we will know the true insured cost of Yasi. We probably do have a good idea of the cost of Larry because all those claims are finalised from an insurance perspective. So there are lags in terms of how this process operates. It is inevitable that insurers often do underprice experience until the true cost emerges. The reports I am getting are that prior to Yasi the market was already starting to move as insurers were realising that they in fact were undercutting the price and not charging sufficient for the risks, particularly in North Queensland.
Mr ENTSCH: It is just hard to believe that there is a 1,000 per cent discrepancy over a couple of years, I am sorry.
Mr Booth : We do not have access to the internal records and the price engines that drive this stuff—and the commercial decision making. That is very much done in-house within the insurers. Brokers do their best to make sure that they can get the cover that they need at the best price. If an insurer is charging an insufficient price for a period and a broker can get the benefit of that for their client, that is probably a good thing. What brokers do not want is for insurers to fail to meet the claim at the end of the day—in other words, to have the capacity—
Mr ENTSCH: Mr Booth, we have a division. It could take about 10 minutes or so. I would like us to have a break and come back. We might lose a few committee members but—
Mr Booth : I understand.
Proceedings suspended from 09 : 52 to 11 : 07
Mr CHRISTENSEN: Mr Booth, in an earlier question Mr Entsch alluded to the point that there was only one insurer in the market. In fact, to go a bit further, there is only one insurer playing the field in every town in North Queensland. I will explain very briefly. We have, I believe, Zurich supplying insurance to new customers for strata title units valued at $5 million and above from Townsville north. Below, in Mackay and the Whitsundays, it is CGU. I could have that the wrong way round. What I do know is that one company is offering to one particular area and the other company is not, and in the other region it is the other way around. Is it strange from a broker’s point of view, given your knowledge of the industry, for that to be happening? Why do you think that would be happening?
Mr Booth : First, I have no information about that. I just do not know whatever is happening in that market.
Mr ENTSCH: It is the other way around, by the way.
Mr CHRISTENSEN: It is CGU in Townsville—
Mr ENTSCH: It is CGU from Townsville north. Zurich north of Townsville will only consider renewals, and at increased prices. They will not take new business.
Mr Booth : I have no knowledge of that. I do not know what the factors are and so on. My comment, I suppose—and I acknowledge the comments and the concerns expressed by Mr Entsch earlier—is that one insurer is not a market. Brokers and insurers talk about markets and taking a risk to markets. You have to have more than one to have a market.
CHAIR: There is effectively no market in North Queensland.
Mr Booth : It really is bordering on market failure where there is only one provider. That is obviously of concern to our members.
CHAIR: On that, have you heard whispers or rumours or talk of what insurance companies might do, or are you one step removed from that process?
Mr Booth : We are one step removed from what they might do. Clearly there has been a very comprehensive review of underwriting and pricing within insurance and within the major insurers—which is affecting brokers right across the board, right across Australia—as a result of all of the experiences in the last two years or so. Clearly it is impacting on Queensland in particular. But at the end of the day the broker’s role is to take the risks to the market, and it is very difficult for them to do their job well if the market is not operating in an efficient manner.
CHAIR: Is there anything else you want to add there?
Mr Booth : We mention in our submission that often the way to restore a market is through transparency of information, and in particular transparency of claims. We suggest that action be taken wherever available to gather and publish relevant claims information. It may well be something that the committee could discuss with the Insurance Council of Australia. There is an organisation which collects and collates industry data on a private basis. It is a member-based organisation. It is a company called Insurance Statistics Australia. It may be feasible, whether through ISA or through other means, to collect and make data available for the purposes of getting good, solid information into the marketplace and thereby encouraging other insurers to potentially return.
CHAIR: I would have thought there were lots of insurance companies that have a footprint in North Queensland that are in commercial, domestic and all sorts of things. It is not as if they would have to re-establish offices or anything like that. That might be something to pursue.
Mr Booth : The issue ultimately is reinsurance. You are talking about major disasters, so reinsurance is vital. They would have to have adequate reinsurance programs and they would clearly have to form a view on the pricing of the core product.
Mr ENTSCH: It is interesting because there are other insurance products in North Queensland that have not been affected yet. Their renewals have occurred. But they are in the same zone. I would assume that they would be facing the same risk.
CHAIR: Like cars, or—
Mr ENTSCH: Motor cars are a very good example. Normal residential houses are going up by a couple of hundred dollars; they are not going up by multiples of a thousand. So even in standalone residential housing, pre-1979, it is still affordable. You were talking about transparency. Just focusing on strata, you said earlier that the number of claims on strata title was significantly higher. I actually live in a strata complex and I was surprised when they said that individuals within a complex were able to put in claims without consultation with the body corporate. In my complex, if I want to claim I first of all have to advise the body corporate. They then have to tick off that it is appropriate to do so. I am just wondering whether there is some way in which that could help. Maybe what they are doing here is punishing everybody for the sins of a few. They said, ‘We’ll increase the excess.’ But we have had claims where they have gone from $200 to $35,000, which is ridiculous—it would be different if they went to $500. But if there were some sort of compulsion for the body corporate to initiate any individual claim within their complex or to confirm that it is in fact a legitimate claim on an event rather than a maintenance thing that they are trying to sneak through the insurance, would that sort of thing help?
Mr Booth : I think it would, absolutely. I was saying earlier that insurance does not really work for things that will happen; insurance works for things that just might happen occasionally. Also, insurance works for something major. I am talking about car crashes. It is much better that you have an insurance policy when somebody smashes into you and you have some pretty severe damage. It does not really work if you are going to put an insurance claim in every time you get a scratch in the carpark. So there is a level of activity under which you should be able to manage it yourself. That is what excess is all about, so that a lot of minor stuff is handled effectively by the client themselves. If something serious happens that is a potential threat to your financial position, that is really where you want insurance to be involved. I was not aware until I read a number of the submissions to this committee that frequency was an issue and that very low levels of excess were apparently prevalent in strata. I think that is clearly something which is—
CHAIR: They are saying 30 per cent.
Mr Booth : It warrants quite considerable further investigation to see whether the normal insurance approach of getting the rats and mice stuff, which really should be handled internally, done internally, with proper control through the body corporate committee and so on. That is really where that should be happening so that insurance is really only there for the more severe damage. I am not talking about tens of thousands; I am saying that thousands of dollars of damage rather than hundreds of dollars of damage is really where the insurance should kick in.
Mr CHRISTENSEN: Mr Booth, I want to go back to the issue that I first raised. In your field of expertise in the industry, if you have one insurer operating in the same region but in a specific area and not offering insurance in the other area and you have another insurer who is offering insurance in the area where the other one is not but not offering it where they are, does that open them up to allegations of collusion? You have privilege, so go for your life if you want.
Mr Booth : I do emphasise that I was actually not aware. I seriously—
Mr CHRISTENSEN: But you have heard that. Do you think—
Mr Booth : It is always asserted that there are reasonably close relationships between insurers. It is a common occurrence.
Mr CHRISTENSEN: By reasonably close—do they have conferences paid for by insurance companies or—
Mr Booth : I should disclose to the committee that in a previous life I spent eight years working at the Insurance Council of Australia between 1998 and 2006. During that period the Insurance Council of Australia was absolutely paranoid about the role and obligations of the insurance industry for trade practices and related purposes. It was constantly taking steps to ensure that not only the law but also the intent of the law was honoured. My experience of the insurance industry in Australia is that rather than being too collusive it is probably sometimes too competitive. It is actually at the opposite end of the spectrum. The evidence of that is the Zurich evidence before the committee—the fact that they lost money for five years straight by not charging enough over a period of time rather than charging too much.
Mr CHRISTENSEN: All right. I will move on from there to another question. This inquiry, in the hearings that we had in Townsville and Cairns, heard evidence from policyholders of significant discrepancies between quotes that were provided by various companies. I think in one instance the figures were in excess of $120,000 or $130,000, and they made a couple of phone calls and came back with another company that was half the price or even lower. We have also seen significant gaps between quotes that are negotiated by body corporate managers and those negotiated by insurance brokers. In some cases, as I said, there were tens of thousands of dollars difference. Do you think, from your expertise in the industry, that it is a case of insurance companies just pulling numbers out of thin air and basically saying ‘take it or leave it’ as a result of there being low competition?
Mr Booth : My answer to the question is that insurance is both a science and an art. The science consists of very comprehensive, detailed technical analysis of available statistical data, with the actuaries projecting that forward—
Mr CHRISTENSEN: I do not mean to cut you short but I suppose the question then is why there is such a discrepancy between what two different insurers might offer for the same product.
Mr Booth : That is where the art comes in. That is the point. At the end of the day, history will tell you a fair bit about what you need to know for the pricing of your portfolio but you actually do not know how many cyclones are going to hit Queensland in the next two years. You do not know that. It might be four; it might be none. You do not know that. What insurers do is use the best science they can in terms of actuarial analysis—
Mr CHRISTENSEN: That is one thing I was trying to get from the insurers in Cairns when we met them. Do they actually base their actuarial work on scientific data and, if so, what is the scientific data?
Mr Booth : Primarily it is statistical data of claims, like I said. Ultimately—
Mr CHRISTENSEN: Statistical data of claims?
Mr Booth : Number of claims and cost of claims is ultimately what fundamentally drives pricing. But I was having a coffee with an insurer earlier in the week and he gave me report of that day’s update on El NiÃ±o and the whole cycle. So clearly they are looking at meteorological information. And at the reinsurance level you are looking at a huge amount of geographical and other information to try to understand what and where shakes are going to occur, where the bushfires are going to occur and whether the Thailand floods are a one-off. That is the sort of science that is absolutely relevant to property damage. Obviously weather worldwide is classic. On top of that you have the actual number and cost of claims and the analysis of that.
Mr CHRISTENSEN: I have two more questions. You mention in your submission that you do not believe there is a case for government intervention. Would you agree though that, given that strata title unit holders are compelled by law to take out insurance—and we know what the reasons are but they are still compelled under legislation—that there already is government interference in the market?
Mr Booth : Definitely. There is intervention. It is not a voluntary market, to that degree, on the purchasing side of insurance. Therefore it is desirable to have a proper market on the supply side. I cannot deny that there are some real challenges in that at the moment.
Mr CHRISTENSEN: In your submission you say that a core principle for the industry should be that body corporates need to ‘effect and maintain appropriate comprehensive insurance coverage’ for the property in question. One thing, again, that has come up previously in hearings of this inquiry is why the strata title or body corporates cannot have the flexibility to opt out from insuring certain parts of their property or to insure for lower coverage, or why legislative changes could not be made to provide greater flexibility in the level of strata insurance coverage that is available to body corporates while still protecting the basic property in question and the fundamentals of that property so you are protecting all the interests of the individual owners.
Mr Booth : I would like to talk about public liability and property. I would argue that with public liability insurance the protection there is for people who are coming onto the premises, whether it is family members, visitors or others in the area. I think it is a highly desirable part of public policy that those people have access to insurance so that they are not relying on cash in the bank if something occurs and a liability or injury occurs. In relation to property, people invest in these things. Effectively when you buy a strata property you buy the air inside your unit, but at the end of the day when you want to sell you cannot sell a bunch of air. You are selling a capacity to inhabit a unit or whatever. So you want to make sure that the building is intact and integral to maintain your investment. So I think it is desirable from the point of view of owners that there is that protection. The area that certainly does appear to be worthy of further investigation is this area of the excess and giving some flexibility to body corporates to negotiate with their insurer so that for the minor damage they can manage it themselves and fund it themselves through their own levies and sinking funds and so on and the insurance process is retained for the more severe damage—and give the body corporate some capacity to determine for themselves what constitutes more severe damage. For some of them it might be a relatively low number; some of them may have the capacity for a higher number.
Mr CHRISTENSEN: Do you think there could be any capacity for, for instance, a body corporate that is valued at, say, $10 million on the insurer’s books—
CHAIR: So the rebuild cost—
Mr CHRISTENSEN: The rebuild cost would be $10 million and yet the resale cost of it might be $6 million or $4 million. Do you think there should be capacity for people to insure for that lower amount?
CHAIR: If the value of the building is based on rental as well—the value of many of these strata titles is based on the rental return because they are like a commercial property, so as the rental return goes down in a deflated market the value of the building goes down. So, as Mr Christiansen is saying, there could be a $5 million difference.
Mr CHRISTENSEN: Do you think there could be capacity for government to look at—
CHAIR: Market value rather than—
Mr Booth : I would urge real caution on that, for this reason. If a loss event occurs, what you need is the restoration of the damage so that the people can continue. That has been a factor—it emerges particularly in the course of major bushfires where you have underinsurance—where people are not insured for replacement value. In many cases they are not able to rebuild the house at all and they basically just walk away from the property. They sell the property for land value, and whatever investment might have been there is essentially lost. So if replacement value is $10 million and you are only insured for $6 million and there is severe damage to the property there is a real question: do you really have a $6 million market rate investment in the thing or not? If you cannot afford to restore the building to its proper functioning then you do not have the $6 million investment; you have an investment in land value only. So I really do urge caution on that. It is a particular challenge, I know, for Queensland, where many of these older properties that are damaged are then rebuilt according to current building standards and that alone has an impact on the—
Mr ENTSCH: It affects the price significantly. It is interesting, though, because you have a situation where governments at all levels and of all political persuasions have now for quite a few decades been discouraging the urban sprawl—the ribbon development—and encouraging people into high-density living. So now we have people coming in in large numbers and now we are having this problem of affordability—they cannot afford to stay there.
Mrs MOYLAN: Just on rental-based valuation, it is fraught generally with all kinds of difficulties with strata because you will often find that these buildings have a mixed situation with some people residential and some being leased out. So you really are on risky, shaky ground to value it on rental value. I have not really read the new strata regulations in WA, because there have been big changes there, but I doubt that they would allow you to carry out a valuation on the rental value.
CHAIR: Thank you very much, Mr Booth, for your tolerance.
Resolved (on motion by Mr Entsch)
That this committee authorises publication, including publication on the parliamentary database, of the transcript of the evidence given before it at public hearing this day.
Committee adjourned at 11 : 29