HC 591 The cost of motor insurance

Memorandum from The Institute and Faculty of Actuaries (CMI 05)

About the Actuarial Profession

The Institute and Faculty of Actuaries is the chartered professional body for actuaries in the United Kingdom. A rigorous examination system is supported by a programme of continuous professional development and a professional code of conduct supports high standards, reflecting the significant role of the Profession in society.

Actuaries’ training is founded on mathematical and statistical techniques used in insurance, pension fund management and investment and then builds the management skills associated with the application of these techniques. The training includes the derivation and application of ‘mortality tables’ used to assess probabilities of death or survival. It also includes the financial mathematics of interest and risk associated with different investment vehicles – from simple deposits through to complex stock market derivatives.

Actuaries provide commercial, financial and prudential advice on the management of a business’ assets and liabilities, especially where long term management and planning are critical to the success of any business venture. A majority of actuaries work for insurance companies or pension funds – either as their direct employees or in firms which undertake work on a consultancy basis – but they also advise individuals and offer comment on social and public interest issues. Members of the Profession have a statutory role in the supervision of pension funds and life insurance companies as well as a statutory role to provide actuarial opinions for managing agents at Lloyd’s.

1. Background

Motor insurance offers cover to both personal and commercial customers in the UK and is compulsory in respect of third party property damage and third party bodily injury. Insurers collect of the order of £10bn in premiums each year. The Actuarial Profession commissioned a working party to investigate third party motor insurance based on some worrying inflationary trends being reported by individual insurers. The working party reported its findings at the UK Actuarial Profession’s annual General Insurance conference (GIRO) in October 2010. These findings were based on data it collected from 89% of the UK regulated motor market. In addition the working party also carried out research on international trends and the link between the legal framework and claim inflation.

2. A loss-making business

The motor insurance industry lost money in 2009 (as per the FSA returns based on combined operating ratios) - a loss of 21p for every £1 of premium for personal policies and an equivalent loss of 8p for commercial policies. The indications from the working party data are that the cost of bodily injury claims (which comprise around 50% of the cost of claims) are increasing at around 30% per annum. Insurance premiums are already rising significantly as a consequence. All this increase in claims cost is occurring, despite the number of accidents having decreased over recent years. The Confused.Com/EMB press release on 12 October cited market increases of 37.5% for comprehensive policies over the last year (more for non comprehensive policies). Customers shopping around will however pay increases substantially less than this. It is highly likely that material further increases will be required before the UK insurance market moves from a position of running heavy sustained losses to one where it can be placed on a sound and sustainable economic footing.

3. Drivers of rising claims costs

There are three elements in the inflating cost of the motor insurance to which we would like to draw the Committee's attention:

§ An ABI survey reports annual increases in the cost of insurance fraud of 14%, with a cost specifically to motor insurers of £410m

§ The increase in claims management companies and their activity in generating additional bodily injury claims and claimants in motor accidents

§ Linked to the above, the increasing proportion of claims which come with legal costs attached to them (where legal costs are incurred they typically make up about 40% of the total bodily injury claims cost).

At least the last two of these elements of cost are containable by appropriate legislation.

4. Other UK and international regimes

Scotland does not allow referral fees for lawyers. Scotland also does not show the high levels of bodily injury inflation seen in England. Other countries, depending on their legislation either have or do not have a problem. For example in addition to Scotland, France, Germany, Spain, China and Switzerland do not appear to currently have a problem. Ireland has largely contained the legal cost element. But on the other hand Hong Kong and Poland very much have a growing problem, and countries such as the USA have (depending on the state) a severe problem. Legislative approach underpins many of these differences.

5. Impact of new and potential measures

New measures were introduced in the UK on 30 April 2010 (the Ministry of Justice Reforms) whereby claims can enter a prescribed, time and cost limited process under certain conditions. It is possible that these may contain some legal cost elements. The current expectation of the working party however is that any cost containment may be very partial. Currently consultation is underway on the recommendation by Lord Justice Jackson (January 2010):

§ Banning referral fees

§ Abolishing the recoverability of success fees and ATE premiums

§ Increasing general damages awards by 10%

§ Introducing "qualified one way costs shifting"

§ Introducing fixed legal costs for fast track cases worth up to £25,000

§ Promoting Before the Event legal expense insurance

We believe that the findings of the working party provide important input to this consultation. In particular they identify the scale of the financial problems that the Lord Justice Jackson recommendations seek to address.

6. Further information

A summary report is attached in the form of a PowerPoint presentation [1] . In addition, members of the working party would be happy to meet with the Transport Select Committee to discuss their findings in more depth.

November 2010