Water Bill

Supplementary written evidence submitted by Association of British Insurers (ABI) (WB 22)

Please find attached the ABI’s written evidence to the Water Bill committee.

At the Water Bill committee hearing on Tuesday 3rd December 2013 I said that I would write to the committee with details of the additional costs that would be incurred including properties built after 2009 and properties in council bands H and I in Flood Re. The figures for those are below. It is important to note that the industry does not support making changes to these criteria, having reached a position of principle on targeting support to those who most need it.

Properties built after 2009:

Properties built after 1st January 2009 were not covered by the previous Statement of Principles agreement. Flood Re should incentivise rigorous and responsible planning decisions and it should not give developers an excuse to build inappropriately in flood risk areas – for this reason it is important that the ‘line in the sand’ of 2009 remains.

Including properties built after 2009 would mean an estimated 9,000 additional properties using Flood Re. The ABI has estimated that it would cost an additional £2.2m per annum to include these properties. This assumes that the cut-off date would be end of 2012, when data for house building is available. It would be higher if a later cut-off date was chosen. We estimate that this would increase the levy for all households by 1.2%.

Band H and I properties:

Including properties in council tax bands H and I would mean an estimated 2,800 additional properties using Flood Re. The ABI has estimated that it would cost an additional £1.9m per annum to include these properties. We estimate that this would increase the levy for all households by 1%.

Both properties built after 2009 and bands H and I properties

Including both properties built after 2009 and properties in council tax bands H and I would increase the levy for all households by 2.2%. This is the result of additional reinsurance and running costs.

In the committee hearing I also suggested that it may be possible to breakdown in detail the numbers of houses who would use Flood Re by country. At present we are only able to estimate from our existing data that around 92% homes in Flood Re would be from England, Wales and Northern Ireland, and 8% from Scotland. This broadly correlates with the proportion of the total number of homes in Scotland. We are currently undertaking a further data collection on the policies likely to be ceded to Flood Re.


Water Bill (Flood Insurance) – Committee Stage


1. The ABI is the UK’s foremost insurance trade body representing almost 300 members who account for around 90% of the UK insurance market. We work on behalf of our members talking directly to decision-makers and campaigning for change on important issues for insurers and their customers.

Executive summary

2. Flooding is the greatest natural threat the UK faces, and the risk is rising. In recent years this increased risk has been reflected in the number and cost of major ‘flood events’ that property insurers cover. Between 2000 and 2013 the flood insurance market operated under the temporary Statement of Principles (SoP) agreement. It did not guarantee affordable prices for consumers and has distorted the insurance market.

3. For the last three years, the insurance industry has been talking to the Government about a replacement for the SoP. In the summer the ABI agreed a Memorandum of Understanding (MoU) with the Government on a version of the industry-led Flood Re solution, which would deliver affordable and accessible insurance for high risk households.

4. The new Flood Re model would be a world first and is intended to address a market failure and solve a challenging public policy problem. It is designed with climate change awareness and flood risk management at its core. Its development has only been possible through a partnership approach between the insurance industry and Government, and has taken considerable compromise by the industry and a significant future commitment to flood defence spending by the Government.

5. Flood Re is the Government’s preferred option and the Memorandum of Understanding provides the policy framework for the Flood Reinsurance legislative clauses in the Water Bill.

6. With the exceptions of Clause NC3 (2)(a) and Clause NC3 (5), the ABI is supportive of the Bill as currently drafted. However we would, of course, prefer to see as much detail on the face of the Bill rather than relying on secondary legislation. Both of the above clauses exceed the agreement in the MoU and the industry is engaged constructively with Ministers and officials to find a way forward.

Flood Risk in the UK

7. Flood risk is increasing in the UK because of climate change, unwise development and the gradual deterioration of flood defence assets thanks to decades of under-investment. In the 1990s, there were two ‘flood events’ with a claim cost of over £150 million for insurers. In the first decade of this century, there were five such events, including the 2007 floods which cost insurers £3 billion. The 2012 flood saw insurers pay out approximately £600m in claims.

8. According to the Environment Agency, in England and Wales:

· One in six homes is at flood risk.

· Over 2.4 million properties are at risk of flooding from the rivers and the sea. Of these around 500,000 are at ‘significant’ risk.

· A further 2.8 million properties are at risk of surface water flooding alone.

· Over 5 million people live or work in flood risk areas.

9. Floods devastate people’s homes and livelihoods and insurers understand how important it is that consumers are able to rebuild their lives after a flood. The damage caused by a flood typically results in a claim of between £20,000 and £40,000. In recent years this increased risk has been reflected in the number and cost of major ‘flood events’ that property insurers cover. There have been five major ‘flood events’ since 2000 which have amounted to over £150 million in claims – including the 2007 floods which saw £3 billion in claims being made across the UK. While we recognise home insurance can be costly for some, it reflects both the increased risk and high cost of flooding.

10. No country in the world has a free market for flood insurance which successfully preserves widely available and affordable flood insurance for those at high flood risk without some form of Government involvement.

11. For the past thirteen years, flood insurance in the UK has been provided under the Statement of Principles (SoP). The SoP ensured that unlike in most other countries, private flood insurance in the UK remained widely available as a standard feature of domestic property insurance. It did not guarantee affordability. The SoP was only ever meant to be a temporary ’sticking plaster’ and was renewed on several occasions, most recently 2008, where it excluded from its terms properties built after 1st January 2009. The agreement expired in June 2013 and was not appropriate for the long-term, for the following key reasons:

· Customers typically tended to have no choice of insurer;

· Affordability was not safeguarded;

· New entrants to the home insurance market started from a position where they have no commitments under the agreement. This gives them a significant commercial advantage.

12. While work to develop Flood Re takes place, insurers have agreed to meet their commitments to their existing customers voluntarily.

The Flood Reinsurance Scheme


13. The Flood Re scheme would be a not-for-profit flood reinsurance fund, owned and managed by the industry, and established to ensure that those properties in the UK at the highest risk of flooding can receive affordable cover for the flood element of their household property insurance.

14. Reinsurance is where insurers effectively buy their own insurance cover to help offset their risk. It is a separate process from the process of a customer buying insurance – this would remain unchanged.

15. To set up and run the Flood Re organisation will cost up to £10 million per annum. The insurance industry will pay for the initial start-up costs and is lending considerable expertise to get it set up. Future running costs will be funded from income into Flood Re. Flood Re will be accountable to Parliament for its operations but will be run on a day to day basis by the industry through its appointed CEO.

16. Consumers would continue to buy their insurance from an insurer as they do in the current market. However, if an insurance company does not believe it could offer insurance at a price below the price set out in regulations, then it would be able to transfer the risk to Flood Re at that price. In return, Flood Re would reimburse insurers for flood claims that they pay to those customers when they flood. It would be insurers’ choice whether to do this, but there would be no incentive for insurers not to pick up customers by doing this.

17. Flood Re would charge insurers a standard reinsurance excess of £250. Insurers would have no incentive to charge the customer a higher excess than this, solving the affordability problem created when very high excesses are placed on households’ policies.

18. The remainder of the household insurance price for risks such as fire or burglary would be set by the insurer as normal, and the customer experience of buying insurance from an insurance company would be virtually unchanged.

19. The fund would provide flood insurance for around 1 - 2% (around 200,000 – 500,000) of households in the UK for whom accessing affordable flood insurance in an open market would be problematic. Flood Insurance for the remaining 98% of properties would be provided without the insurer transferring the risk to Flood Re at all.

20. Flood Re would not be permanent but it would provide a more stable and longer term framework than we have at the moment. The Memorandum of Understanding agreed between the industry and Government set out that Flood Re would be operational for 25 years, starting from the summer of 2015 at the earliest.

Scheme Funding

21. Flood Re will have two sources of income: the premiums paid into it from the property owners in the highest flood risk areas of the UK, and a levy on all UK property insurers that formalises the existing cross subsidy in the market.

22. Under Flood Re, the set premiums that homeowners pay will vary according to council tax band. The council tax band has been utilised as an approximate proxy for affordability and should provide maximum help for customers in the Bands A-D bracket. Prices for the flood part of home insurance for combined buildings and contents insurance would start at no more than £210 per annum in Bands A and B, rising to £540pa in Band G. Average costs for the high risk households will go up under Flood Re but by far less than if customers were buying insurance in a free market. The table below sets out the current position on the flood premiums for each Council Tax band.






































23. Given that the premium level is fixed in line with council tax bands A-G and does not reflect true flood risk, Flood Re will require additional funding to pay for customer claims. This additional funding will come from a levy on all home insurers.

24. This levy formalises an existing cross subsidy in the market and will represent £180 million of funding to Flood Re and is equivalent to 2.2% of individual insurance premiums. On average the levy represents £10.50 of each household premium. Homeowners will not notice this as it is already part of the pricing structure of the market.

25. The Flood Re organisation would purchase reinsurance on the open market to help cover losses in the event of flooding

26. Should Flood Re’s funds and reinsurance cover be unable to fully meet its outgoings, Flood Re would charge each of its member firms an additional amount to make up the shortfall, known as the ‘top-up levy’. This is primarily likely in the early years of the scheme if big events occur while the fund is still being built up.

27. It is vital that, should Flood Re be required to call on the top-up levy and subsequently builds up a sufficient surplus (in future years), insurers’ top-up levy contributions should be able to be paid back to them by Flood Re. This is in order to fulfil the condition in the June Memorandum of Understanding (MoU) that "the overall effect [of the top up levy] on insurers is neutral over time". This would be at the discretion of the Directors of Flood Re within the terms of the Scheme, and providing that Flood Re had built up sufficient capital and it would not be prudentially detrimental to do so.

28. Flood Re will be designed to fully deal with all but the worst 0.5% of years. Broadly, that means it would cover a year of extensive flooding across the UK which adds up to losses that insurers would only expect to happen once every two hundred years. If Flood Re’s annual losses go above the ‘1 in 200 annual loss’ level (which is estimated to be six times worse than the 2007 floods, and is also the regulatory capital limit set by the Prudential Regulatory Authority), Government will take primary responsibility, working with the industry and Flood Re, for distributing any available resources to Flood Re policyholders.

Flood Re exclusions

29. The ABI appeared before the Water Bill Committee on Tuesday 3rd December and discussed the scope of properties that would be covered by Flood Re. For both practical and principle reasons Flood Re will not cover small businesses, homes in council tax bands H and I, and homes built after 2009.

Small businesses

30. Flood Re is designed to safeguard the availability and affordability of flood cover for households and is not an appropriate framework for SMEs.

a. Neither the insurance industry nor the Government have found any evidence of a widespread market failure for SMEs. This is largely because of the ways that SMEs tend to purchase property insurance:

b. Flood Re will enable insurers to provide a standard product to all householders (i.e. buildings insurance). SMEs have a whole range of different covers that might be relevant – for example business interruption insurance, loss of profit cover, hugely different levels of stock cover etc. Flood Re would need to standardise much of this, which would make it very difficult for many SMEs to get the insurance that is right for them through Flood Re.

c. Commercial property insurance (especially when sold through brokers) is often combined into ‘blocks’ – where many policies are combined and sold en masse – a process which may keep flood insurance available and affordable for high risk properties. Additionally, SMEs are more likely to have face to face, personalised relationships with insurers/brokers, which makes it easier for property-level risk reduction to be taken into account.

31. Flood Re would, in principle, provide cover to properties that attract domestic property rates (i.e. council tax) rather than business property rates. It would therefore cover people who have a home office, small B&Bs, farmhouses and similar properties which are primarily used by the policyholder as a residence. However it would not be acceptable for a Band A home in a poor area of the country to subsidise a boutique in the wealthiest area.

Council Tax band H and I homes

32. Flood Re is targeted towards those who are most likely to find it difficult to afford insurance in a free market. Ministers and insurers agreed that the vast majority of households in Band H and I properties should be able to afford risk reflective premiums or to take action to reduce their flood risk.

33. If Band H and I homes were included, an inevitable consequence would be the subsidisation of a number of very wealthy households living in very expensive properties. While the ABI accepts that there will be some households which would find it hard to afford insurance if they were excluded from Flood Re, the alternative would be for the insurance premiums of the most expensive homes in the UK to be supported by all those who buy insurance.

Newly built homes

34. The Flood Re scheme as currently agreed would include a 2009 cut-off for new homes. 2009 is not a new cut-off – it has been in the public domain since 2008. Flood Re should incentivise rigorous and responsible planning decisions; it should not give developers an excuse to build inappropriately in flood risk areas. Since 2009 property developers should have been aware that new developments were not covered by agreements relating to insurance. The reason for choosing 2009 is to ensure continuity with the Statement of Principles, which did not apply to properties built after 1st January of that year.

35. The ABI is concerned that moving the cut-off date could encourage hasty development in flood risk areas, particularly if it is set for a future date. It could also lead to the date being revised again the future, which would place unfair burdens on the Flood Re framework.

Genuinely uninsurable properties

36. The Memorandum of Understanding contained a section stating that ‘genuinely uninsurable’ properties would not be covered by Flood Re. This was aimed at stopping those properties that flooded frequently being supported by a levy from all householders. However, it has not proved possible to agree on a definition.

37. However, the ABI believes that they should be a mechanism to encourage householders whose homes flood frequently to put resilience measures in places to reduce the cost to Flood Re of any further flooding.

Flood Insurance Obligation

38. The Flood Insurance Obligation would make provision for insurers to be obliged to take on a set amount of properties at flood risk according to their market share.

39. The insurance industry is opposed to this proposal, which would force insurers to offer a product to customers regardless of whether they would do so of their own volition. It would be unworkable and would disadvantage homes at lower flood risk, as insurers were forced to chase a high flood risk quota.

November 2013

Prepared 13th December 2013