Impact of impending insurance changes

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Commissions of Enquiry are among a few of the changes we can expect.

However, one of the most significant changes will be introduced by insurance companies and the way they insure people’s homes. Gone will be the current standard open-ended replacement insurance policy, and in its place will be a “fixed sum insured”.

Many New Zealand home owners will be affected as they face a shift from being insured for a home’s unspecified replacement cost to being insured for a maximum specified amount.
The home insured will be the maximum amount payable for any claim under a home policy, so it will be important that home owners ensure that the sum insured amount reflects that likely cost of rebuilding their home as accurately as possible.

I am advised by the insurance industry that, under this model, the maximum the insurer would pay is that sum agreed to, even if the actual cost of rebuilding turned out to be greater than that.
If the sum insured is set too low, a home owner may have to rebuild to a lesser size or quality, or pay some of the rebuilding cost themselves.

Why is this happening? 
A number of reinsurers — the companies that cover insurance companies against natural disasters and catastrophes — are asking for homes in New Zealand to be insured for a specified amount.
This is because they want to know the maximum amount that insurers would have to pay to rebuild them.

Now, I can understand why they would want this and their need to understand just what they are covering as, at present, they have no idea just how much they are exposed to. Clearly, the Canterbury situation has highlighted this for them.
I am not going to argue whether they should or they shouldn’t adopt a fixed sum insured approach. While clearly the current regime is better for the home owner, if a fixed sum insured model is the only type of insurance we can get (or nothing at all) then we will take it.

As home owners begin to understand this change, they are likely to seek advice and assistance from experts on what it would cost to rebuild their home.
I have been speaking with IAG about this, and IAG will be leading a programme to educate home owners on the change. We understand IAG will be providing information in insurance renewal packs and online at the time of implementing these changes, including an online calculator that can generate an estimate of the cost of a rebuild. I understand others are carrying out similar campaigns.

Impact on RMBs
Given all of this, I expect Registered Master Builders may well be approached to provide advice on what it might cost to rebuild a former client’s home, or for general estimations from the public.
Indeed, the public will be looking for whatever assistance they can from experts such as builders, engineers, valuers, quantity surveyors, architects and designers.

This may seem innocent enough, and many of you may think this is a business opportunity — after all, there are about 1.7 million homes in New Zealand.
But I caution you about such approaches, as this is not as straightforward as you might at first think. I used to undertake these insurance assessments in the commercial property sector in a former life and, unless you understand what you are doing, it is a trap for the unwitting.
Let me explain a couple of implications (which are by no means all of them) to highlight what I mean.

When determining the fixed sum insured it is not as simple as just deciding how much it would cost to replace the home today. That is the easy part. You have to think forward, as inflationary provisions and time may have a significant effect on your assessment.
First, you have to assume there is a loss on the last day of the insurance period — ie day 365. If that occurs there has already been 12 months’ worth of inflation on the figure you assessed today.

Should that happen there will be further time extensions before the rebuild is complete, as one has to go through the claims process, demolish the existing improvements (at a potential cost if not covered in the policy), obtain resource and building consents, tenders, and then the building period.
Depending on the type of house, this could take another year, perhaps longer if it is a large complex home. So you may have to allow another 18 months (or more) of inflation on top of the first 12 months.

These inflationary costs are not CPI costs but the construction cost index, which can vary from the CPI. Furthermore, they are compounding annually, akin to interest calculations.
Rebuild timelines can be further influenced by the claim circumstances. If it is a straightforward one-off single event (eg, a house fire) then your rebuild time estimate will differ than if the claim was made as a result of a large disaster, such as the Christchurch earthquakes. It then may be years before the rebuild happens.

Imagine if a fixed sum insured was set on September 5, 2009, in Christchurch (the 2010 quake was September 4, 2010 – last day of the insurance period) and no inflationary provisions were included in the replacement cost or policy. With the rebuild still two to three years away for many, it could be as many as seven years’ worth of construction cost increases on the original 2009 assessment — well short of what is required today.

Furthermore, when natural disasters happen there tends to be a review of building standards. This happened in the case of Canterbury, and foundation (due to ground conditions) and other costs have increased, requiring specific engineering designs on top of normal inflationary provisions.
There are many other considerations in addition to these, but I am running out of space in this column. All I want to achieve is to highlight to you that you need to think twice before you provide advice. You will effectively be acting as a consultant, and could be subject to a claim by a disgruntled home owner for under-insuring their home.

Your current insurance policy will probably not cover you for such a claim, so if you do undertake this work I implore you to obtain the necessary cover and know what you are doing.
Now, I may be doing the insurance companies a disservice as all these implications may well be covered in the policies. We will have to wait and see.

And that is another complication — each insurance policy may be different, so the fixed sum insured may vary for the same house depending on the policy and how it intends to deal with inflation, claim circumstances and new building standard requirements (or not).
So, now that you have some idea of the complexity of this type of insurance assessment, I hope you understand why I am suggesting you are cautious about undertaking this work.

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