Draft legislation to guarantee affordable flood insurance published

Out-Law News | 10 Sep 2013 | 12:01 pm | 4 min. read

Individual insurance firms could be given quotas of properties in areas of high flood risk that they must insure in the event that a levy-funded reinsurance pool for high risk households fails, according to a recently-published consultation on new draft legislation.

The proposal forms part of the Flood Insurance Obligation, which the Government proposes to insert into the Water Bill during the next debate on the draft legislation. It is consulting on draft legislative clauses which reflect its "working assumptions at this stage". The legislation would also introduce a new statutory levy-funded reinsurance pool replacing the ABI voluntary "Statement of Principles".

The Flood Insurance Obligation would give the Government reserve powers to regulate the insurance industry in the event that Flood Re is unsuccessful. The Department for the Environment, Food and Rural Affairs (Defra) is carrying out an informal consultation on its proposals in order to "inform public debate". Comments will be accepted until 20 September 2013, according to the document.

"These fallback powers are needed in case Flood Re proves unworkable and if pricing in a free market proves to be unacceptable," the consultation said. "The provision is intended to provide reassurance to households at risk that they will be able to secure affordable flood insurance in future, one way or another."

The Association of British Insurers (ABI) entered into a Memorandum of Understanding with the Government on 27 June 2013 to  develop the Flood Re model.. Once established, Flood Re would provide certainty to householders by capping flood insurance premiums, based on the council tax band of the domestic property. Claims made by people in homes at high risk of flooding would be funded through an industry-backed levy, which would be passed back to consumers at an estimated cost of £10.50 on annual premiums, with low risk properties in effect cross subsidising high risk properties as is currently the case under the Statement of Principles.

Although the final details of the scheme are still to be confirmed through further discussion with the ABI, it is anticipated that details of the scheme would be set out in the Water Bill and that it would last for at least the next 25 years. The current industry Statement of Principles, under which insurers will continue to offer flood cover to existing customers where the risk is not "significant" or where the Government has announced plans to reduce the property's flood risk within five years, will be extended until the Water Bill has passed through Parliament and the new Flood Re scheme is set up. The ABI expects the new scheme to be in place by summer 2015.

In its formal consultation on the future of flood insurance, published alongside the ABI's announcement, the Government confirmed that the creation of Flood Re was its preferred option. However, it also intends to include powers in the Water Bill which will enable it to take action to regulate the insurance industry. The Flood Insurance Obligation, as set out in the draft legislation, would give the Environment Secretary the ability to set a 'target' for the number of homes on a register of properties in high flood risk areas to which insurers could be required to issue policies in a given time period. This target would be less than 100%, as not every household will choose to purchase insurance cover.

Once a target has been set, the Environment Secretary would then be able to set quotas for the number of properties that should be insured by each individual insurer. Different quotas could be set for different types of flood cover, such as insurance against structural damage or damage to contents. According to the draft legislation, an insurer's quota could be determined on a number of factors including their share of a particular type of insurance business. Insurers with a very small share of the market could be made exempt from the obligation.

Environmental law expert Linda Fletcher of Pinsent Masons, the law firm behind Out-Law.com, said that the draft legislation and accompanying explanatory commentary reflected the agreement announcement by the Government and ABI in June, but added that there would "undoubtedly be concerns raised by the insurance industry as to how the levy is to be set and in particular how the top up payments will operate in the event there is a shortfall in the fund pool".

"Houses at very high flood risk may be excluded, as will those where construction was competed after 1 January 2009," she said. "However there are no definitions at this stage of what constitutes 'high flood risk' or 'very high flood risk' – this is to be included in further regulations and as determined by the Environment Secretary".

"However, as we have commented before this continued progress in the domestic sector is of comfort to the commercial sector as the risk of homes no longer being insured for flood would have a knock on effect on the rates available for commercial properties," she said.

The draft clauses in relation to Flood Re are subject to further negotiation between the Government and the ABI. The legislation anticipates that the scheme would be administered and managed by an industry-run body that would not be seen as conducting Government business or acting on behalf of the Government. The Environment Secretary would remain accountable to Parliament on general policy matters relating to the scheme as well as flood insurance and wider flood issues in general.

Funding arrangements for the scheme remain under discussion, however it is intended that the Environment Secretary would be able to require all relevant insurers to pay a regular levy as well as top-up amounts, if deemed necessary by the scheme administrator. The draft legislation would also allow the administrator to take legal proceedings against individual insurers to recover any debts payable, either in relation to the levy or to the top-up payments.

The Government expects that funding generated by the levy would be classified as a tax by the Office for National Statistics, meaning that the scheme would have to be established to meet standards of accountability that are acceptable to Parliament. The draft legislation therefore also specifies what standards the administrator should abide by when managing its funds and discharging its functions.