The Christchurch earthquakes were a massive wake-up call for insurers, domestic and global.
In 2014, Treasury estimated the rebuild cost at $40 billion, 20% of GDP.
A more up-to-date estimate is likely to be higher, perhaps $50 billion. The Crown’s contribution is estimated to be $17.5 billion.
New Zealanders were heavily insured, largely because of New Zealand’s Earthquake Commission (EQC) scheme. The Christchurch earthquakes are likely to be the world’s sixth-largest insurance event since 1980.
Insurance payouts could reach $35 billion. Global reinsurers underwrote most exposures of private insurers and the EQC. Government was deeply involved in insurance issues through its ownership and control of the EQC. As overseer of recovery and regulatory of financial institutions, the government also became involved when one private insurer failed. In a similar capacity, government had to persuade global reinsurers that New Zealand’s legal and regulatory environment would remain conducive to commercial investment.
The EQC’s workload has been colossal by New Zealand’s historical standards.
In response to the 2010 and 2011 earthquakes the EQC had by 30 June 2016: Received over 460,000 claims involving 166,975 buildings, and resolved all but 554; received over 187,000 claims for content damage and resolved all but 126; received over 150,000 land exposure claims relating to over 80,000 properties, and resolved all but 22,815; and paid out $9.4 billion on claims.
Cash settlement of claims might have been simpler for the EQC, but would have put claimants at risk of being subsequently out-of-pocket if repair costs escalated because of a shortage of repairers or because the damage was greater than had been assessed.
The EQC provided both cash settlement and remedial repair services to claimants. At 31 March 2017, it had managed ‘first-time’ repair work for 67,747 dwellings and provided cash settlement for another 99,218. That left only 90 dwellings to be settled, all of which were in the cash settlement category.
A 2009 EQC-commissioned external review of the EQC’s operational capability preparedness identified many problems that emerged following the Canterbury earthquakes.
EQC concerns
The review warned that the government and the EQC operated under different assumptions about the EQC’s role in a major disaster. The EQC assumed that its role was to settle claims in cash, but the government might wish the EQC to take on a larger role. It also warned that claims processing in a major event would face several bottlenecks.
Over-cap claimants would need to deal with two insurers; private insurers waiting for EQC decisions could cause delays; and settlement would require multiple assessments by two teams of loss adjustors. There was also potential for disputes between claimants and the EQC. The review suggested creating a “Plan B” for the EQC’s Catastrophe Response Programme. It would allow procedures to be changed after a major event to facilitate timely claims processing. Those issues proved substantial in the Christchurch earthquakes.
One prolonged difficulty arose from the EQC’s unclear statutory obligation to provide replacement cost cover within its cap. The EQC’s governing Act, the Earthquake Commission Act 1993, defines it in part as “replacing or reinstating the building to a condition substantially the same as but not better or more extensive than its condition when new, modified as necessary to comply with any applicable laws”
Restoring to the pre-earthquake condition an aged and possibly ill-cared-for dwelling on long-standing uneven and unsteady foundations differs from restoring it to “substantially the same as when new”.
The EQC’s position is that “substantially the same” does not mean “exactly the same”. Floors uneven before the earthquake may not need to be levelled.
So the EQC came to be perceived as restoring to a “pre-quake condition” rather than “substantially the same as its condition when new”. The EQC was further perceived as using an increasingly lax standard to judge floor levels, based on evolving Ministry of Business, Innovation and Employment (MBIE) guidelines.
EQC claims assessment teams consisting of ex-police investigators paired with licensed builders also may not have built confidence among claimants.
While a 2012 review did not find fault with the practice, stories of highly inadequate assessment were far from uncommon. Some houses assessed initially as under the EQC cap were found to have suffered damages costing multiples of the cap to repair.
Claimants had to get their own engineering assessments showing the damage exceeded the cap, then get the EQC to agree the damage exceeded the cap.
Only then could they make progress with their private insurer, though the EQC argues that private insurers need not have waited for the EQC assessment. In the event, it took a two-and-a-half-year lawsuit by some hundred insurance claimants to reach an agreement in April 2016 that EQC repairs should reinstate a home substantially to a “when new” condition.
The cost implications of that agreement are not clear at the time of writing. The EQC says the costs are not significant, and its position has always been that repairs would meet the “when new” standard. However, claimants say repairs did not meet the “when new” standard. Resolutions of disputes over statutory entitlements were also necessary.
Between September 4, 2010 and June 30, 2016, the EQC was served with 361 litigation proceedings. Sixty-five percent had been closed by 30 June 2016. Two claims were determined by the High Court.
The EQC filed and obtained three High Court declaratory judgments independently, reducing legal uncertainties.
Quality control of repair work also proved challenging. According to the EQC’s 2014–15 annual report 8% to 10% of repaired homes required remedial work.
The EQC had received about 10,500 requests for remedial work by 30 June 2016 and had resolved about a third of them. EQC’s survey of customer satisfaction in 2014/15 immediately after repairs have been completed found that 84% were satisfied or very satisfied.
The earthquakes also revealed additional unforeseen difficulties. The geological complexity of revealed risks caused delays. Experts were needed to assess ongoing vulnerabilities from rock fall, liquefaction and flooding.
More experts were needed to assess rebuild options. The EQC’s partial cover for land was complex and ill understood by claimants. The sequence of multiple earthquakes revealed uncertainty about the EQC’s statutory obligations: Was the EQC liable for damages up to its cap after each earthquake, or for cumulative damages up to the cap?
The High Court determined in 2011 that the EQC cap was to be reinstated with each significant earthquake, greatly increasing the Crown’s exposure and requiring apportionment of damage across several earthquakes.
The sequence of earthquakes also delayed private insurers’ settlement. Reinsurers do not pay out until the insured event is over. One industry rule of thumb is to deem an event over once six months have elapsed without a major shock. Christchurch experienced major shocks on September 4, 2010, December 26, 2010, February 22, 2011, June 13, 2011, and December 23, 2011.
That rule of thumb would mean private insurers would pay out on assessed cumulative damages only after May 2012; the EQC had settled many claims by then
Finally, the settlement of commercial sector claims, outside of the EQC’s remit, was hindered by legal uncertainty caused by the Christchurch City Council. The council tightened building standards after the September 2010 earthquake, and refused to consent to repairs that did not meet 67% of the earthquake code. The prior rule required older buildings to meet 33% of the code.
Repairing a building to the terms of the insurance contract would then not meet code, but meeting the code would benefit the claimant – and be very expensive for insurers if they had to pay. The Supreme Court decided in 2014 that councils could not require owners to strengthen to over 33% of the code.
Over-stretched insurers struggling with the volume of claims and complexity of issues had spill-over effects for claimants. Thousands of homeowners experienced prolonged stress and uncertainty.
A survey of a random sample of clients with earthquake insurance claims closed between January and June 2016 in Canterbury found that only 34.5% were satisfied with the overall claims-handling experience, down from 44% in 2014, and well below the EQC’s targets.
We believe it was unfair to expect a rising satisfaction rate from the EQC since the claims settled later would involve the more difficult cases. But the satisfaction rate was very poor. The auditor-general took a close interest in the EQC’s management of its Home Care programme. Her 2015 report followed up on a 2013 report that found its performance was mixed. It commended EQC for its speed in getting going and for limited cost escalation for repair work. Against this she considered that its management costs were high and its communications with homeowners needed improving.
Her 2015 report found that it had improved on all these aspects. She found it difficult to reach a conclusion as to overall efficiency, effectiveness or cost.
Private insurers pick up more of the load
In late June 2017, the government announced major changes to the EQC cover, building on a July 2015 Treasury discussion document assessing EQC’s governing legislation and submissions on that document.
The changes also built on practice trialled in the Kaikoura earthquake in 2016. After the Kaikoura earthquake, the EQC’s board entered into agency agreements with certain private insurers to manage claims on its behalf.
Homeowners could lodge all claims directly with private insurers, who would also assess damage. The problems the Treasury’s discussion document identified included lack of clarity on the extent of EQC coverage; unnecessary confusion and complexity for claimants dealing with both their private insurer and the EQC; and the challenge for the EQC of scaling up for a major disaster.
Recommendations have been largely, but not entirely, adopted in the government’s changes. The EQC will no longer offer contents insurance. Policyholders will lodge all claims with their private insurer. The EQC cap on building cover will be lifted to $150,000 +GST.
Land cover will be separate from the building cap and only for “natural disaster damage that directly affects the insured residence or access to it.” The EQC’s claims excess for building cover will be $1000 (up from the current $200–$1150 depending on the claim size).
These changes might take effect from 2020. We broadly welcome these changes. Dropping contents cover removes an unnecessary distraction for the EQC during a natural disaster.
The amounts are relatively small (5% of all claims), but assessing contents is time-consuming given the risk of fraud. Private insurers already have the skills and capacity. Private insurers are now the first port of call for claimants. This will greatly simplify processes and improve consumer experience.
Private insurers can call on loss adjustors affiliated with their parent companies internationally; reputational risk from poor claims experiences may prove a greater constraint for insurance companies competing for customers.
Following the Kaikoura earthquake, the Insurance Council reported: ICNZ has held meetings with the external dispute resolution organisations (IFSO and FSCL), the Ombudsman and the Privacy Commissioner to develop a standard process for managing complaints.
The result is that complaints will be managed through the insurers and their external dispute schemes, without customers having to worry about intricate jurisdictional boundaries. The Privacy Commissioner and the Ombudsman will train insurers and will remain open to complaints if there are any residual issues that insurers, IFSO and FSCL cannot resolve. … The IFSO and FSCL provide free dispute resolution services (so no need to lawyer up at your cost) and their decisions are binding on the insurer but not on the insured.
It makes sense to evaluate the experience of claimants following the Kaikoura earthquake before recommending the EQC to make additional changes. But the EQC and its reinsurers will need to undertake rigorous audit assessment to ensure private insurers are not providing benefits to clients at the EQC’s expense under the revised structure.
In normal reinsurance dealings with similar incentive problems, insurers are constrained by the need to secure reinsurance. But insurers might not fear a similar withdrawal of compulsory EQC coverage. The EQC’s experience with the new arrangements after the Kaikoura earthquake in 2016 will help guide managing this risk in practice.
The EQC helps keep insurance coverage affordable even in highly risky places, so few families are left destitute while rebuilding after a disaster. In doing so, it helps mitigate the need for government to bail out homeowners after a disaster. The flat rate for EQC coverage regardless of earthquake risk means insured homeowners in safer places effectively pay for insurance coverage in riskier places. But that comes with its own problems, such as encouraging overbuilding in risky places.
More changes needed
The government should consider two additional proposals. Speedy dispute resolution after a major natural disaster can reduce uncertainty about who can do what with their property. The EQC and the Insurance Council sought – and received – declaratory judgments from the courts. But some important test cases took a long time to initiate and to be resolved.
Not until December 2014 did insurers know whether they would be liable for increased costs under the revised Christchurch building standards, and that uncertainty delayed commercial reconstruction. Every substantial event will reveal contingencies not anticipated in insurance contracts. After a major disaster, the government should be quicker to fund test cases seeking declaratory judgments.
This can help to quickly provide legal certainty and allow speedier reconstruction. Test cases should be chosen for their implications spanning multiple parties.
The Canterbury earthquakes also exposed a policy related insurance issue that does not involve the EQC – the claims of homeowners whose insurer failed to meet its obligations. AMI, a mutual owned by its policyholders, did not hold sufficient reinsurance for the February event or the reserves to cover its exposure. Politicians were inevitably pressured to shift the losses from policyholders to taxpayers. AMI was split into two companies.
The viable part was transferred to IAG, and Southern Response was established to settle insurance claims in Christchurch. The government covered the amount by which claims exceeded the insurer’s assets. But claimants on Southern Response, in a 2012 survey, were the least satisfied with their insurer’s performance.
Bailouts like Southern Response should be avoided as they send the wrong signals to private insurers and their customers.
Mechanisms are needed to make such situations less likely to happen and easier for politicians to resist when they happen. The Reserve Bank regulates banks and insurance companies and is responsible for prudential supervision. Predictably, in the same year RBNZ tightened insurance companies’ solvency requirements for earthquakes. Government too passed legislation for additional powers.
These measures do not exhaust the regulatory options. A liability regime could be imposed on insurers parallel to the Reserve Bank’s Open Bank Resolution for insolvent banks.
If the law required policyholders in failed insurance companies to share proportionally in insurance shortfalls, they might put more weight on the insurer’s ratings relative to the premium cost. Accurate claims assessment might be faster since government would not be legally liable for the shortfall between assets and damages.
Clients could more quickly move on with their lives. This would not stop policyholders from lobbying politicians after a catastrophic loss. And government might wish to explicitly share in the losses. Crown support to AMI policyholders may reach $1.48 billion of the $3.459 billion in gross costs faced by Southern Response.
The Crown’s share of claims settlement for AMI policyholders will then range from 29% to 43%, depending on the proportion of the $1.48 billion that Southern Response requires. Most policyholders may not appreciate the extent of the Crown subsidy.
An Open Bank Resolution (OBR) framework would usefully make it clearer.
Lessons?
1. Government should follow through with proposed changes to insurance that make private insurers the first port of call for claimants in major events, but strengthen audit procedures appropriately
2. Government should quickly seek declaratory judgments in key test cases arising after a major disaster
3. Government should consider mechanisms like the Reserve Bank’s OBR for failed insurers
Us and the EQC: By Anonymous
The worst consumer experience of our lives was trying to deal with the EQC during and after the Christchurch earthquake cycle. I have summed it up like a buyer report as “would not use again” because that’s how we feel having finally escaped the EQC’s clutches.
To get over the $100,000 EQC cap required borrowing, hiring a lawyer, a foundation expert, and structural engineers. We have both worked as business journalists, run our own PR firm, and in my case provided political and media advice to a global CEO in a disaster zone.
We “get” law, process, bureaucracy, politics and systems. Against that high-end skills background, nothing in our lives has been remotely as bad, absurd and “through the looking glass” as the experience of trying to make sense of the EQC’s process, systems and decisions.
Trying to unpack how an EQC estimate of our earthquake damage went from under $30,000 to a complete writeoff is difficult.
Outside Canterbury, people are surprised when they hear that almost seven years after the quakes began you are still not fixed or resolved.
While private insurers can and do play hard they do at least have a process that makes sense. Dealing with the EQC on the other hand is a visit to a Kafkaesque world where lies, lunacy and incompetence appear to be entry-level skills.
Our 1920s cottage in an uptown area had some damage in the first big Canterbury earthquake in September 2010.
In the February 22 killer quake, where we were 3km from the epicentre, it was clear from the way our hardwood table levitated in front of my partner we had been badly hit.
In between the major quakes, we were constantly getting aftershocks while dealing with traumatised teens. And very old parents in my case.
Somewhere along the way when the EQC scaled up its staffing it decided it was a real good idea to deploy former cops as an aid to assessing damage. In effect what it did was change the consumer of EQC’s processes from a client to a suspect.
The visits to assess damage were an exercise in absurdity from the start. Teams of two would turn up primed with lists on things they did not want to see or acknowledge.
One pair had been issued with iPads they manifestly could not work. Most of the damage we tried to report was not programmed into these.
Very early we realised we had been mistaken for silly old hippies and scaled down accordingly in response terms. We also smelled very large rats very quickly.
Show them a crack in the rubble foundation and they would chant “pre-existing” with all the enthusiasm of Accident Compensation Corporation (ACC) staff trying to evade a claim. They also seemed to have been trained to not see things they did not want to see.
Our cottage has rimu floors, panelling, rimu doors with brass fittings, and lots of little leadlight windows dotted around.
When you tried to point these often-damaged items out regardless of the EQC staff they would just refuse to see or acknowledge them. Raise a concern about slumping floors as the bearers and piles shifted and the foundations cracked more you would be told “We’ll sort it” but never with any costings or specifics.
In our final very polite stand-off with EQC once we realised the aim was to assess as little as possible I told them: “You are saying effectively granny just needs some lippy and blusher while we are saying we think she has at least a broken leg.”
Mutual sulking ensued. We slid out of the next stage of the repairs by Fletchers EQR. We had both developed chronic fatigue so we stalled. Then humoured them by agreeing to be classed as “vulnerable” claimants until we realised they meant it literally.
In the end we dive bombed them with our high-end lawyer, got over cap, and within a year are close to sorted with our insurer. It’s been hardball at times but at least logical and commercial. As to EQC? Most of what we think is too litigious to go into. Would not use again.
