draft Flood Reinsurance (Scheme and Scheme Administrator designation) regulations 2015
DRAFT FLOOD REINSURANCE (SCHEME funding and administration) REGULATIONS 2015
(Limited Text - Ministerial Extracts only)
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The Parliamentary Under-Secretary of State for Environment, Food and Rural Affairs (Rory Stewart)
I beg to move,
That the Committee has considered the draft Flood Reinsurance (Scheme and Scheme Administrator Designation) Regulations 2015.
The Chair
With this it will be convenient to consider the draft Flood Reinsurance (Scheme Funding and Administration) Regulations 2015.
Rory Stewart
It is a great honour to serve under your chairmanship, Mr Nuttall. This is my very first time dealing with a statutory instrument, and I feel privileged to deal with this issue. As a Member of Parliament for a Cumbrian constituency, I, like many Members on both sides of the Committee, saw directly the devastation of flooding and felt directly the need to address the issue of flood insurance. In Eamont Bridge, for example, people are living in houses that were built in 1650—they have not been built recently on floodplains. I saw the total wrecking of people’s lives there. They felt they would never be able to get insurance again and were deeply anxious about what the floods would mean for their house prices, their families and their possessions. I would also like to pay tribute to my hon. Friend the Member for Newbury, who put an immense amount of energy into very complex negotiations with the insurance industry, going from the statement of principles to the regulations that we are now in a position to debate.
As Members will be aware, the regulations ensure that under Flood Re, the flood insurance component of a buildings and contents policy for a band C home is anticipated to be £246 a year. Without Flood Re, and without the negotiation that my hon. Friend was so closely involved in, the price could be double that. Excesses, which can be in the thousands of pounds, will be limited to £250.
There are two sets of regulations to be debated today. The draft Flood Reinsurance (Scheme Funding and Administration) Regulations 2015 set out the framework within which Flood Re will operate, how the levy will be calculated and the technical aspects of the scheme. The draft Flood Reinsurance (Scheme and Scheme Administrator) Regulations 2015 designate the scheme administrator and enable Flood Re to begin operating. I pay tribute to the public, who worked closely with us in the consultation, and to specialists from the Association of British Insurers, to individual insurers, to the Lloyd’s market and to the financial regulators. I also pay tribute to the hon. Member for Brent North, who has been very involved—he has discussed it with me personally on a number of occasions—to the Committee on Climate Change and to Lord Krebs, whom I saw this morning.
It is important that the regulations are debated now because Flood Re will be signing multimillion-pound contracts for their reinsurance before Christmas and because financial regulators are currently considering Flood Re’s application for authorisation as a reinsurer, which is a highly rigorous and scrupulous process. Financial regulators and the insurance industry need certainty, and that is what the regulations are about. They provide for the legislative framework within which Flood Re will operate and for Flood Re to capitalise in order to meet its solvency requirements.
The making of the regulations, subject to parliamentary approval, needs to be carefully sequenced with the financial regulator’s approval and authorisation process. At the point at which we intend to make the regulations, we will check with the Prudential Regulation Authority that Flood Re’s application is still in the authorisation process. While the financial regulators cannot provide a definitive statement on the likelihood of an authorisation before the review is completed, that will provide an indication that the application is progressing and that financial regulators are in the process of formulating their view.
I shall now provide an overview of the major aspects of the regulations and deal briefly with individual issues including funding for Flood Re, public money, accountability and controls, premium thresholds, the review scheme every five years, the transition to the free market, and incentivising management of flood risk.
Flood Re will be funded by a levy raised from the relevant insurers. The amount of levy paid by each insurer will be based on the insurer’s share in the UK home insurance market. A small number of companies currently control about 70% of the market, and they will contribute about 70% of the levy. The total amount of the primary levy to be raised from insurers will be £180 million. However, given the unpredictable nature of flooding and Flood Re’s solvency requirements, an additional levy may be raised from insurers if needed.
The regulations set out the constraints that Flood Re needs to operate within, as the levy is likely to be classed as public money by the Office for National Statistics. This affects all the accountability mechanisms relating to Flood Re. Flood Re will operate independently as a normal reinsurance company regulated by the financial regulators, but, because of its unique position as a reinsurance company within the public sector, Flood Re is being set up as a bespoke arm’s length body of the Department for Environment, Food and Rural Affairs. This means Flood Re will be directly accountable to Parliament—this is a key point—rather than to Government. There will be very limited Government oversight.
DEFRA Ministers—my colleagues and I—will remain accountable to Parliament for general policy matters relating to flood risk management, including flood insurance and the regulations implementing Flood Re. There will, however, be no role for Ministers in the day to day management of Flood Re. As with all public sector bodies, Flood Re will be required to manage itself within the normal requirements for regularity, propriety and value for money, and full parliamentary accountability. It will be audited externally, but the National Audit Office will be able to conduct value-for-money reviews of any of its activities and report on those activities to Parliament.
The regulations and the scheme document set out the price that insurers will pay to cede policies to Flood Re. We call these, as Members will see in the documents, the premium thresholds, and they are payable by insurers according to council tax bands. The point is that we wish to target the benefits at the lower council tax bands. In other words, it is intended to be a progressive policy, and the intention is that those benefits will be passed on to the policyholders by the insurance industry.
The regulations require that Flood Re will review the level of the levy and the premium threshold at least every five years: in other words, it will try to calculate whether we have set the levy at the correct amount. Any changes to the scheme or levy would require amendments to regulations, which would have to be approved via an affirmative resolution process, and Ministers may also call a review of Flood Re at any point.
Members have shown considerable interest in how Flood Re will manage the transition to risk-reflective prices over the medium to long term. Flood Re will therefore publish a transition plan three months after the regulations come into force. That will be the first statement of how the transition will operate. It may then give indications of how prices will evolve during the life of Flood Re in order to encourage people to move towards risk-reflective pricing. But the financial regulators are clear that Flood Re cannot be bound to the indications because Flood Re’s solvency has to be assured. Flood Re will also provide information about flood risk and the scheme for the insurers to pass directly on to their customers. In other words, insurers and customers will be kept fully informed about the flood risk.
Members may wish to push Flood Re further on what it can do to incentivise people to manage their own flood risk and to take resilience measures. Flood Re will consider the role of incentives for policyholders to manage their flood risk in its transition plan, and it has been agreed with Flood Re that it will do this within two years of becoming fully operational, but the focus now has to be set on getting this complex scheme right.
Flood Re, like all reinsurers, will be permitted by financial regulation only to carry out the business of reinsurance and related operations. Flood Re directors also have to be able to fulfil their prudential and fiduciary duties according to company law and financial services regulation. The Government see that as the best approach to the funding and administration of Flood Re to achieve the objective of affordability and availability of flood insurance.
Having made quite a technical, geeky speech about details, I will finish by saying that, in the end, we have to step back to where we were coming out of the floods. We were potentially facing a crisis in insurance. All of us would have received emails, letters and pleas from constituents desperately worried about insurance.
The proposal achieves two basic principles that should be dear to us all. The first is the principle of universality—in other words, to ensure that simply because somebody is unlucky enough to live in house, perhaps built 300 years ago, that has been flooded, perhaps due to changes in climate and matters well outside their control, they should not suffer unduly. Secondly, it should be a progressive measure that ensures that the least well-off members of society are paying less than the better-off in the premiums they pay and the benefits they will receive from these schemes.
On that, Mr Nuttall, I commend the statutory instruments to the House.
Rory Stewart
First, I pay tribute to the two Members who have made speeches, which were important in setting the context of the debate. They know the issue well. My opposite number, the hon. Member for Brent North, clearly laid out the context of rising flood risk and climate awareness and made us focus us hard on the issues of future flood resilience and the future costs of flooding. I will return to that at the end.
I particularly pay tribute to my hon. Friend the Member for Newbury. This legislation is, in the normal practice of politics, a great idea that will make a lot of difference to some of the most vulnerable people in society: the 2% who are about to lose their flood insurance or face completely unaffordable levels of flood insurance.
The regulations address the situation of people who are absolutely desperate. It would be a great pity if what is basically a good news story—however we disagree about the details of its exact implementation—about providing coverage for those people at an affordable rate were lost in discussions about the minutiae and different details. What will matter to householders is that they can get insurance at an affordable rate and it is progressive, with the rate paid by poorer households lower than the rate paid by wealthier households.
James Heappey (Wells) (Con)
I thank the Minister and his predecessor for all their work on this issue. The regulations are hotly anticipated in Somerset, where they will bring not only insurance for many households, but real peace of mind. For two winters since the last major flooding event in the county, people have known that their homes have been uninsurable. The regulations are welcome, and I place on the record the enthusiasm of Somerset for all the security that they will bring.
Rory Stewart
I am grateful for that statement. I hope that right hon. and hon. Members will be able to communicate to their constituents and those concerned with flooding not only that we have managed to get to this stage, but that we are looking forward to next spring when the scheme is formally launched.
I want to touch briefly on the various points and criticisms made by the hon. Member for Brent North. I find some of them a little bewildering, and I would like to tease them out a bit more. His arguments seem to focus on four areas: awareness, affordability, the transition plan and the model of insurance.
To reassure him on awareness, an obligation is imposed through the regulations on Flood Re to communicate with the insurance industry and on the industry to communicate with the policyholders that they have entered the Flood Re scheme and that by definition they are therefore in the approximately 2% most vulnerable homes. Through the Environment Agency and our investment in new technology, we are absolutely committed to increasing our contact with people in the most vulnerable homes.
We have also been meeting in detail with different parts of the industry that are interested in providing flood resilience measures to individual households. There should be a potential market, and we need to develop it. Just as house and contents insurance has delivered developments in burglar alarms and other protective measures, it should be possible for flood insurance schemes eventually to drive a movement towards people taking resilience measures to drop their premiums. That is where we need to get to. We need a thriving, vigorous industry with a reasonable basic standard that can be offered to a household, saying, “If you do, x, y and z, the insurance industry will recognise that and drop your premium.”
Barry Gardiner
I am grateful to the Minister for his clarification of the points. Given that he believes there is not yet a certifiable standard for resilience measures to be put in, why does he seek not to give the power to the scheme administrator and Flood Re at this stage? They believe that such a facility is in place and that they can insist on resilience measures being put in as a condition of reinsurance. Why not give that power so that the industry can decide how it uses it, when it uses it and whether the market is ready to provide the appropriate benefits or not, rather than waiting for the Government to do a review and then decide whether they want to give the scheme administrator those powers?
I understand the problem. It may be that the market is not yet ready, but surely it is better to give the power to the scheme administrator straight away, so that the insurance companies can take the necessary action the moment they are ready, rather than waiting for a Government review.
Rory Stewart
There are essentially three separate problems with that proposal. The first is that the Flood Re administrator has no direct relationship with households. As the hon. Gentleman is aware, the Flood Re administrator’s relationship is with the insurance industry, and the relationship of the individual insurance companies—for example, Direct Line or Axa—is with the individual household. Whatever measures one is trying to put in place, there needs to be an interaction between the insurance company and the individual household.
The second issue is around the nature of the financial regulations that set up Flood Re. Flood Re, like all reinsurers, is only permitted by financial regulation to carry out the business of reinsurance and related operations.
The third issue—perhaps the most important—is that within three months, Flood Re will produce a transition plan and within two years those resilience measures will be in place. However, in the end it is primarily the responsibility of Government to work with Flood Re, the insurers and the households to get those measures in place; the constraint on that, as the hon. Gentleman has indicated, is that the industry is not yet sufficiently developed to offer a standardised package. A burglar alarm is a much more straightforward thing.
Every one of these properties—not quite every one, but many of them—are in quite difficult, unique situations. The insurance industry is not yet in a position to be comfortable saying, “This exact measure on your door will reduce your insurance premium by £50”, in the way that it can with burglar alarms. It will take some time for what is basically a structure of small and medium-sized enterprises to be able to develop those products for the insurance industry.
The way in which the hon. Gentleman and I can engage in this process most directly is through the measures taken by the Environment Agency and, for the hon. Gentleman, more specifically through Parliament, to which Flood Re is accountable. It will be through Parliament’s review of that three-month transition plan and the two-year actions that we will be able to put in place the measures that we need over the next 25 years.
Of course, the hon. Gentleman is right to say that the fact that the period is 25 years should not mean that we all go to sleep for that time, do nothing and end up dropping off the edge of a cliff. Twenty-five years should be able to give us the right path to get those proper structures in place. It is Parliament’s responsibility to stay on top of that issue.
The second thing that the hon. Gentleman touched on was the question of affordability. He is correct that these statutory instruments do not deal with the duty of affordability. However, he will be aware that the duty of affordability is contained in the Water Act 2014, the debates on which he himself contributed to. Therefore, I do not believe that the duty needs to be in these statutory instruments.
Again, a statutory obligation is imposed through these statutory instruments to push forward with a transition plan. The most sophisticated arguments that the hon. Gentleman has made are around the question of mutualisation and insurance.
Barry Gardiner
There is something I would like to get on the record, Mr Nuttall. Importantly, the Minister has said that he believes that as the duty of affordability is latent within the 2014 Act, it need not be in these regulations. I do not want to tie him down, because I want clarity, but I would like him to write to me, perhaps after this debate, to set out absolutely clearly that that is the position. That would be extremely helpful.
Rory Stewart
I will be delighted to. To clarify, we have to be very careful about what we mean by affordability. Clearly, under both domestic and European legislation, we are not allowed to fix prices. This is a market mechanism. We are relying on competition in the market to operate, the theory being that there would be no reason for an individual insurance company to place a £250 contract with Flood Re if it was not necessary to do so, because a competitor insurance company would be able to offer the same insurance for £50 to the householder and there would be no recourse to Flood Re.
All our affordability calculations are predicated on the assumption that normal market competition will operate. The affordability works through setting the individual premiums and guaranteeing that the £180 million pot will stand behind those individual payments, capping both the premium payment and the excess payment. That is its basis.
Barry Gardiner
I am really grateful to the Minister for engaging in this way. I understand what he says about affordability. On his definition, as long as the market is operating to have competition in place, the result is affordability. However, it is important to recognise that the risk of climate change is increasing and the severity of floods may also increase.
Although, in the purely technical sense that the Minister outlined, if the market is operating people are likely to get the lowest market rate, the ordinary householder may not experience affordable insurance premiums because the risk is increasing and the Government are building on the floodplain. In fact, all the industry has to do is ensure that the price reflects that risk.
Rory Stewart
From the insurance company’s point of view, in the case of the households that are most at risk, Flood Re provides the ability to lay off the flood component of its household and buildings insurance, which for a basic rate council tax payer is in the region of the £220 to £250 mark. There would be no reason for an individual insurance company to make the flood component of its insurance exceed that amount—that is the purpose of the £180 million pot.
I agree, however, with the hon. Gentleman on the basic questions with which he began, and we certainly need to look at this during the next 25 years: building on floodplains, climate change and increasing flood risk. That will have an impact right across the industry.
Richard Benyon
I agree entirely with my hon. Friend. Can I urge the hon. Member for Brent North to be careful about making bland criticisms such as those about building on floodplains? London and York are floodplains. Do the comments apply to those great cities? The issue is about how we build on floodplains and how much flood resistance there is. We can all think of buildings on floodplains that were lunacy and should never have happened—perhaps the Environment Agency was ignored—but such sweeping statements on this important issue need to be qualified carefully.
Rory Stewart
I am grateful to my hon. Friend, who is correct. Building on floodplains is a question of doing detailed calculations; the point is not that floodplains cannot ever be built on. Scotland provides a good example in the constraints that it has placed on building on floodplains, but Scotland has certain advantages in terms of population movements and the nature of the land.
As my hon. Friend said, there are technical solutions that allow for building on floodplains in Britain in a more sensible fashion, but most important of all is the natural capital calculation. We need to be much more realistic about looking at the social and economic costs of building on floodplains. What are the likelihoods of a risk? How much is that likely to cost the householder? How much misery and distress is that likely to cause them? What impact might that have on house prices? When all that is taken into account, someone might still, for particular reasons, decide to build on a floodplain. There could be very good reasons to go ahead, but they must ensure they have gone through the due diligence and looked at the potential costs and risks of doing so.
That brings me to my conclusion. This has been a good and testing debate, as I have come to expect from the hon. Member for Brent North, and it means that we are now one step closer to ensuring affordable insurance. I am reassured that the Opposition are not challenging the measures. I think Members across the Committee would agree that the work done over the past few months by my hon. Friend the Member for Newbury, by the insurance industry and by many of our civil servants—who must be both relieved and exhausted at reaching this stage—has brought us to a pretty impressive model.
I would like the United Kingdom to boast about and share this model with the rest of the world, so that others can see how we have addressed the issue in a pragmatic and focused way. We have done it by working with the insurance industry instead of against it. We have included a very broad sweep of universal provision and have taken into account questions of transition. We have set up a 25-year process. All that shows long-term strategic thinking and market focus, which we should be proud of.
I thank the Committee for the opportunity to set out the Government’s approach on Flood Re and the insurance industry for its hard work. This legislative framework is a good model for balancing pragmatic considerations of how a scheme can operate with public policy objectives. I commend the regulations to the Committee.
Question put and agreed to.
Resolved,
That the Committee has considered the draft Flood Reinsurance (Scheme and Scheme Administrator Designation) Regulations 2015.
Draft Flood Reinsurance (Scheme Funding and Administration) Regulations 2015
Resolved,
That the Committee has considered the draft Flood Reinsurance (Scheme Funding and Administration) Regulations 2015.—(Rory Stewart.)