IAG SUBMISSION

FIRE AND EMERGENCY NEW ZEALAND BILL

18 August 2016

1. INTRODUCTION

1.1 This submission is a response by IAG New Zealand Group (IAG) to the Fire and Emergency New Zealand Bill (the Bill) currently being considered by the Government Administration Select Committee.

1.2 IAG is New Zealand’s leading general insurer. We insure more than 1.5 million New Zealanders and protect over $450 billion of commercial and domestic assets across New Zealand. Our business is focussed on making the world a safer place, and we are committed to making sure that New Zealanders have the ability to protect themselves and their assets through easily accessible and affordable insurance.

1.3 Our submission focuses on Part 3 of the Bill and we provide some high level commentary addressing funding options and the considerable compliance costs these proposed changes will have on our business. More technical and substantive commentary on the Bill’s proposals can be found within the submission made by the Insurance Council of New Zealand (ICNZ) which we have contributed to and endorse. The ICNZ submission represents the broad consensus amongst our industry and the shared concerns we have over the Bill.

1.4 In addition to our comments on the Bill, we refer the Committee to our response to the Department of Internal Affairs’ discussion document on the proposed regulations supporting the Bill which we can provide on request.

1.5 This submission contains commercially sensitive information and we request that the contents of our submission remain confidential under Section 9(2)(b)(ii) of the Official Information Act 1982.

1.6 We welcome the opportunity to make an oral submission to the committee and discuss the matters outlined in our submission in greater detail.

1.7 IAG’s contacts for matters relating to this submission are:

Bryce Davies, Senior Manager Government and Stakeholder Relations T: 09 969 6901 E: [email protected]

Yannis Naumann, Manager Government and Stakeholder Relations T: 09 969 7959 E: [email protected]

About IAG New Zealand IAG New Zealand is made up of IAG New Zealand Limited trading under the NZI, Lumley, State, and AMI brands. IAG New Zealand Limited also underwrites general insurance for ASB, BNZ and The Cooperative Bank, and Westpac. IAG New Zealand Limited has a 45% share of the general insurance market, managing 3.8 million policies of 1.5 million New Zealanders. IAG New Zealand Limited is a wholly owned subsidiary of Insurance Australia Group (IAG), Australasia’s largest general insurer. IAG New Zealand Limited, Private Bag 92 130, Auckland 2. GENERAL COMMENTS

2.1 IAG recognises the important role that New Zealand’s fire and emergency services (FENZ) play in our country. We are pleased to see that this Bill helps establish a flexible, modern, effective, and efficient fire service.

2.2 We acknowledge the importance of ensuring that FENZ is properly funded for their activity so that all New Zealanders are able to benefit from the important services they provide across the country.

2.3 We have, however, long maintained that the proposed funding model for New Zealand’s fire services is inequitable and undesirable. The services offered by our fire services are clearly a public good, and it remains our firm belief that they should be funded by general taxation.

2.4 We were disappointed to see that general taxation options were never canvassed as part of the Department of Internal Affairs’ Fire Service Review Discussion Document in 2015. This omission was puzzling given the majority of stakeholders had supported them as part of the 2012 Fire Review Panel (despite funding through taxation being excluded from the terms of reference), the department’s own officials had identified the benefits of funding the services through general taxation, and a significant amount of independent economic research had been provided illustrating that a levy on insurance is the worst possible option for funding the fire service.

2.5 In this context, it is difficult to express support for a number of the funding proposals outlined within the Bill. While we acknowledge we are now beyond the point of being able to relitigate the appropriate funding structure for FENZ, there remain a number of important issues that must be addressed to ensure funding is fair and efficient in its operation.

2.6 Although this Bill attempts to address the existing funding imbalance, it only succeeds in placing further compliance costs on insurers and establishing an unfair and inequitable model where insurers are effectively forced to act as an unpaid collection agent for New Zealand’s fire services.

2.7 As it stands, the Bill will be complex and expensive to comply with given the inherent complexity of the products and supporting systems used by the insurance industry. It is important that the Committee take heed of the changes we and the ICNZ are recommending if this complexity and cost is to be reduced.

2.8 As noted in our comments on the Department of Internal Affairs’ discussion document on proposed regulations supporting the Bill, our ability to make informed comment and accurately quantify the financial impost the proposals have on our business and, more importantly our customers, is constrained by the lack of fundamental information made available on what the levy rate will be, or the scope of New Zealand’s fire and emergency services.

2.9 We note that the responsibility for communicating these changes should not fall upon insurers alone and we expect that the Government will be involved.

Page 3 3. OUR MAJOR CONCERNS

3.1 Within this section, we outline our high level concerns with Part 3 of the Bill. We note that more detailed views on the technical elements of the Bill are encompassed within the substantive ICNZ submission.

Insurers will be forced to act as an unpaid collection agent

3.2 The Bill effectively establishes an insurer as an unpaid collection agent for New Zealand’s fire services, placing unwelcome compliance costs and cumbersome responsibilities on industry without any form of explicit cost recovery. We believe this should be factored into decision making about future funding arrangements in order to ensure that any cost of collection is minimised.

3.3 We note insurers currently fulfil a similar role collecting an EQC Levy for the Earthquake Commission but are paid a collection fee which mitigates the insurers’ collection costs. We recommend that should insurers be forced to act as a collection agent for fire services, a similar approach be established. This alternative approach would ensure there is greater transparency over the costs involved in the collection of the FSL.

Defining the amount insured

3.4 We see an unacceptable level of uncertainty in the application of Section 70 to current material damage policies. The importance of the section demands that this be rectified.

3.5 The aim must be to establish a single number that the insurer and FENZ can confidently rely on to provide the basis for calculating the levy. Any uncertainty in the basis for that number or a requirement to maintain multiple numbers would add unwarranted complexity and cost to the scheme. The challenge we face is that this desired simplicity quickly runs up against the inherent complexity of the industry’s products.

3.6 To achieve the desired simplicity, we recommend that:

o The term “express maximum limit” be changed to sum insured as this is the term used within the industry and is the ‘single number’ we believe the regime should be based on

o The Bill explicitly states that policy extensions are not to be levied. Currently, the Bill is silent on the treatment of common product features that provide additional cover outside the sum insured. A simple example of this is the temporary accommodation benefit provided in home policies, but there are many more including: margin clauses, contract works, trailers, minor building work, capital additions, blanket demolition

Page 4 costs and catastrophe inflation provisions. We recognise that this presents a risk that policies are structured for the purpose of avoidance, but believe there are sufficient protections in place within the rest of the Bill for FENZ to handle this should it occur. To require that these policy features are levied will only add complexity and additional costs to our customers’ policies

o The Bill clarifies the treatment of ‘first loss’ policies. We recognise and support the intent to eliminate the use of avoidance measures, but it needs to be made clear that this intent does not extend to override legitimate insurance decisions made by customers. These decisions may, for reasons of a customer’s risk appetite or ability to pay or secure cover, result in the ‘sum insured’ of a policy being less, and sometimes substantially less, than the value of all the property covered by the policy. For the avoidance of doubt, the Bill must explicitly state that such outcomes are accepted within this regime

Differences in declared values

3.7 We see an unacceptable level of uncertainty in the application of Section 71.

3.8 We support the ICNZ’s desire to be able to rely on insurer valuations. This will help avoid considerable additional compliance costs.

3.9 We also note that the effect of Section 71 is to incentivise the use of sum insured policies by making the compliance costs associated with replacement policies significantly more onerous. We do not think it is right that a levy regime should favour one product design over another which will only distort a competitive market.

3.10 We agree where the policy has no limit, such as in a replacement policy, a fair and reasonable valuation should be used. For the avoidance of doubt, Section 72(2) of the Bill should be amended to make clear that the valuation is being used to set a sum insured, even though the policy may be silent on the level of cover. In its current form, the Bill risks confusion as Section 72(2) can be interpreted as being the same as Section 71(a).

3.11 We note that valuations are accepted by insurers in good faith, yet insurers as the levy payer are liable for possible penalties if FENZ believes the valuation constitutes an unacceptable levy position. This makes us liable for the actions of others that we cannot control. This is grossly unfair and should be removed from the Bill.

3.12 It is also not clear to us how ‘fair and reasonable’ will be interpreted and we believe that further guidance on this must be provided.

3.13 We recommend the Bill be amended to make these clarifications and changes.

Page 5 Marine Insurance

3.14 We are concerned by the confusing nature of the Bill’s treatment of marine insurance and whether these contracts are subject to the levy.

3.15 While the Bill appears to largely exempt marine insurance contracts from the levy, the Department of Internal Affairs’ discussion document assessing levy exemptions proposes removing exemptions for ‘any ship or anything in a ship’ on the basis that fire service activities may include responses to at‐sea emergencies. This would seem to suggest that marine insurance contracts may indeed be subject to the levy. This appears contradictory and is confusing.

3.16 As noted within our submission on the proposed levy regulations, we believe marine insurance contracts should be exempt, and recommend this is clearly reflected in the Bill.

An excessively harsh penalty regime

3.17 We are deeply concerned by the proposed penalty regime in the Bill. We note that it has been transferred from tax legislation without any of the associated remissions and results in a regime that is more stringent than that used to apply other taxes such as GST and the EQC Levy to insurance contracts.

3.18 The Bill appears to eschew the basic tenant of natural justice ‐ the presumption of innocence until proven guilty ‐ by stating that the burden of proof is on the levy payer. It then also requires the payment of penalties within 60 days of the customer taking the impugned levy position (an unrealistic timeframe) and interest immediately. This is grossly unfair.

3.19 We note that there is an inherent conflict in FENZ being in a position to interpret, impose, and recover penalties irrespective of the presence of a disputes scheme. This represents a potential challenge to the independence of the dispute resolution scheme.

3.20 It would be better if FENZ adopted a model akin to that in relation to tax where disputes can be raised by either party and are resolved before any redress or penalties are imposed. This would also align with the modern regulatory approach of tiered responses to infringements, and reinforce the expectation that parties should enter dispute resolution with open minds about the outcomes. We do not think any potential delays in securing unpaid levies arising from this model will imperil the financial position of FENZ.

3.21 The tax regime also includes a range of penalty remission mechanisms that should be graduated across to the Bill. Any remissions should be treated consistently across the two regimes as we believe that the funding of FENZ is no more or less important than the funding of other Crown activity.

3.22 We also believe that greater independence is needed within the dispute resolution scheme.

3.23 We recommend that the Bill be amended accordingly.

Page 6 Formal ‘grace period’ for penalty regime

3.24 Given the inherent complexity of this Bill and the reasonable presumption that most underpayment of levy is not intentional, we strongly recommend that the penalty regime be introduced at least 12 months after the broadening of policies to which the levy attaches and the associated removal of exemptions. This would create a grace period in which all participants can bed down their systems and procedures.

3.25 We note that the Department of Internal Affairs’ Discussion Document contemplates FENZ ‘not relying’ on the provisions when the relevant sections come into force. While this is in a sense reassuring, we recommend that it also be reflected in the legislation’s commencement date.

Our commercial exposure

3.26 A number of the proposals within the Bill ignore the present structure and commercial operating environment of the insurance industry including the role that intermediaries such as brokers play, particularly in the commercial space. As an insurer, we often have little visibility of a broker’s calculation of a fire service levy (which accounts for more than 50% of all levy collected), yet under the Bill we will be liable for any errors or miscalculations and subject to significant penalties. In effect, this makes us liable for the actions of others that we cannot control irrespective of considerations of agency. This is grossly unfair and should be amended to ensure that accountability for errors in calculating the levy sits with those who calculate it.

3.27 We note the role of intermediaries in the insurance sector also leads to issues around the timing of payments of the levy given the time it takes for that to be paid to insurers. The Bill establishes the potential for insurers to be paying for levies when they have not received those levies from intermediaries, and then face penalties on top of that. Consideration should therefore be given to providing a mechanism for penalties and interest to be collected from intermediaries.

Competitive advantage to overseas insurers

3.28 We believe the Bill should be commercially neutral. It is imperative that the integrity of the New Zealand insurance market is preserved so that those operating within it are able to actively compete for business on a level playing field.

3.29 As identified by the ICNZ, the Bill potentially compromises the ability of domestic insurers to fairly compete by incentivising New Zealanders to insure their domestic assets with a foreign insurer not subject to the levies associated with our fire and emergency services.

3.30 The potential for the Bill to distort the market is evident in the marine or aviation sectors where cargo in transit within New Zealand is not always owned or insured within the domestic market. Domestic based insurers will be subject to levies, whereas insurance arranged through a foreign provider will not.

Page 7 3.31 We suggest the Bill should grandparent provisions from the current Act which places an obligation on the insured to pay levies on assets within New Zealand and provides exemptions for ships and aircraft and their cargo. This will assist in reducing the number of New Zealanders avoiding payment of the levy.

Implementation Timeframes

3.32 As noted above, the uncertainty around the extent of FENZ’s services and levy rates makes it difficult to accurately forecast the financial impact on our business. In this context, we believe that implementation requires careful consideration given private insurers will need to make significant changes to their current systems.

3.33 These changes involve considerable time and investment, further exacerbated by the operation of several core insurance systems and hundreds of affected products. The technical teams required for this work will likely already be committed to numerous other business improvement initiatives meaning such initiatives will need to be delayed to make available the resources required to make the levy changes. Private insurers will also be required to:

o Change pricing algorithms to reflect changes in levy attachment and levy rates;

o Redesign products and make associated pricing, underwriting and systems changes to reflect the move to material damage and the removal of exemptions;

o Change customer collateral and policy documentation; and

o Train staff

3.34 We note that the experience of similar changes that span systems and business processes are inherently complex, requiring significant lead times and incurring considerable costs. Identifying the time and costs involved in making these changes is difficult given the level of uncertainty within the Bill. However, by way of comparison, the implementation of the last widespread change to our products ‐ the introduction of sum insured home products ‐ took just over a year and cost approximately $9 million. We believe these changes could be more complex and will be exacerbated by the three stage implementation process being proposed.

3.35 Furthermore, officials’ consideration of a three‐yearly review and a flexible system that would allow substantive changes to the design of this scheme in addition to the actual levy rates adds considerable cost and complexity to the solutions our business would need to put in place.

3.36 The timing associated with these changes is also complicated by a number of dependencies that will form a critical path within the implementation process. The most obvious of these are changes associated with the review of the EQC scheme. These will not only impact the same products and systems and call on the same people as funding for fire and emergency services, but represent a larger operational change to our business.

Page 8 3.37 It is imperative therefore, that insurers are provided with a long and sensibly paced lead time to make the required changes, and that there is close and ongoing consultation between the Department of Internal Affairs and industry on how the levy rate changes will be implemented.

3.38 We would be happy to work closely with DIA to illustrate the complexity involved with making changes to each of our systems and the time and cost involved in order to develop mutually agreeable solutions.

Page 9 4. CONCLUSION

4.1 IAG is committed to working in partnership with the Government to ensure that New Zealanders benefit from a flexible, modern, effective, and efficient fire service and that funding for these services is equitable and does not result in insurers facing significant compliance costs or acting as an unpaid collection agent.

4.2 We look forward to further discussing these proposals with Committee members when we provide an oral submission.

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