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Lessons from Cyclone Larry
In March 2006 Tropical Cyclone Larry devastated the towns of Innisfail
and Babinda on the Queensland north coast. Our review of preliminary
information available after the cyclone identified the following issues:
- Preliminary estimates from some of the insurers surveyed indicated
that at least 50% of homes were underinsured.
- Insurers surveyed estimated that building costs increased by at least
50% immediately after the disaster.
- Many older homes did not comply with anti-cyclone building code
requirements introduced after Cyclone Tracy. This had two effects:
the sum insured may not have taken into account the extra building
costs associated with meeting these standards and the house was
more likely to be a total loss after a cyclone.
Preliminary indications are that most insurers did not take a strict approach
to paying claims, and in many cases settled claims for amounts greater than
the policy allowed. Government also provided financial assistance.
Consumers cannot expect that financial support from insurers and
government for a failure to be properly insured will always be forthcoming.
These lessons will be reviewed and reconsidered as further information
becomes available.
Conclusion
Since the 2005 report, most insurers have taken some positive steps to help
consumers reduce the problem of underinsurance. Those steps include:
- developing new products, in particular total replacement policies
which ensure consumers are adequately covered-if their home is
accidentally destroyed their insurance will pay to rebuild it,
- improving calculators, and
- promoting better education initiatives.
We encourage further measures be undertaken such as:
- investigating whether total replacement and extended replacement
policies can be more widely available and commercially viable, and
- educating consumers about underinsurance and the availability of
web-based calculators.
Most insurers have taken steps to improve the tools available to consumers
and help address the risks of underinsurance. However, consumers also have
a responsibility in reducing the risk of underinsurance via the type of
insurance they purchase and, where relevant, by using the available tools to
select the appropriate level of cover.
Why consumers are
underinsured
What we found in 2005
The 2005 report identified the following reasons for underinsurance:
- Most home building insurance policies in Australia are 'sum insured
policies.' These policies require the consumer to nominate a specified
figure (based on an estimate of rebuilding costs) on the amount that
will be paid out in the event of a total loss.
- Estimating rebuilding costs can be a difficult task, requiring expert or
technical assistance. However, nearly all standard home building
policies placed the onus on the consumer to calculate these costs and
carry the risk of getting it wrong.
- Consumers generally relied on their insurer for help in estimating
rebuilding costs. However, only a small number of insurers provided
consumers with reliable tools for estimating the cost of rebuilding
their home.
- Consumers might overlook the need to increase the sum insured over
time to keep up with changes in building costs generally, or because
of specific increases in rebuilding costs. Rebuilding costs can be
significantly increased by:
- new or enhanced building code requirements, and
- renovations to the insured's home.
- Insurers increase the sum insured annually. Our 2005 report found that
insurers used three different measurements to increase the sum insured
under their policies: the consumer price index (CPI), the house building
index (HBI) and a specialist building cost index (known as CHIP).
Between March 2000 and March 2005, the HBI increased by 12%, the
CPI by 17%, and CHIP by 33%. If CHIP can be seen as a more precise
measure then a consumer will become underinsured if the level of cover
is only increased by the HBI or CPI.
- Even if a consumer correctly estimates what it would cost to rebuild
their home in a one off total loss, it is almost impossible to know
what it will cost to rebuild a home that is destroyed in a mass disaster.
The surge in building prices that occurs after a mass disaster can be
very unpredictable.
- Insurers adopted different definitions of the sum insured. This figure
may or may not include additional costs (such as demolition costs)
and the consumer might not always realise that they may have needed
a higher level of cover to meet these costs.
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