By Martin Boyd
The issue of huge price rises in leasehold building insurance has become a massive problem in recent years following the tragic fire at Grenfell. Throughout most of the last five years the Financial Conduct Authority (FCA) has done nothing.
Finally, it has been required to produce a report by the now ex-Secretary of State Micheal Gove. Its report accepts there is a fundamental need for change. The report has some good points, but it is still far too weak in many areas and in some parts seems far too close to the finance industry’s interests.
The report is not the result of the FCA taking the initiative, but because Mr Gove required them to report on the matter. After Mr Gove left the department, the FCA may have thought his temporary replacement, Greg Clark, would be less vocal, but that was not the case.
It was perhaps not a coincidence the FCA delayed its report due at the end of July until Mr Clark also moved on and then waited to see whether the wind would turn depending on who the next secretary of state might be. Well, Simon Clarke is maybe not the man the FCA was hoping for. Mr Clarke has instantly made clear he expects change and a further update from the main insurers trade body the Association of British Insurers (ABI) and the British insurance Brokers Association (BIBA) by the end of this month.
Why is there 17 year history of failure?
The FCA, or rather its predecessor the Financal Services Authority first looked at the problem of leasehold buildings insurance in 2005 under restricted report F0057.
We now know some of the evidence in that report from the managing agents trade body ARMA and the residents’ association group FoPRA was fabricated. They are both recorded as stating that there were no problems with leasehold insurance commissions. But neither group made that submission. The 2005 report concluded there was a potential problem with high commissions, but suggested the FSA may choose not to monitor the issue.
In 2014 the FCA again reported there was an issue of high commissions, but again decided to do nothing.
Since 2012 there have been repeated meetings with the MPs who went on to become the co-chairs of the All Party Parliamentary Group on leasehold and commonhold reform who have pointed to the problems in the sector. The FCA has repeatedly declined to take action on this market.
The FCA report
For most people, the headline from the report is that it records the huge increase in insurance cover costs and in some cases the inability to obtain cover. In some cases prices have gone up by over 1,000% with no evidence of any corresponding increase in claims history.
The report states cover costs for flats have had a mean increase of 126 per cent since 2016: that is, for all flats costs have more than doubled. (1.16)
For flats with building safety issues the report says that commissions have more than tripled in value in the years 2016-2021 up 261% while freeholder and managing agents have increased their income by more than double up to 137%.
For flats without building safety issues the commissions have continued to increase up by 51% for brokers and by 30% for freeholders.
The data in the report then looks at the divergence in costs between buildings with and without cladding
The report states the mean gross premium on medium and high-rise blocks was £6,800 in 2016 and is now £15,300 in 2021.
It records that in the period 2016-2021 blocks with cladding saw increases in insurance of 187% while those without cladding went up by 94%
Many leaseholders in cladding blocks may accept that the mean cost of insurance in 2016 may have been £26,300, but will struggle to accept the FCA claim that is just £75,600 in 2021.
This mean figure for buildings deemed to have building safety issues appears to be very low compared to the evidence seen in the market.
What the report makes clear is that there is still a lack of data and that the regulator has failed to collect data over many years.
A key omission in the report is set out at 3.136
“Our data do not allow us to test whether the renewals may be associated with a worse or a better product offering in terms of features other than the premium, such as excesses or exclusions.”
It has been clear from anecdotal evidence in the market that many policies on sites with building safety issues have had excesses and exclusions added to the policy that limit the likelihood of claim perils that have nothing to do with building safety. This makes the relative cost increases far higher than the FCA suggests.
It is unclear why the insurance industry has been unable to provide this data as their policies always specifically record excesses and exclusions.
There will obviously be a direct correlation between the number of claims and the level of excess on all perils. An excess of £100,000 on fire related claims will exclude all but major events. Exclusions for matters like storm damage remove all liability for any claim.
The report does mention the insurance industry concern about water leaks. While the report states the building cost data is only made available from 2016, it accepts the ABI statistics from 2004-2021 on water leaks which record an 8% increase per year. As the data is not split between commercial and residential it is not possible to know if the increase applies at the same level to both types of buildings
From LKP’s experience with the Water Bill in 2014, we have some caution over ABI statistics. During the passage of the Water Bill the ABI stated that it did not hold certain flood data, only to go on to release an anonymised set of data to DEFRA which it refused to allow to be reviewed by other stakeholders. That data was used as part of the ABI argument that leasehold properties should be excluded from the Floor Re: protections introduced as part of that Bill.
Sample set and some rather odd numbers
The FCA accepts the government estimate of 90,500 mid and high-rise buildings in England. The dataset provided by insurers covers just 13,703 of those buildings, of which 505 have cladding issues. The brokers data covers 7,529 buildings of which 633 have cladding issues.
The report then somehow concludes
“This provides us with assurance that we have surveyed and obtained information from the insurers currently underwriting most of the multi-occupancy residential buildings in the UK.”
Logic would suggest if the insurers provided all data there should have been 90,500 records not 13,703, and given that we have many thousands of buildings with B2 ratings and thousands of buildings that have applied to the BSF it is not clear why less than just 505 are recorded.
The missing data
Missing from the report seems to be any consideration of the impact that the block policy systems used by many large landlords has on the rest of the market. When the report talks about pooling together cover risks on multiple buildings it is only looking at how the market might develop a pooled system not the distortion that occurs due to the leasehold system where there is a small number of very large landlords to whom the insurance industry may pay very high commissions on the basis the risk is already pooled. The report does not consider whether these big landlord arrangements have led some suppliers to exit the market.
The report accepts the sector’s assertion that this is a market with reduced profitability, but provides no clear data to support this claim and then goes on the place the fault at the door of the broker, the managing agent and the freeholder for taking very high commissions.
This apparent exoneration of the insurance providers with little explanation of the data provided other than at para 3.80 where there is nothing other than a summary which it is not possible to review. From this one paragraph, the FCA asserts “this is again not a loss or combined ratio that is indicative of excessive pricing or profitability”.
Also odd is the claim most agents are not regulated by the FCA. To our understanding there are no large managing agents not regulated by the FCA. There are no numbers in the report.
The role of brokers freeholder and agents
The report focuses most of its criticism on those taking commissions. As mentioned, the FCA has known about this for years and until now has done nothing about it.
The report does little to differentiate between what may be legitimate costs borne by independent brokers and the fictional costs landlords claim to incur to justify their argument for commissions. The report does not consider the use of offshore captives by some managing agents to hide commission levels from their leaseholders or any of the other means the regulator should know are used in this sector such as the use of contingent and soft commissions.
While the FCA passes most of the blame to the brokers, they fail to account for the fact the brokers only work in the environment that the big insurance companies allow. As with the rest of this report the insurance companies face little criticism
The Finance Ombudsman and ICOBS rules and inaction
The FCA Insurance Conduct of Business Sourcebook (ICOBS) rules introduced in 2008 specifically works against most leaseholders’ interests. These rules have meant most leaseholders are not deemed to be the customer in most policies despite paying for the cover via their service charge.
In turn this means they are not entitled to know about the commissions paid in relation to the policy. Perhaps more important still they are not allowed to raise a complaint about the policy with the Finance Ombudsman. Time after time the Ombudsman has ruled that if the landlord and the insurance company do not want to raise a complaint (why would they it would be against themselves?) the ombudsman cannot rule on a complaint made by leaseholders.
In its conclusions, the FCA specifically rules out the idea that leaseholders should have the right to complain to the Finance Ombudsman. It also recommends not allowing them to be considered as the customer under ICOBS rules.
Instead, the FCA proposes leaseholders should be included under the Product Intervention and Product Governance sourcebook (PROD) rules. To what extent this provides a robust protection is unknown.
At para 2.29 the FCA proposes the argument that to include leaseholders in the ICOBS rules: “It may not be practical to make the insurer or broker responsible for assessing whether the policy meets the needs of each individual leaseholder”. Since the ICOBS rules do currently apply to policies where the leaseholders own the building, or are directly named in the lease, it is difficult to understand how the FCA reaches its view.
As we have set out above, the FCA has know for 17 years that there is a problem of commissions in the leasehold sector and has done nothing about it.
It should also be noted that one of the statutory panels under the FCA is the Financial Services Consumer Panel, which has also failed to lift a finger. In an FIO reply earlier this year, the FCA confirmed that the Financial Service Consumer Panel has never raised any questions about leasehold buildings insurance.
Leaseholders may find this very odd given that until earlier this year the consumer panel was headed by Wanda Goldwag, who is also the chair of the government-funded Leasehold Advisory Service. LEASE published data shows that service charge costs are the number 1 issue raised by leaseholders and that in 2020/21 insurance as a part of service charge costs was recorded as the tenth most common type of question raised with LEASE.
The FCA report sets out a set of questions and it is very important that leaseholders respond.
The new Secretary of State, Simon Clarke, makes clear that the sector and the FCA need to stamp out “industry malpractices”.
In an article in The Daily Telegraph, Mr Clarke makes clear that the government will actively pursue those developers and landlords who refuse to remediate buildings that have safety issues.
He criticises the insurance sector and the lenders and makes clear he expects the insurance industry to find solutions in a matter of weeks. Mr Clarke ends his article with the statement “we will work to restore the right of everyone in this country to feel safe in the place where they and their loved ones sleep at night”.