What can happen to organisations who fail to take out compulsory insurances in australia

There are few surprises when it comes to insurance, but when they do come, they nearly always bring bad news. Such was the demise of HIH Insurance Limited (HIH): both a surprise (to many) and very bad news for many policyholders.

On Thursday, 15 March 2001, HIH received approval from the NSW Supreme Court to place HIH into provisional liquidation. Tony McGrath of KPMG was appointed as provisional liquidator to HIH and 17 of its controlled entities. Provisional liquidation is a temporary form of administration that gives HIH time for the provisional liquidators to review HIH operations and assess the financial position.

HIH insurance is now in run–off, which means it is managing its outstanding claims and not writing any new business. This could take several years to complete; some have suggested as long as 10 years.

Facts About HIH Insurance

HIH comprised several separate government–licensed insurance companies, including HIH Casualty and General Insurance Limited, FAI General Insurance Company Limited (FAI), CIC Insurance Limited (CIC) and World Marine and General Insurances Limited (WMG).

HIH wrote many types of insurance in Australia, the USA, and the UK. In Australia, this includes compulsory insurance (such as workers’ compensation and compulsory third party motor vehicle) and non–compulsory insurance (such as home contents and travel insurance).

According to the HIH 2000 Annual Report the company had gross premium revenue of $2.8 billion, total assets of $8.0 billion, total liabilities of $7.1 billion, with net assets of $900 million.

A brief recent history of HIH is provided below.

DateEventJun 4 1992British insurance broker CE Heath floats off 45 per cent of its under–performing subsidiary CE Heath International Holdings Ltd (HIH) on the stock exchange. HIH in 1991 had net assets of $A39.7 million.April 1995HIH Insurance Ltd acquires CIC InsuranceJun 6 1996HIH acquires Utilities InsuranceJan 8 1997HIH becomes Australia's largest underwriter of bancassurance business after acquiring Colonial Mutual General Insurance.Sep 1998HIH blacklists stockbroking analysts who disputed its assessment of the companyJanuary 1999HIH wins a $300-million takeover bid for FAI Insurance3 March 1999HIH posts a 39 per cent fall in 1998 net profit to $37.6 million, blaming damage claims19 November 1999HIH admits it paid more than it expected for FAI.March 2000HIH returns to profitability in first half of 1999/2000.June 2000Analysts are concerned about HIH after the Australian Prudential Regulatory Authority's (APRA) proposes to increase capital adequacy requirements for insurers13 September 2000HIH sells part of its domestic personal lines business to German insurance giant Allianz for nearly $500 million14 September 2000HIH shares tumble to an all-time low after a lower-than-expected profit result and criticism of the Allianz deal12 October 2000HIH chief executive Ray Williams announces his retirement15 December 2000HIH shareholders call for resignation of former FAI chief Rodney Adler from the HIH board26 February 2001Rodney Adler resigns from HIH board14 March 2001NRMA Insurance buys HIH's workers' compensation portfolio.15 March 2001HIH Insurance goes into provisional liquidation with losses of $800 million16 March 2001APRA says HIH's woes stem largely from a reassessment of claims liabilities11 April 2001Provisional liquidator warns it could take up to 10 years before some creditors are paid.16 May 2001Australian Securities and Investments Commission launches its biggest ever investigation, seizing HIH documents18 May 2001Former HIH chief Ray Williams hands in his passport and says he has nothing to hide21 May 2001The federal government announces a royal commission into what is Australia's biggest corporate collapse.

Source: AAP, compiled by Rob Lundie.

Shareholders of HIH are likely to incur significant losses on their investment, perhaps their entire capital. The extent of these losses will be revealed over time.

Immediately following the collapse of HIH, numerous reports appeared in the press about HIH policyholders not having their insurance contracts honored and their claims not paid. This section discusses how different policyholders were affected immediately after the collapse.

Prior to and after the collapse of HIH, a substantial number of policyholders with particular types of insurance had their policies taken over and honoured by other insurers. The following sections:

• Explain which policyholders have had their policies taken over by other companies
• Identifies those policyholders with HIH and its subsidiaries that were at risk of suffering financial loss by not having their insurance contracts honored and claims paid, and
• Identifies policyholders that may need to take out new insurance cover.

Personal and Domestic Insurance

According to the provisional liquidator, Allianz Australia Insurance Limited (Allianz) have confirmed that private motor, compulsory third party ("CTP"), private pleasure craft, home building and home contents insurance policies with HIH, FAI, CIC and WMG, that were current at 1 January 2001 or have been issued by Allianz since this date, are covered by Allianz. Accordingly, policies in these categories do not need to be replaced. For any other personal and domestic insurance products not listed above, customers should obtain advice as to whether they need to obtain alternative insurance cover.

Claims on policies in prior periods of insurance and in respect of those policies not covered by the Allianz arrangements, will constitute claims against HIH and will not be paid at this time. There is therefore a real risk that personal and domestic policy claims (with the exception of CTP claims) made on policies not current at 1 January 2001 and on policies not covered by the Allianz arrangements, may not be capable of being fully satisfied.

According to the provisional liquidator, CTP policy claims will be met in full either by Allianz (policies current at, or issued by Allianz since 1 January 2001) or through the relevant state statutory schemes regardless of when the policy was issued. Accordingly, current CTP policies do not need to be replaced and normal claims processes remain in place.

Workers' Compensation Insurance

Schemes exist in each state and territory to make payments to claimants under certain circumstances. In NSW, Victoria and SA, HIH managed workers’ compensation claims for the relevant state authority, which will continue to settle claims in accordance with their normal practice.

According to the provisional liquidator,NRMA Insurance Limited (NRMA) is currently in the process of seeking to take on the renewal rights in the HIH workers’ compensation business. The provisional liquidator has agreed with NRMA that subject to completion of the transaction, NRMA will assume HIH’s risk in relation to current workers’ compensation policies from the date on which HIH went into provisional liquidation (ie 15 March 2001). Accordingly, current policies in this category of insurance do not need to be replaced.

Nonetheless, workers’ compensation policies written in Victoria, Western Australia, Tasmania and the ACT have been the subject of government–funded rescue packages (see below).

Small Business, Rural and Commercial Insurance

According to the provisional liquidator, Allianz have confirmed that small business packages, rural packages and most small commercial insurances (such as commercial motor, fleet motor less than 150 vehicles, property with asset values less than $20 million, public and products liability policies with turnover less than $5 million and marine) arranged through distributors other than international brokers with HIH, FAI, CIC and WMG that were current at 1 January 2001 or have been issued by Allianz since this date, will be covered by Allianz. Accordingly, most current policies in this category of insurance do not need to be replaced.

Small business, rural and commercial insurance policy customers that are not covered under the Allianz arrangements should contact their broker or adviser to confirm the current status of their policy

Claims on policies in prior periods of insurance and in respect of those policies not covered through the Allianz arrangements will constitute claims against HIH and will not be paid at this time. There is therefore a real risk that small business, rural and commercial insurance policy claims made on policies not current at 1 January 2001 and on policies not covered by the Allianz arrangements, may not be capable of being fully satisfied.

Travel Insurance

According to the provisional liquidator, consumers that commenced travel on or after 17 March 2001 should contact the company/travel agent that provided the insurance to determine whether the insurance was underwritten by any company in HIH. All HIH policies in this category where the relevant HIH insurer is in provisional liquidation, will be honoured by QBE Insurance (Australia) Ltd (QBE) for no extra premium from consumers. Travellers whose insurance cover was in question should now be protected by new arrangements.

QBE reached in principle agreement with the provisional liquidators to assume responsibility for all the existing travel insurance liabilities of HIH where premiums were written in Australia. When details of the arrangement are finalised, it will remove the uncertainty surrounding those people who had commenced travel in Australia or overseas prior to 17 March. In due course, those people should be automatically covered for medical and hospital emergencies and other valid travel claims.

The Australian Securities and Investments Commission (ASIC) advises that it is important to note that much travel insurance is prominently badged by organisations other than the insurer, such as travel agencies or airlines. Some of these policies will have been sold under the name of "Readyplan".

Consumers who have not yet travelled but have purchased and hold current travel insurance through Jetset; Qantas; Air NZ; STA Travel; American Express; Harvey World Travel; Thomas Cook; Any AFTA travel agent; or other financial institutions should contact these organisations to determine whether the insurance was underwritten by any company in HIH.

Builders Warranty Insurance

HIH offered Builders Warranty Insurance in NSW, Victoria, South Australia, Western Australia and the Australian Capital Territory.

Royal & Sun Alliance Australia Ltd, has indicated it will offer, at its discretion, limited, short term policies to builders previously covered by HIH. This would be provided for an additional premium and after meeting certain conditions. Another insurer, Dexta Corporation has indicated it will offer cover for building works in progress and work where a contract has been signed but the work has not yet commenced, provided the contractor concerned satisfies Dexta’s underwriting requirements.

The provisional liquidator advises that outstanding claims in respect of these types of policies and any unexpired premium will constitute claims against HIH. There is therefore a real risk that claims made in relation to this class of business may not be capable of being fully satisfied.

Nonetheless, builders’ warranties insurance policies written in Victoria, Tasmania and the ACT have been the subject of government–funded rescue packages (see below).

Corporate and Other Policies

Corporate and other policies include professional indemnity, directors and officers, public and products liability, marine, group salary continuance, property and special risk classes such as jewellers block, group personal accident, and trade credit.

According to the provisional liquidator, an agreement was reached to facilitate QBE to provide renewal insurance for most of HIH's remaining corporate business. QBE is willing to consider providing insurance to existing HIH customers prior to the completion of this transaction. Policyholders who take up this offer will need to approach QBE in order to reach agreement about the terms of any cover and the payment of any additional insurance premium.

Corporate policyholders should consult their insurance brokers/advisors and obtain alternative insurance cover if advised. These policyholders may also wish to contact their industry associations if relevant.

Outstanding claims in respect of these policies and any premium refund will constitute claims against HIH. There is therefore a real risk that claims made in relation to these classes of business may not be capable of being fully satisfied.

Sporting Insurance

QBE has taken over the insurance cover of the Rugby Union and Rugby League competitions previously covered by HIH. The cover, which includes injury as well as liability and professional indemnity for referees, coaches and administrators, is for all Australian Rugby Union controlled competitions Australia–wide, from Super 12 level down, and most Junior Rugby League groups in NSW.

An American report(1) attributed insurance company failures to rapid expansion, unsupervised delegation of authority, extensive and complex reinsurance arrangements, underpricing, reserve problems, false reports, reckless management, incompetence, fraud, greed, and self–dealing. According to A.M. Best,(2) insurance industry insolvencies started to rise again in 1997 due to inadequate reserves for claims.

According to press reports, HIH's actuarial adviser had warned HIH management a year before the company collapsed that its accounting practices could have "disastrous consequences."(3) These practices were the amount of assets held by the company in order to pay future claims. "Instead of adding a buffer – known in the industry as a 'prudential margin' HIH chose to lay off some of its risk by buying reinsurance from other insurance companies." According to HIH's actuarial adviser, "by June 2000 it had run out of reinsurance cover,"(4) and presumable did not have sufficient assets – or a sufficient prudential margin to pay claims.

The actual reasons for the demise of HIH is likely to be revealed either by the provisional liquidator, or by one or all of the inquiries into the HIH collapse.

The provisional liquidators are working with HIH management and the insurance regulatory body, the Australian Prudential Regulation Authority (APRA) to manage the provisional liquidation.

According to the provisional liquidator’s statement of 11 April 2001 :

• Each of the major Australian insurance licence holding companies within the HIH group are clearly insolvent – that is, they will clearly not be able to pay their debts in full.

• The financial position of each of the three main licence holding companies is worse than the stated balance sheet position, by a very significant margin in each case.

• The deficiencies reflect previous optimistic valuation of assets, and extensive underestimation of liabilities.

• The very substantial losses, which will be revealed, will not be restricted to the last nine months of operation.

• Although significant losses have been suffered on some overseas elements of the businesses, the failure of the group cannot be attributed to this cause alone.

The provisional liquidator made additional statements on 10 May 2001 and 25 May 2001 . The 25 May 2001 statement said that "the total deficiency for the HIH Group of companies will be between $2.7 billion and $4 billion."

It will be many months before the provisional liquidator will be able to give detailed reports on the financial position of each of the companies. However, the provisional liquidators are continuing the consideration of whether each company should go into liquidation or be subject to a scheme of arrangement.

In the 2 months after the commencement of the provisional liquidation of HIH, considerable public debate took place over whether governments (bother Federal and State) should take some action to help HIH policyholders.

Proposed Reforms to Insurance Company Regulation

Prior to the collapse of HIH, the Federal government announced long-awaited reforms to the general insurance industry.

On 2 November 2000, the Minister for Financial Services and Regulation, the Hon. Joe Hockey, MP announced a major reform of the regulatory framework for the general insurance industry. The Minister called the existing rules "highly prescriptive," "blunt" and "unresponsive in the face of market and regulatory developments." This proposed changes would be consistent with similar powers conferred on APRA under the Banking Act 1959 and the Life Insurance Act 1995. These will put in place stricter standards for capital adequacy, liability valuation, reinsurance and risk management.

These proposed changes will do nothing for HIH policyholders.

Calls for Government Action to Help HIH Policyholders

Immediately after the collapse of HIH, it was prudent for Federal and State Governments to wait for the provisional liquidator’s assessment of the magnitude of HIH's losses prior to announcing any assistance package.

As more details emerged about the financial hardship suffered by HIH policyholders, there was considerable political pressure for government's to provide assistance for certain HIH policyholders. Those that received considerable press coverage included policyholders with compulsory insurance required under State law (CTP and workers’ compensation) and policies where the premiums are fully tax deductible under Federal law, to encourage people to purchase it (income protection insurance).

Certain State governments called for an inquiry into all manners of the HIH collapse. These calls came from the Hon. Steve Bracks, MP, Premier of Victoria and The Hon. Geoff Gallop, Premier of Western Australia.

On 7 May 2001, the Insurance Council of Australia announced its proposed solution for assisting Australian resident policyholders and claimants affected by the collapse of HIH. It called on governments to introduce a 1 per cent levy on all Australian general insurance policyholders combined with a reduction of existing taxes on general insurance products (e.g., fire insurance levies, stamp duty and GST).

Government Responses: Details

On 11 May 2001, the New South Wales Treasurer, Mr. Michael Egan announced an emergency $50 million package to compensate motor accident victims and home owners affected by the collapse of HIH.

On 14 May 2001, the Prime Minister announced its initial response to the collapse of HIH. The Commonwealth Government announced:

• it was to open negotiations with other insurance companies with a view to them taking over the bad policies or the bad underwriting books of HIH;
• it’s intention to write to the Premiers and Chief Ministers seeking their co-operation to undertake a thorough review of State and Territory regulation with a view to introducing single national insurance schemes in compulsory third party, workers’ compensation and builders’ warranty insurance; and
• it would fast-track legislative changes (announced on 2 November 2000 by the Minister for Financial Services and Regulation, the Hon. Joe Hockey, MP) to the general insurance industry to improve capital adequacy.

On 14 May 2001, the Victorian Minister for Finance, Lynne Kosky announced a $35 million rescue package for home–owners affected by the HIH collapse.

On 15 May 2001, the Prime Minister, The Hon John Howard, MP, and the Minister for Financial Services and Regulation, the Hon. Joe Hockey, MP, announced the Federal Government’s Response to the collapse of HIH. This announcement included:

• the Government’s decision to hold a Royal Commission into all matters relating to the HIH collapse. At the date of writing, the terms of reference for the Royal Commission had not be released.
• a package worth more than $500 million to assist those people in hardship as a result of the collapse of HIH. This package is funded from the Federal Government budget.

On 15 May 2001, the Minister for Financial Services & Regulation, the Hon. Joe Hockey, MP, announced the details of the change in timetable for reforms to the prudential regulation of general insurance (outlined above). The legislation is planned to be passed by both the House and the Senate by October 2001 and will take affect from 1 July next year. The proposed phased implementation will also be shorter than initially foreshadowed by three years - brought forward from 2007 to 1 July 2004.

On 17 May 2001, the Minister for Financial Services & Regulation, the Hon. Joe Hockey, MP, announced the formation of a new non-profit company called HCS (HIH Claims Support Pty Ltd) to process the Government support package for HIH policyholders in hardship.

On 18 May 2001, the Minister for Financial Services & Regulation, Joe Hockey, MP, offered the services of the newly created HIH Claims Support Pty Ltd to the State and Territory Governments so they can process any financial assistance they have for HIH policyholders.

On 21 May 2001, the Minister for Financial Services & Regulation, Joe Hockey, MP, announced the criteria for Commonwealth Government relief for policyholders suffering financial hardship as a result of the HIH collapse.

On 18 June 2001 the Prime Minister announced the Terms of Reference for the HIH Royal Commission, and the appointment of Western Australian Supreme Court Judge Neville Owen, to report by the end of June 2002. The Commission is to 'inquire into the reasons for, and the circumstances surrounding, the failure of HIH prior to the appointment of the provisional liquidators on 15 March 2001'.

The Royal Commission will begin public hearings on 3 December 2001 and recommence in late January 2002. Regular updates on the hearings and publications will be on the website for the Royal Commission. Bills Digest: Nathan Hancock, Royal Commissions and Other Legislation Amendment Bill 2001, Bills Digest No. 42 2001-02

A summary matrix of Government assistance to HIH policyholders is at the Attachment to this e–brief (below).

Australian Securities and Investments Commission (ASIC)

ASIC has been active in investigating whether the events surrounding the collapse of HIH involved any breaches of the Corporations Law .

ASIC’s activities to date can be accessed here.

In the 2001–02 Federal Budget, ASIC was provided with additional funding of $5 million over two years to assist with its investigation of HIH.

ASIC's powers with respect to liquidation are as follows.

A company (whether or not it is being wound –up voluntarily may be would up under an order of the court on the application of the company, a creditor, the liquidator, ASIC, and APRA. Numerous grounds exist for the winding up of a company.

ASIC can also investigate numerous aspects of a company's activities that it believes may be in breach of the Corporations Law. These are numerous and include:

• Insolvent trading;
• Insider trading;
• Directors' share trading activities;
• Accuracy of financial statements; and
• The accuracy of disclosures made to the stock market

Like APRA, ASIC has no power to ensure that all policyholders have their claims met in the event of insolvency.

Australian Prudential Regualtion Authority

Australian Prudential Regulation Authority (APRA)

On 15 March 2001, APRA appointed its own inspector to investigate the affairs of HIH and the Australian-authorised insurers in the HIH Group, including the financial condition of the company.

One of APRA’s major roles following the collapse of HIH appears to be explaining its role, and whether it made full use of its powers prior to the collapse. Press reports(5) suggest that APRA did not make full us of its regulatory powers prior to the collapse of HIH.

APRA's role is to monitor insurance companies under the Insurance Act 1973 . This Act sets down the conditions for operating insurance companies in Australia, including entry requirements, solvency requirements and reporting requirements.

The Act also covers the failure or imminent failure of an insurance company. The Act does not prevent company failure, but allows APRA, in certain cases, to take action to prevent a company from dealing in its assets. APRA may appoint an inspector to examine the company's affairs where it is considered to be in the public interest, and make application under the provisions of the Corporations Law for the company to be wound up under an order of the court.

APRA has no power to ensure that all policyholders have their claims met in the event of an insolvency.

Senators and Members may be interested in inquiring into HIH. There are number of options available.

Joint Statutory Committee on Corporations and Securities

The Parliamentary Joint Statutory Committee on Corporations and Securities is established under section 241 of the Australian Securities and Investments Commission Act 1989, which provides that the Committee must be appointed at the start of each Parliament. The present Committee is for the 39th Parliament, which commenced on 10 November 1998.

The Committee's duties and powers appear ample power to investigate any matter relating to the collapse if HIH.

The Committee also has a standing inquiry into APRA, and may use this to investigate APRA’s role in the HIH collapse.

Senate Select Committee on Superannuation and Financial Services

Alternatively, the Senate Select Committee on Superannuation and Financial Services could establish an inquiry to examine the collapse of HIH. It is also possible for the Committee to make inquiries into HIH–related issues as part of its on–going inquiries.

Attachment

 HIH Insurance Collapse & Government Assistance Packages: Who’s Covered and Who’s Not

Rescue package funded byHIH collapse exposureBuilders' warrantiesWorkers' compensationProfessional indemnityCTP insuranceNSWInsurance protection tax$600mCovered by governmentNo HIH exposureDoctors covered by United Medical Protection (surplus will cover claims), solicitors by LawCover (may need a levy)Covered by GovernmentVICBuilding industry levy and government$70m to $80mPaid by a $32 increase on the cost of building permits for every $100,000 in constructionCovered by GovernmentSolicitors with top-up cover are exposed, barristers face big rises in insurance premiumsCovered by GovernmentQld$5 levy a year for compulsory third party$400mNo HIH exposureNo HIH exposureInformation could not be obtainedCovered by levyWA5% levy on workers' compensation premiumsMore than $93mCovered by other insurersCovered by levySolicitors with top-up cover over $1.5m, real estate agents are exposedNo HIH exposureSANo rescue packageNo figure givenNo coverNo HIH exposureSolicitors with SA law society indemnity insurance, those with top-up cover exposedNo HIH exposureTASLevy on workers' compensation premiumsMore than $50mMembers of the Master Builders Association can get indemnity with AON insuranceCovered by levySolicitmrs exposed through their basic professional indemnity insurance for a period of about 3 yearsNo HIH exposureACT3% levy on workers' compensation premiums$30mNo cover, alternative insurers must be foundCovered by levyFor doctors and lawyers covered by NSW LawCover, same as NSWNo HIH exposureNTGovernment has provided $3m for workers compensation (to last 3 months)$40mNot applicable (no government-based building indemnity scheme)Covered by GovernmentSolicitors with compulsory indemnity with NT Law Society to pay an excess of $800, accountants exposedNo HIH exposureFederal government package (at least $500m) millionRescue package funded byPersonal injury insuranceIncome insuranceSmall business insuranceBig businessReinsuranceTaxpayersCovered by Government90% covered by GovernmentNo coverNo coverNo cover

Source: "HIH Regulator Steps Down", The Australian, 24 May 2001, p.2; "$30m rescue Plan for ACT HIH Victims", The Canberra Times, 9 June 2001, p. 6.

Endnotes

1. A February 1990 report "Failed Promises: Insurance Company Insolvencies." Known as the Dingell report after the chairman of the US committee that investigated the insolvency cases, Rep. John Dingell (D–MI), cited in "Insolvencies/ Guaranty Funds", Insurance Information Institute.

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