Focus: Insurance issues arising from the Thai floods
23 November 2011
In brief: It seems inevitable that the floods currently affecting much of Thailand will give rise to a range of legal issues for both insurers, reinsurers and insureds. Drawing on our experiences following the recent floods in Queensland, Partner Matthew Skinner and Lawyers John Rainbird and Ainsley Reid consider some of the policy issues that can arise in these situations, including the definition of 'flood', underinsurance, and the importance of effective communication between insurers and policyholders.
- The definition of 'flood'
- Potential increases in insurance fraud
- Dealing with crises – reinsurance issues
How does it affect you?
- The definitions of 'flood' or 'flooding' used by the insurance industry are many and varied. This can lead to uncertainty and confusion regarding cover among insureds.
- Underinsurance for flooding incidents is a source of potential disputes and may lead to inaccurately priced policies. Insurers should play a role in educating the public about the importance of appropriate and adequate cover and ensure that any exclusions or averaging provisions are clearly expressed in their policies.
- Crisis situations often increase instances of insurance fraud. Insurers and reinsurers should ensure that proper claims handling procedures are followed and comprehensive claims investigations are undertaken when required.
- Reinsurers must be aware of their claims control rights and obligations and ensure that the terms of any 'follow the settlements' clauses are clearly understood.
The full effects of the Thailand floods are yet to be assessed. So far, the floods, which started in July 2011, have resulted in hundreds of fatalities, large-scale displacement and enormous economic losses. Based on preliminary figures, the Office of the Insurance Commission has estimated that damage at major industrial estates in Ayutthaya alone will amount to 20 billion baht. Many of those losses are likely to be the subject of insurance claims.
The Australian state of Queensland experienced similarly devastating floods in early 2011. According to the Insurance Council of Australia's most recent figures, those floods resulted in 57,981 insurance claims worth a total of A$2.4 billion. The insurance industry was subject to a great deal of public criticism concerning its response to the crisis, and the experience should provide useful lessons for insurers and reinsurers who are now faced with claims arising from the Thailand floods.
One of the more significant issues in the aftermath of the Queensland floods was the definition of 'flood' in property and business interruption insurance policies. There was widespread confusion among insureds because 'flood' does not have a uniform meaning. Many Queensland policyholders were surprised to learn they were not covered for damage arising from the floods.
Generally, the word 'flood' can be used to signify one of three types of phenomena:
- flash flooding, stormwater and rainfall run-off, which are localised inundations caused by high intensity and short duration storms;
- riverine or inland flooding, which results from long periods of rainfall over large catchment areas causing rivers or dams to break their banks; and
- damage caused by movement of seawater, such as tsunami damage and coastal erosion.
Many policies covered flash flooding but not riverine flooding or actions of the sea. Policyholders who thought they were covered for 'floods' did not realise that riverine or inland flooding, of the type that actually occurred in most parts of Queensland, was excluded from cover.
The resulting denials of cover caused a great deal of political controversy. The Federal Government demanded that the insurance industry broaden access to flood insurance or face government intervention. At the same time, the Commonwealth Treasury has been consulting on proposed reforms to flood insurance and both the Queensland and Federal governments have launched inquiries into the performance of insurers in meeting their claims responsibilities.
The insurance industry responded to these calls for reform and is currently seeking to formulate a common definition of 'flood'. Whether or not this initiative is adopted internationally remains to be seen.
The Queensland floods also highlighted the issue of underinsurance and non-insurance for property damage and business interruption losses, by revealing that many businesses and individuals either lacked flood cover all together or had purchased insufficient cover.
For insurers, not only is inadequate cover a potential source for dispute, but widespread non-insurance may lead to inaccurately priced policies. It is therefore important that insurers effectively communicate the importance of adequate insurance and ensure that the community is well educated about potential risks.
The devastating effects of natural disasters, such as flooding, also significantly increase the risk of insurance fraud, which can range from the complete fabrication of a claim to 'padding' a legitimate claim. It is therefore important that despite the dramatic increase in claims that accompany a widespread disaster such as flooding, proper claims handling procedures are followed and comprehensive claims investigations are undertaken when required.
Both the Queensland floods and the floods in Thailand have resulted in widespread devastation, with many insureds losing their homes and livelihoods. Following the Queensland floods, there was a great deal of public criticism about the way in which the insurance industry handled claims generally. This is not unusual. In crisis situations, there is often significant public and political pressure on insurers to pay claims (and quickly) to aid rebuilding efforts. Claims may be paid by way of settlement, and are therefore not linked to legal liability. In these circumstances, reinsurers must be aware of their claims control rights and obligations and ensure that the terms of any 'follow the settlements' clauses are clearly understood.
While 'follow the settlements' wordings differ, generally, according to English law, a reinsurer will be required to follow a settlement if1:
- the reinsured proves that the settlement is within the cover of the underlying policy as a matter of law;
- the claim falls within the terms of the reinsurance contract; and
- the settlement was fair and reached in good faith.
Reinsurers must therefore be vigilant in circumstances where, as we saw in the Queensland floods, the proximate cause of the loss is unclear, for example due to the definition of 'flood' and insurers are called upon to submit to political pressure to pay claims.
Finally, while the state has a responsibility to ensure that flood risks are properly identified and mitigated, improvements in technology and increasingly accurate natural catastrophe modelling can provide insurers and reinsurers with greater understanding of flood risks. This creates greater opportunity for insurers and reinsurers to play a role in managing flood risk for the benefit of the community.