New Zealanders are keen investors in real estate. With no capital gains tax or inheritance tax, home ownership is seen as a safe form of investment with high returns.
The Canterbury earthquakes have presented the New Zealand Government with a nightmare scenario. Most home ownership investment is funded by bank mortgages. Banks will only provide mortgages if the homes are comprehensively insured. When insurance companies are hit with events that cost decades of premium receipts they are inclined to exit that particular marketplace, as briefly happened in the wake of Hurricane Andrew and the Northridge earthquake. With comprehensive insurance no longer available banks would have had to withdraw from the mortgage markets triggering a collapse in property prices throughout the nation. Despite the fact that this is a risk that property investors should have factored into their decision making the New Zealand Government refused to let the invisible hand deliver an appropriate market solution. With an election looming the Government set out to de-risk the nation’s property insurance portfolio through a process of Government compulsory acquisition of private property in what were deemed to be the most high risk locations.
Investing in real estate, as with any other investment strategy, requires the investor to weigh up the potential for gaining or losing money and to happily accept the consequences of those choices.
However, property investing is not entirely risk free. Floods, landslides, fire and earthquakes can damage houses and land. These risks can be shared with other property investors through the mechanism of property insurance.
Due to the fact that building up reserves sufficient to cope with events less common than 1-in-30 years would attract unwanted attention from asset stripping corporate raiders most insurance companies rely on purchasing re-insurance to ensure that they are able to meet their obligations to policy holders in the unlikely event of a low frequency but highly damaging circumstance occurring. To provide an additional incentive to re-insurers the New Zealand Government has, since 1942, operated a Government guaranteed natural disaster insurance scheme for land and houses, relieving the insurance industry of substantial disaster risk exposure.
One consequence of this approach, and the absence of any catastrophically damaging natural disasters since the Masterton earthquakes of 1942, has been the inclusion by most insurance companies of comprehensive disaster insurance into household insurance policies at minimal additional premium and with minimal excesses.
Unfortunately the recent Canterbury earthquakes could have dealt a savage blow to profits in the insurance industry in New Zealand. Not only is the proportion of housing stock destroyed or severely damaged the highest ever recorded anywhere in the OECD, but this is also true for the proportion of commercial buildings and public buildings damaged or destroyed. Rubbing salt into the insurance industry’s wounds is the fact that New Zealand also has the highest proportion of properties insured for natural disaster damage. Consequently, it was necessary for the re-insurers to reassess their exposure to New Zealand, as indeed had been deemed necessary after Hurricane Andrew and the Northridge earthquake in the United States. Consequently, it was beholden on the New Zealand Government to take extraordinary measures to preserve the equity of homeowners by significantly de-risking the Government’s natural disaster insurance scheme, resisting calls for regulation of premiums and excesses, removing insurance companies from the oversight of the Commerce Commission, requiring the Insurance Ombudsman to take a business-as-usual approach to dispute resolutions between policy holders and insurance companies, and refraining from engaging the Crown Law Office to negotiate insurance payouts on properties purchased by CERA in the residential Red Zones.