Letter to Neil Mitchell on Fire Service Levy
In response to the talk back discussion on 3AW yesterday I wrote to Mr Neil Mitchell overnight. Before I reproduce what I wrote I would offer the comment that most of us in the industry accepted that after we tried hard to explain the problem and ran into a brick wall, we were stuck with the legislation and while it is a very bitter pill to swallow it is worth the pain to finally have the terrible tax removed.
To now come out and start blaming the industry is going to backfire as too many people work in the industry and know the truth. Add to that the voters who work in insurance, the TAFE sector, nurses, police, teachers and everyone else this government has done over and you can kiss your slim electoral margin goodbye.
Here is what I said to Neil Mitchell.
Good morning Neil,
Fire Service Levy
I heard from a number of sources that the topic of Fire Service Levies in Victoria was discussed on your program yesterday. While I did not hear the discussion first hand I have read the article in the Herald Sun which I understand was the catalyst for the discussion. I do not have my entire file with me I will do my best to explain what is going on.
From where I sit, I do not see that any insurance company is deliberately trying to rip off any of their insureds/clients. They are in the business of protecting clients, not collecting taxes. While I am sticking up for the industry on this point, I am not employed nor funded in any way by the industry.
My interest in the whole issue came about due to the fact that I was seeing much greater under insurance in Victoria than in other states, which was causing huge losses for home and business owners in the state following an insurable loss.
The problem that confronts the insurance industry and home and business owners that elect to insure is that the State Government advises the amount of Fire Service Levy to be collected by the insurance industry for the upcoming year in the May Budget each year.
As an aside, I would explain that the last few years have been abnormally high as the Victorian Government has pushed through well over $¼ billion of upfront capital expenditure costs over this period onto the insurance industry (and therefore those that insure) before the tax is transferred to property rates.
So with the government setting the tax one year in advance, it is up to the insurers to collect and pay the amount in arrears.
In the past, the insurance industry through the Insurance Council of Australia appointed independent actuaries to calculate the percentage to be added to insurance premiums so that this tax was fully collected at the same rate by all insurers for the government. Any shortfall would be met by the insurers themselves.
Insurers then charge the estimated rate as an additional fee to the insurance premium on all renewals or new business and this is paid one year in advance. The tax component is collected and paid to the government.
The impost has got so high, particularly due to the fact that GST was payable on the Fire Service Levy and then State government Stamp Duty charged on the premium, Fire Service Levy and GST (triple taxation) that there was a great deal of under and non-insurance. Basic economics dictates that if you more than double the cost of any good or service, people buy less. That is why the Henry Report, the Victorian Bushfire Royal Commission and every enquiry on the subject has recommended the removal of the tax.
But back to the problem at hand. In the 2012-2013 financial year, Insurers have to collect the full $580.5 million this financial year. Not everyone’s insurance policy falls due on the July 1 and you buy insurance one year in advance. For ease of discussion, let us call it $580,000,000 to be collected as Fire Service Levy and paid to the Victorian State Government. This equates to $48,333,333 per month for 12 months.
The fairest way to do this is along the line of the following graph:
Simplistic Graph of fair transition of FSL from insurance to property rates over one year.
This is exactly what Queensland, South Australia or Western Australia did when they removed the levy and so had a smooth and fair transition. The problem in Victoria is that insurers have to collect the whole lot in the 2012-2013 Financial Year..
This means Insurers either have to greatly increase the rate they charge customers in the early months and then drop it down each month or each quarter, or charge the yearly same rate to everyone throughout the year regardless of when a policy falls due. Neither strategy is fair to the consumer. Either the ones in the early months are being slugged way over their fair proportion or those in the later months pay the full 12 months in advance and then pay again with their rates. It is complicated by the very real concern of the insurance industry that home and business owners will drop their insurance due to the fire services levy situation as well as toughening economic times.
When a person stops buying insurance or reduces their cover, they no longer contribute the same amount to the Fire Service Levy, leaving a shortfall to be collected from others or paid for by the insurer themselves out of claims reserves or operating profit.
The third option is that insurers do the transition and pro rata the levy themselves, ie charge the amount represented by the blue line on the above graph. But that would leave a shortfall that they would need to fund in the amount of $290,000,000. This amount is simply too great an amount for the industry to fund.
I know that the insurance industry is fair game and that is what the government is banking on, but in fairness it has to be remembered that the insurance industry has been hammered with natural disasters over the past few years with Victoria being badly hit with the bushfires, floods and massive hail storms with payouts of over $3.7 billion1. The industry has to maintain capital requirements to ensure the protection of policy holders. The total amount paid out in general insurance claims amounts to over $2.10 per person per day for every man woman and child in Australia. You cannot have a good strong economy without a good strong insurance industry.
This whole issue could have been so easily avoided if the Victorian Government had looked at the successful model adopted by Queensland, South Australia or Western Australia. Instead, the Baillieu Government chose to simply impose the high burden on the insurance industry and say “it is your problem on how you collect it”. Of course this way they continue to collect their part of the GST and all the Stamp Duty on the Fire Service Levy until 1 July 2013 which I think is the real reason they have adopted this approach.
In contrast, the New South Wales state government, which is currently considering removing Fire Service Levy from insurance, fully understands the problem. In its discussion paper (available at www.haveyoursay.nsw.gov.au/ESL) the NSW Government says:
An abrupt replacement of an insurance based system with a system based on land values could cause some households and businesses to delay renewals on their insurance until the insurance levy is abolished.
Depending on timing, individuals could pay an additional component in their insurance premiums, and pay a property based levy for the coming year just a short time later.
To avoid incentives to delay the purchase of insurance, insurance companies could be required to reduce their surcharge on insurance premiums by 1/365th per day. A compulsory scheme would require a defined methodology under which insurance companies would pass on the reduction.” [refer page 25.]
To make matters worse, the Victorian Government has also indicated that it does not believe that the independent actuarial approach was proper and that each insurer and underwriting agency ought to do the calculation themselves. Some insurers increased their Fire Service Levy so that they could scale it down in later months, others left their rates in between and some went half way. All of this is of course adding a great deal to the cost of operation and the risk of under collection is with the insurer, not the government.
Depending on which strategy an insurer elects to take in order to collect the premium, it may give it a competitive advantage at some point during the year depending upon when a client’s insurance falls due. But home and business owners need to be very careful and understand the following –
- Despite the high level of taxation on insurance which makes the cost of insurance in this state in some cases 2.5 times higher than in Queensland, South Australia and Western Australia, home they ought to remain fully insured to be protected should something happen to their home or business.
- Insurance policies are not all the same. They range from very comprehensive covers to bare bones and you get what you pay for. We saw this only too clearly with the recent floods.
- When a loss occurs, no one remembers the premium: the insured wants the loss to be covered, the insurer to have the funds to meet the claim and the claims service to be prompt and fair.
I hope this has assisted to explain what is an overly complex problem that only poor government can create and then try and pass the blame onto someone else.
In a nutshell, the government ought to be applauded for removing the taxation but in fairness this decision was originally made by the Brumby Government and this government has followed through.
The Victorian State Government has bungled the transition, causing the potential for people to be contributing twice to the funding of fire services which, like insurance, all of us in the community benefit from, as does our economy.
I end with a link to a note that Lloyd’s issued to their members on the subject that explains their concerns. http://www.lmalloyds.com/Web/News_room/LMA_bulletins/LMA_Bulletin_2012/LMA12-014-KJ.aspx
Prof. Allan Manning
PS I am delivering a paper in Albury today but am happy to speak with you if you need any further information on this challenging subject.