Greenwoods Solicitors

Will Solvency II cause yet further upheaval to the solicitors’ PI landscape?

There has been much disquiet in the solicitors’ market recently; with some increased rates, insurers leaving the market and concerns as to the suitability of the Minimum Terms. At a time of uncertainty, Solvency II now looms on the horizon. So what impact might this have?

In summary, Solvency II, with its focus on more effective risk management, the imposition of stringent capital requirements and an increased transparency in financial performance reporting, will place a significant burden upon the UK’s insurers leading up to, and beyond, its 1 January 2013 implementation date.

Such a fundamental change to the regulatory landscape will, undoubtedly, cause upheaval in the short term as insurers seek to get to grips with the new obligations and establish whether existing processes and procedures adhere to the changes to be imposed. Already, a significant number of insurers are thought to be struggling to meet Solvency II implementation requirements.

With the EU and its Regulators keen to ensure adherence to the new regime, it is reasonable to assume that a “better safe than sorry” approach will be adopted by those in the sector to the forthcoming changes.

With such changes afoot, might Solvency II’s requirements cause insurers to re-evaluate how they allocate capital resource, to the detriment of the UK solicitors’ market?

Solicitors’ renewal 2010

As has been widely reported, the current renewal season has proven to be another difficult one for solicitors’ practices throughout England and Wales.

With significant rate increases, caused in part by the withdrawal from the market of three leading insurers, and a hardening of market conditions, many firms have struggled to meet the levels of increased premium quoted to them.

In a recent report, Syscap recorded that a record 427 firms had approached it for help in financing the payment of PI premium pending renewal compared to the previous high of 225 recorded the previous year. Of those seeking financial assistance, the average premium increase was 48 per cent on the prior year’s figures. It is, perhaps, not surprising that on the day the books closed, some 400+ firms found themselves in the Assigned Risks Pool (“ARP”).

A time for change?

The levels of premium are but one concern. Issues continue to swirl around the market which, if left unresolved, may cause yet more insurers to exit the market – leaving solicitors to scramble around for coverage from those few insurers still willing to write PI / E&O business.

The ABI has led the latest calls for change, setting out its own two-pronged strategy for reinvigorating the market. Firstly, it calls for amendments to the Minimum Terms, to include a change to the funding arrangements of the ARP together with the entitlement for insurers to exclude claims for non-disclosure and misrepresentation. Secondly, it proposes regulatory change, to include the disclosure to insurers of disciplinary proceedings so that risk can be better assessed than at present.

ARP

All insurers participating in the market contribute a proportion of premium collected to the ARP, under the terms of the Qualifying Insurers Agreement, to meet the costs of likely claims. With the ARP containing (currently) over 400 this year, and average loss ratios running at some 600 per cent (to the end of the 2008-09 year), the funding of the ARP continues to be a millstone around the necks of market insurers.

Insurers propose that the costs of running the ARP should be paid for by the Law Society through a levy imposed on firms. This, they argue, would avoid the costs being passed on indirectly to the profession at renewal – with firms receiving vastly different quotes based purely upon the percentage of the ARP burden which the insurer wishes to pass on.

Exclusion of claims

The ABI argues that, for too long, solicitors practices have benefited from the broad cover afforded by the Minimum Terms, with little or no redress for insurers. The ABI goes as far as to suggest that “fraud and dishonesty have been enabled by the mandatory cover, rather than prevented by it”.

The ability to pursue coverage points, with the spectre of cover being rendered invalid, would, the ABI asserts, encourage firms to be more open and frank in their dealings with insurers – and help root out those for whom full disclosure is something of an inconvenience.

Better regulation

At the same time, the ABI is fearful that ‘light touch’ regulation discourages other insurers from providing capacity to the PI market. They suggest that although the SRA possesses detailed data of pending (or historic) disciplinary proceedings, it fails to share such information for underwriting purposes.

One is mindful of the recent Court of Appeal decision in Quinn v The Law Society which upholds the position that insurers are unable to obtain confidential and privileged documents where no claim has yet been made.

In addition, where the SRA is informed of firms misrepresenting details at renewal, little or no action is taken to penalise the practice. The ABI has called for more stringent regulation and for tougher penalties to be imposed, to include the removal of the ‘safety net’ afforded by run-off cover for those caught offending.

However, the beneficiaries of the Minimum Terms have always been the public and clients – the foundation of solicitors’ indemnity insurance being the need to protect such parties. This may be eroded if the Minimum Terms were radically changed.

Impact of Solvency II..?

The solicitors market, despite the latest increase in premium rates, continues to operate at below the rate of inflation. Premium income for 2008-09 was £249m, broadly equivalent to the £256m paid to SIF in 1999-2000.

At present, the wider insurance market is awash with capital. However, the implementation costs of Solvency II, coupled with the need for insurers to demonstrate that they hold sufficient capital assets to meet their liabilities, will lead to insurers reviewing the markets in which they operate to ensure that risk is allocated as effectively as possible. How, for example, do market insurers make provision to cover losses emanating from the collapse of Quinn? Markets where the risk is undoubtedly high, but where returns are significant, may well benefit from the deployment of additional capital monies to the detriment of those markets where both risk and return are lower. Insurers are profit-making entities after all!

Insurers’ frustrations regarding the perceived lack of regulation of the solicitors’ market and the lack of flexibility afforded by the Minimum Terms remain strong. The imposition of Solvency II requirements may reduce still further available capacity and cause much uncertainty at a time when the solicitors’ market can ill afford it.

For solicitors firms, the message is clear. Conditions within the PI market are likely to remain uncertain as the real impact of Solvency II is absorbed by the qualifying insurers. Although firms have no control over how insurers will react to the new regime, they can take steps to ensure that they remain an attractive risk to insurers. Those firms which focus on delivering high quality advice, review internal controls and which adhere to trusted risk management procedures will reap the future benefits when insurers come to make underwriting decisions in such a competitive marketplace.

For more information, please contact Simon Thomas of the Professional Indemnity Group.