Reserve Bank wants banks to keep a closer eye on the insurability of properties it lends against

The RBNZ is conscious banks could be exposed if the properties they've lent against are under-insured and fall in value in the event of a disaster. Photo / Soumya Bhamidipati

The Reserve Bank (RBNZ) wants banks to pay closer attention to the insurability of the properties they lend against.

This scrutiny could make it harder for people to get mortgages.

The regulator is conscious banks could be left exposed if their customers struggle to get insurance cover.

Its concerns are heightened, as insurers are using increasingly granular data to price quake and flood risk. This is seeing insurance costs skyrocket for some policyholders, prompting them to water down their cover.

The issue for a bank is that if an under-insured or uninsured property is damaged and not repaired, the bank could be owed more than what the property is worth.

The bank could end up realising the loss if the owner is forced to sell the house at a discounted price and can’t afford to repay the mortgage.

Similarly, the bank could be left out of pocket if the property is a write-off and the owner doesn’t receive an insurance payout.

While banks are equipped to absorb losses, the RBNZ is wary the stability of the financial system could be compromised if swathes of under-insured or uninsured houses are damaged in a disaster.

Hence it wants banks to go beyond checking whether a property is insured when someone takes out a mortgage, and ensure cover is maintained for the duration of the mortgage.

The RBNZ raised its concerns in a snippet of its biannual Financial Stability Report, released ahead of the whole document being published on Wednesday.

“Banks need to be conscious of the ongoing insurability of the properties against which they lend. This will require more scrutiny in their lending decisions than currently,” the RBNZ said.

“Banks need to work with insurers to obtain better and more regular information on mortgaged properties’ insurance status.”

The RBNZ noted insurers in New Zealand could start enabling policyholders to take out cover for certain risks, but not others, as is done overseas.

For example, someone who owns a property in a flood-prone area might choose to take the risk and ditch their flood cover to ensure their premium remains affordable.

The RBNZ noted property owners might also try to save money by reducing their sums insured or increasing their excesses.

While insurance premiums have risen at a higher rate than the inflation rate for some years, the RBNZ said insurance continued to be “generally available”.

“Full insurance retreat is uncommon so far, even for properties exposed to high seismic and flood risks,” it said.

However, the RBNZ noted some insurers will flatly refuse to insure some properties or require property owners to work more closely with them to get cover.

It pointed to a Finity Consulting study that found about a quarter of online quote requests for properties in areas with a high seismic risk were unsuccessful.

This portion was lower for flood risk. However, insurers tended to simply charge more for higher flood risk.

The RBNZ noted the gradual move towards more risk-based pricing has result in more divergent pricing of insurance.

For example, the average (inflation-adjusted) amount spent annually on home insurance in Wellington grew by 59 per cent between 2017 and 2023 to $2452, while nationally, the average premium rose by 34 per cent to $1867.

The RBNZ believed insurers would use more risk-based pricing to remain competitive.

By charging high-risk policyholders more, they can charge low-risk policyholders less and grow their market share.

Insurers that keep trying to share the cost of risk won’t be able to offer low-risk policyholders more attractive premiums. Accordingly, they’ll end up stuck with a higher risk pool of policyholders.

Since Cyclone Gabrielle and flooding in the upper North Island during the summer of 2023, insurers have also passed higher reinsurance costs on to customers.

Meanwhile, high building cost inflation has put further upward pressure on premiums.

Home insurance costs rose by about 23 per cent throughout 2023.

Jenée Tibshraeny is the Herald’s Wellington Business Editor, based in the Parliamentary press gallery. She specialises in government and Reserve Bank policymaking, economics and banking.