Fire in the Hole (July 01, 2005)

Even though this country faces serious catastrophic exposures, Canadians generally take a laissez-faire view of the threat of natural or man-made disasters. Yes, we had a major ice storm in Quebec and Ontario, but that was a meteorological fluke. Nuclear incidents? Well, maybe in Russia. Massive earthquakes? Sure – in Asia. Terrorist acts? That’s for our more volatile neighbors to the south, or, now, across the ocean.

How else can one explain the glacial movement of Canada’s provincial regulators to update anachronistic and, in some cases, irrelevant insurance legislation. The plain fact is that this country’s legislators showed a distinct unwillingness, based on a perceived lack of need, to develop any kind of terrorism pool after 9/11. Canada is not immune as a target from groups like al-Qaeda.

The issue becomes even clearer and more revealing when we look at “fire following” coverage after large losses. As most insurers (and reinsurers) know, provincially licensed companies must cover fire following any event unless it is specifically exempted in the provincial Insurance Act. These exemptions include “named’ events like foreign or civil war, riot, civil disturbance or other cataclysm. Prominently absent from this list are the three big disaster scenarios that represent enormous cost exposures for insurers – earthquake, terrorism and nuclear incident.

The problem is that original provincial insurance legislation, typically enacted in the 1930s, did not foresee the kinds of risks, events and claims that could occur in our modern society and economy. Global reinsurers have long held that there is simply no way of measuring the potential exposure from terrorist or nuclear incidents – and therefore no way to develop adequate price or coverage for them. Because reinsurers operating in Canada are federally licensed, they are not bound by provincial statutory conditions. And, they have put absolute exclusions on terrorist and nuclear losses.

Reinsurers’ main concern with “fire following” is the legal concept of “concurrent causation.” As is often the case, insurance legislation is interpreted by the courts – with broad implications for consumers, insurers and regulators. This doctrine, which has been applied by the Supreme Court of Canada, holds that if an insurer covers one of a number of perils that caused a loss, then it could conceivably cover the whole loss. If someone detonated a nuclear device, the resulting loss could involve fire, contamination, radiation and a host of other potential factors. Reinsurers are right to ask how fire following a nuclear incident could be separated from other losses.

The Supreme Court of Canada has also weighed in with its opinion on how provincial insurance legislation is hopelessly out of date. In two decisions that remain of great relevance to the industry – KP Pacific Holdings Ltd. vs. Guardian Insurance Co. of Canada and Churchland vs. Gore Mutual Insurance Co. – the court clearly indicated that insurance legislation needs to change with the times. In its decision, the Justices wrote that British Columbia’s Insurance Act “is incapable of coherently addressing the modern multi-peril policy… In an insurance era dominated by comprehensive policies, it is imperative that Canada’s Insurance Acts specifically and unambiguously address how these statutes are to operate and the rules by which comprehensive policies are to be governed.”

These decisions were written in May, 2003. Ironically, the findings in these two cases gave insurance companies an escape hatch with which to write exclusions into all-risk policies and avoid provincial statutory obligations. Fortunately, Canada has had a relatively clean catastrophic loss track record over the past seven years. There has been no need to test this escape hatch.

One might think that regulators would be concerned about the implications for consumers in this confusing patchwork of statutory conditions, provincial/federal overlap and partial coverage – one would be wrong. In mid-2005, we are still without any clear direction or action from Canada’s regulators. While it is a daunting task to open nine separate pieces of insurance legislation (Qubec’s civil code is unique), it is nevertheless a challenge that groups like the Canadian Council of Insurance Regulators will have to address.

It is a much better strategy to do it now rather than rely on luck or laissez-faire.

Steve Wilson, Senior Publisher steve@canadianunderwriter.ca