Liable to change

It is nearly a year since the Solicitors' Indemnity Fund disappeared and law firms were thrown into the open market. Gareth Chadwick asks whether the new system is working

“I think we've at least one more year of quiet before the whole thing blows apart,” says Victor Knope, a partner with FirstCity Insurance Brokers, who is reviewing the first year of the post-Solicitors' Indemnity Fund (SIF) insurance market. SIF disappeared overnight on 31 August 2000, creating an open market for every solicitor's firm in the country to arrange their own indemnity cover. Most major insurers stepped gingerly into the pool, unsure of what to expect. But 10 months on there are rumours of an undervalued market, multi-billion pound claims and premium rises of 20 per cent.
There are 35 insurers on the Law Society's approved list, but Michael Rendell, director of insurers PYV, is disappointed by the service. “Only 12 really openly quoted for business, lots of them sat back and waited. It was a disappointing approach from insurers really,” he says. With a market of around 9,500 firms to aim for, not all insurers targeted the same firms. Most of the big insurers tended to spread their risk across the whole profession, but there were those such as Ace Insurance which aimed specifically for the 10-partner firms or bigger. Others, such as American International Group, went for the quality middle ground and largely succeeded.
Michael Wood, chief executive of PI Brokerlink, the broking arm of PI Direct, which writes business for Cox Insurance says: “There were different insurers targeting different bands of solicitor's firms. Some focused on sole practitioner markets, others focused on two to four-partner firms, such as Cox, and some of the big guys focused on the five-partner firms and above. There were different segments of the market being targeted by this relatively small number of insurers.” Some of the major insurers too, such as St Paul and Zurich, issued lists of the clients they would like to insure and worked with brokers to obtain those clients.

“For the majority of the insurance market it's a nightmare. Last year many insurers simply could not cope with the amount of work that came in at once”
Victor Knope, FirstCity Insurance Brokers

It is a strategy that seems to have left everybody relatively happy. St Paul, as the official partner of the Law Society, has around 25 per cent of the market, QBE Insurance and Zurich each have about 15 per cent, and the others generally have about 5 per cent and under. But according to Henmans partner Francis Dingwall, the figures can be misleading. “If somebody is insuring the biggest 10 firms in London, that will come out as a very big market share, but in terms of numbers of firms, it's a very particular niche.”
The biggest difference between the open market and SIF is the value. In the last year of SIF the market was worth around £250m. The first year post-SIF has seen the market drop to £148m. But success shouldn't only be judged by a straight comparison of figures. Wood says: “There are a number of factors why the £250m taken by SIF was so high. For example, they spent a large sum of money getting reinsurance in place to protect them in case the losses in their last year were much higher than expected. Obviously, when you look at the open market, the insurers already have reinsurance in place as part of their general book. You've then got to take money off for the year 2000 as well. I think SIF probably loaded their premiums to take into account the Y2K problem, and clearly, we didn't have that. Similarly, you have to take into account that those in the open market are able to risk-select. They will not insure the bad risks.”
There is also SIF's infamous shortfall. Historically, it did not bring in enough premiums to cover the cost of the claims. It is generally believed that it actually made a loss on the £250m it earned in its final year. But according to Wood, that is not the case. “Although SIF had built up a shortfall, towards the end of its demise it was, in fact, paying off large chunks of that shortfall to such an extent that I believe it is likely to be cleared by the end of this year or soon after,” he says. “People tend to think it was bringing in £250m and making a loss – well that's actually a fallacy. On that £250m, which is inflated anyway, I understand it made a £53m profit.”
Dingwall is more circumspect. “It's quite difficult to understand why the premiums fell by £100m. SIF wasn't making a profit as far as I'm aware and it was run fairly efficiently. It makes you wonder whether £150m is too little premium.”
This generally perceived undervaluing of the market has led to rumours of significant premium increases this year. If they are to be believed, clients of one of the leading insurers, for example, should be preparing for a 20 per cent premium increase – the theory being that if the insurers have misread the market or undervalued it on purpose in order to maximise market share in the first year, then there will be a correction in the second year. It is a fear that Knope believes is unfounded. “We've been spending an awful lot of time over the past few months canvassing the market to find out what to expect going forward,” he says. “As a result, and despite a lot of talk about rate rises, we're not expecting any significant increases, other than perhaps where a client's circumstances have changed, such as their fee income has increased or diminished.”
Director of Alexander Forbes Professions, Trevor Moss, believes that even if rates on the whole look fairly safe, slight changes are inevitable. “I think what happened for some firms was that they saw, for example, a 10 per cent reduction on their SIF price, and they thought 'well that's OK, that's a good saving and we'll buy it'. Whereas maybe if they'd shopped around a bit more, that 10 per cent reduction could have been 20 per cent or 25 per cent, so there may be some movement for improvement on certain risks over that of last year. But likewise, I think that will be counterbalanced by the fact that some firms took premiums which were really not commercially justifiable and where those rates will need to be increased.”
Fortunately for the insurers, despite a supposed £3bn claim somewhere in the market, the level of claims that came through last year was not sufficient to really test their pricing structures. But that could be changing as the market settles down. Rendell says: “For the first six months, nobody really had any claims coming in, everyone was thinking, 'well isn't this marvellous, we're all making lots of money'. But of course it's wake up time now and claims are starting to come in.”
The reason for the slow start was that immediately prior to the abolition of SIF, the advice given out by brokers amounted to if in doubt, notify. The inevitable result was that there were more than 12,000 notifications to SIF in August alone – more than the entire previous year.
Knope says: “The SIF fax machine practically fell apart because of the number of notifications that were coming through. But it did mean that everybody started the post-SIF era with a clean slate.”
Dingwall believes that the honeymoon period is now coming to an end. “Your typical professional indemnity claim takes maybe 18 months to two years, even three years, from the date when it's notified to the date when it's actually paid. Notifications start with just the notification that there is a problem and it's a long time until that turns into an actual payment, so I think the insurers in the solicitors' market are still fairly ignorant of how awful the claims experience can be.”
Dingwall is also less than confident that firms have learned from SIF's mistakes. “In the past we've seen bad claims and my perception is that the way solicitors practise, which led to those bad claims, hasn't really changed.”
One thing that has changed is that firms now have to notify circumstances, not just claims. This means that as soon as a potential problem is spotted by the firm, regardless of whether or not it has been picked up by the client or anyone else, then the insurer has to be notified. Under SIF, they only had to be notified of the actual claim. “I don't think that solicitors have really taken that on board yet,” says Dingwall.
Wood says that it is bound to change. “As you get towards the end of the underwriting year, obviously there will be more notifications because part of the process of getting ready to renew is your broker asking you to make sure that there are no skeletons in the closet, and if any come up, notifying the insurer prior to renewal.”
Knope says that the fact that the renewal date is a single fixed date (1 September) for all firms also means that “for the majority of the insurance market it's a nightmare and last year we saw that many insurers simply could not cope with the amount of work that came in at once”. Solicitors' insurance is unique among the professions in having a fixed renewal date across the whole market. “It's far from ideal to have 9,000-odd firms renew on the same day,” says Tina Thorsen, marketing manager at Zurich. “It does create a lot of extra work in a very short period of time, which can obviously be quite demanding for both the insurers and the brokers.”
The intransigence of the Law Society over the single renewal date contrasts with its flexibility over the Assigned Risk Pool (ARP). This pool was designed for those firms that could either not obtain cover or that simply missed the 1 September deadline, and it was expected that up to 200 firms could end up in it. In fact, only 41 firms went into the pool and seven of those subsequently found cover and got out. “There was a great deal of flexibility on the part of the Law Society and the ARP was probably smaller than we all expected,” says Wood. “I think there were a lot of firms which, if the letter of the law had been imposed on them and they couldn't get insurance by 1 September, would have found themselves in the pool. But if firms can't get their indemnity insurance in by 1 September anyway, you've got to worry about the professionalism of the practice.”
With two months to go until this year's renewal deadline, firms would be advised to start thinking about their insurance sooner rather than later. There may not be any huge across-the-board premium increases on the cards, but the market will see a degree of correction and there may well be a certain amount of refining of market position among the leading insurers. Some firms, Zurich for example, have already started declining to renew certain clients. “In general we're looking to renew the major part of our book of business, but there will be some that we will not wish to renew due to changes of circumstances,” says Thorsen.
The next year will be a crucial time for the solicitors' indemnity market and with claims at a relatively low level, the only way for them to go is up. Knope says: “I think we've got at least another 12 months before things start getting extremely active. There are pressures all the time on solicitors. The expectations of the public are going upwards all the time. Contingency fee cover is going to be an area where more solicitors will be involved with claims. I would also suspect that the average individual in the street who wouldn't have thought in the past of suing their employer for tripping over the mat has now been encouraged to do so, and if it goes wrong I suspect he or she is going to be more eager to sue their adviser. All of these things are going to put pressure on solicitors. I suspect that solicitors are going to be one of the major areas of increasing claims.”

Market share
Insurer Estimated premium income (£m) Percentage of market
St Paul
QBE Insurance
Royal & SunAlliance
American International Group
Ace Insurance
Cox Insuurance Holdings