With the credit crunch now in full swing its impact is being felt particularly hard by small-time property investors, so how can underwriters help mitigate the growing risk? Sarah Dyer reports
The headlines say it all: falling house prices, increased costs of borrowing, hard-to-obtain mortgages and now negative equity looming for tens of thousands of home owners. The credit crisis is already biting hard for UK property buyers and there appears to be more to come - with some predicting house prices could fall by up to 30%.
However, as a direct result of this doom and gloom, the UK private rented market is expected to continue to grow over the next 10 years. Rising mortgage bills and larger deposits have been cited as the main drivers for this increase, as many buyers put off making their house purchase. The credit crunch is already driving an increase in letting instructions. In the three months to the end of April 2008, these rose by 29%. This activity is also occurring in tandem with increases in rents, with one forecast predicting a rise of nearly 11% over the next two years.
The buy-to-let boom of the last five to 10 years has created a new breed of small-time property investors who believed their bet was as safe as houses. But now many of those who took advantage of the ready supply of accessible borrowing, housing stock and potential tenants are facing higher mortgage payments that their rental incomes are not meeting.
For example, according to statistics from the Council of Mortgage Lenders, the level of buy-to-let mortgage repossessions has been steadily increasing every quarter since the beginning of 2007.
The big issue
Rising unemployment is now the biggest concern for insurers and providers in the related legal expenses market. More defaulting tenants, coupled with an upward trend in rental income, means increased incident rates and average costs per claim. We are already looking at the lessons learnt in other classes of business, such as creditor. So it is particularly important to take this opportunity to understand the underwriting approach for products designed to operate in environments of economic instability.
Sharing information is perhaps the key factor in responding to the increasing exposures that underwriters face - and none more so than for the issues surrounding defaulting tenants. Currently, the ability to track defaulting tenants is ineffective and ultimately costly to insurers. The use of possession orders does not prevent evicted tenants from returning to the rental market almost immediately and, even where a County Court Judgment is issued against a tenant, the ability to track an individual who may have rented a number of properties is fraught with difficulties. Even new entrants, offering 'quick' or 'express' referencing services, are simply undertaking a straightforward CCJ check, so they are unlikely to improve matters.
As defaulting is a real risk for underwriters, a central database of information is one possible solution. Arc is currently discussing the development of such a database with at least one referencing company and while this is still at the conceptual stage, the ability to make checks could prove an important aspect in reducing exposures and unnecessary claims from serial defaulters.
Other, newer areas are also emerging that will impact on rental and legal costs. For example, recent decisions by the judiciary in eviction cases are preventing landlords from recovering possession of their property where a 'notice to quit' has been issued at the beginning of a tenancy agreement - a common occurrence in short-term lets. Another is the move by a growing number of local authority-run housing offices to change their advice to tenants on vacating private rental accommodation. Rather than vacating on receipt of a possession order, tenants are being told to wait until a bailiff appointment is received. This delay is not only increasing the landlord's rental and legal costs but is bad advice for a tenant. They will receive a CCJ and face difficulties in the future if they try to re-enter the private rental market.
We want to see action taken to address these issues and will be supporting groups such as the National Landlords Association to create a central lobbying group for landlords.
The introduction of Financial Services Authority regulation has also impacted on the sale of key products, such as legal cover and tenant referencing services previously sold by letting agents. While some agents became appointed representatives of providers - or were exempt as members of the Royal Institute of Chartered Surveyors - others completely changed their selling strategies by becoming 'introducer appointed representatives'. Without a direct sales line to the landlord, the success of this structure has been disappointing and, more importantly, has resulted in landlords losing access to cover.
The emergence of self-insured warranty products in the aftermath of regulation has also gained the attention of the FSA. Some providers have moved to provide a warranty on legal costs and rental guarantees where a claim relates to a tenant they have referenced. The regulator, while ruling that this warranty approach does not constitute a regulated product, did call on one provider to amend its sales literature to make clear it was not providing an insured product to its landlords.
However, there remain issues about the provision of warranties. The fact that these providers are effectively funding landlord litigation means they are in breach of maintenance and champerty rules - effectively funding an action where the funder and the plaintiff will benefit from the action. We could see eviction cases being thrown out of court because this arrangement is considered void, leaving the landlord with no way of recovering the property. A number of providers, including Arc, are concerned about the warranty structure and are seeking clarification on its status.
The market for landlord products will not diminish and the sector itself is driving for better regulation. The recent Carsberg Review of Residential Property has been broadly welcomed, calling as it does for higher standards of support and protection for consumers. The insurance sector is already demonstrating its appetite and ability to respond to the needs of landlord - credit crunch or not.
- Sarah Dyer is underwriting manager at Arc Legal Assistance.
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