Agony Aunt: Red zone moaners - are they reasonable?

Dear Janine,

Why are people in the red zone of Christchurch moaning so much about the government offer to buy their homes at rateable value? The Government pays their lawyers' fees, there are no agents' costs and they are getting values which were set when the housing market was doing well. Many have houses which are a total loss, so their insurers will pay replacement value. That's bound to be higher than the rateable value so they'll be doing well.

Don't you think there is too much fuss over this? - Seeing Red

ANSWER:

No, I don't. I wholeheartedly disagree with your assessment of the red zoners' fortune.

While your letter will create much eye-rolling in red-zone circles, you are not a lone voice. Having skipped through a few blog sites and letters to the editor, there is a scary lack of understanding.

Rather than huff and puff, let me give you a taste of the financial fish-hooks.

The most common misconception out there is that rateable value is good enough. Some argue that market value should be the true assessment, but financially, that is not good enough either. The whole foundation of the insurance industry sits on the concept of replacement value and it is highly disappointing that many red zoners could miss out on the full value inherent in their policies.

Financially, the concept of replacement is an entirely different animal from other types of values put on houses (see sidebar).

Maximum value in your insurance contract

The only way to fully unlock the value in your insurance contract is to physically rebuild. That way your insurer has to incur all the costs of a replacement house. If inflation causes price rises, your insurer will pay. It will pay the project management fees and all the extras involved in building. And, if it claims it can rebuild more cheaply per square metre, it will have to deliver or revise its initial costings to deliver.

Short changed

Two types of red zoners will end up short-changed and unlikely to see the full value of their insurance policies paid out unless they seek legal advice or negotiate with insurers.

1. Those whose houses are deemed repairable:

Those with repairable houses are being directed to the Government offer of selling at rateable value.

The affordability of rebuilding will be out of reach, so they are left to find second- hand homes that have been repaired after thousands of aftershocks, when they spent years paying for replacement insurance.

How must this feel when a bulldozer demolishes your home and you watch your neighbours get a brand-new house built by their insurers, but you miss out? You get the financial equivalent of a poke in the eye and are told to accept the rateable value.

The alternative is that red zoners take on insurers via the courts and try to challenge the assumption that their replacement insurance cannot be claimed on.

The average person doesn't have $30,000 to $50,000 to fund a few days in court, let alone a possible appeal. There have been rumblings of class actions, but there is a multitude of policy wordings and different repair circumstances to complicate things. A test case would be useful, otherwise the Government offer is all that's left.

2. Those who cannot afford to buy new land:

Insurers want to deliver on their promise and build new houses for their customers, but not everyone can remortgage to fund higher land costs. The elderly and those on budgets are stuck, because they cannot take advantage of their insurers' offer.

Insurers generally will not pay out the replacement value in cash. If you want cash, you have to take the market value of your home (the reinsurers dictate this).

Insurers have come to the party for red zoners and come up with other options. They will let them have replacement value as long as it is spent on a second-hand house, or a house- land package. This is brilliant, because in theory it seems the homeowner can extract the full value of their policy, but fish- hooks are appearing. Who values the replacement and what is included?

Some insurers are using very low per-square-metre rates, providing little detail on how they arrived at these and not including add-ons like project management fees.

I have seen calculations of replacement value, which are so low they are less than the rateable value. That will lead to the perception that insurers are not playing fair. On the flipside, I have also seen insurers use calculations which have been detailed, carried out by independent quantity surveyors, and which look fair. At the end of the day, the insurers have their reputations on the line, and how they treat their customers will be noted by other home- owners.

How could the insurance industry respond?

Transparency, communication and fairness are the qualities by which red zoners will judge their insurance companies. When insurers refuse to pay out replacement value on homes they deem repairable, they need to be transparent about the legal basis for this. At the moment, there is a cloud of suspicion. When dealing with those who cannot afford to buy new land, insurers need to calculate replacement values fairly. Detailed scoping by independent quantity surveyors will instil confidence and trust.

It will be important to treat customers as individuals, but at the same time ensure equality across policy-holders.

DIFFERENT VALUES

Replacement value is very different from other valuation types.

Rateable value: A value assigned by the council every three years using an independent valuer. It uses plans held on file, local sales data and building costs at the time. No chattels are included. Generally, it is an office-based valuation, as most properties are not viewed.

Market value: The price a buyer would be prepared to pay for your home (pre- earthquake). It would take account of the location, age, condition and size of the house, along with any features such as landscaping, renovations and chattels.

Replacement value: The cost of putting an entirely new house of the same size and similar specifications on your land and making it compliant with the latest building regulations and earthquake rules. The cost can also include a long list of professional costs, from architects' or drafting fees to engineers' costs, quantity surveyors' fees, a geotechnical report, legal fees and council consent fees.

Janine Starks is a financial commentator with expertise in banking, personal finance and funds management. Opinions in this column represent her personal views. They are general in nature and are not a recommendation, opinion or guidance to any individuals in relation to acquiring or disposing of a financial product. Readers should not rely on these opinions and should always seek specific independent financial advice appropriate to their own individual circumstances.