Pity really, everyone was having such a wonderful time. It was, as the saying goes, a swell party and one designed to save lots of money. But then, all of a sudden, there was a raid: the front door was kicked in, the music stopped and everyone had to go home. I am, of course, talking about LAML, London Authorities Mutual Limited.

LAML had to cease trading when the Court of Appeal decided on 9 June that London Borough of Brent and other authorities could not lawfully participate in it. The court also decided that Brent had breached procurement rules in abandoning a tender process and awarding an insurance contract to LAML. The case was Brent LBC v Risk Management Partners Limited and London Authorities Mutual Limited and Harrow London Borough Council as interested parties [2009] EWCA Civ 490 (see [2009] Gazette, 10 September, 14).

The court’s decision caused much wailing and gnashing of teeth, as well as continuing calls for a power of general competence for local authorities. As Municipal Journal reported on 15 October, ‘LGA [local government association] officials will work alongside local government lawyers and other experts this autumn to develop a blueprint for the general power of competence promised to town halls by Conservative leader David Cameron’.

But it is Gordon’s Brown’s government that is currently calling the shots and it has instead chosen to tackle the issue in two stages.

In July 2009 consultation paper Strengthening Local Democracy, the government pointed out that the LAML decision has dented confidence in the ability of councils to use this power to take forward complex arrangements. But because, in its view, changing ‘the well-being power or introducing another form of general power would not be certain to ensure local authorities could engage in mutual insurance arrangements’, the government announced its intention of introducing ‘at the first legislative opportunity possible, a specific power to enable councils to engage in mutual insurance arrangements’.

But in that consultation (which closed on 2 October) the government also asked ‘whether there are other similar arrangements – beyond mutual insurance – which councils believe could be beneficial but which are potentially out of scope of existing powers’. The evidence gathered from that exercise is to be used to decide whether any further action should be taken.

‘Mutual insurance’While it is uncertain whether any fresh local government powers will be announced by the government before the 2010 election, the likely shape of local authority mutual insurance company powers emerged from parliament on 13 October, having been introduced by local government minister Rosie Winterton. It was then that the House of Commons proposed a new clause entitled, surprisingly enough, ‘Mutual insurance’. This seems designed fairly straightforwardly to allow what the LAML case outlawed – namely participation by local ­authorities and relevant others in a mutual insurance company.

The power will enable principal local and other authorities (that is, ­’qualifying authorities’ which includes police and fire and rescue authorities, joint waste, waste disposal and integrated transport authorities as well as Transport for London, the London Development Agency and economic prosperity boards) to become members of a body corporate with specified insurance-related objects. These are to provide to qualifying authorities that are members of the body corporate (as well as such others as may be prescribed in regulations) insurance in relation to risks of any description. The proposed provisions also include power to do anything required by, conducive or incidental to membership of the corporate body or to the provision of insurance or relevant arrangements. To avoid any doubt, specific powers are proposed to enable payment of and agreement to pay premiums and other sums and the assumption of relevant financial obligations.

However, local government law without provision for central government regulation or intervention would be like bakewell tart without the cherry, and government does not disappoint. The ‘appropriate national authority’ (the secretary of state in England and the Welsh ministers in Wales) is to be given power by regulations to ‘impose restrictions or conditions on the exercise of any [relevant] power conferred on a qualifying authority’. Qualifying authorities must also have regard to any guidance and any guidance or document specified in statutory regulations. And just as share prices can go down as well as up, there is also power reserved to change the nature of qualifying authorities.

So local authority mutual insurance companies are to rise once again from the ashes of the Court of Appeal bonfire. But what should authorities contemplating entering into such arrangements be thinking about?

DCLG impact assessmentFollowing its Strengthening Local Democracy consultation, on 13 October the Department for Communities and Local Government issued an ‘impact assessment’ on the proposed powers for local authorities to participate in mutual insurance arrangements. This, among other things, outlined the results of a consultancy study it commissioned to ‘assist in the determination of the costs and benefits resulting from the proposed legislation’.

It appeared from the study that larger authorities typically spend between £750,000 and £1m a year on insurance premiums, while smaller authorities spend between £250,000 and £500,000. The approximate excess threshold was estimated at £100,000.

However, setting up a mutual is by no means a cost-free exercise. As the DCLG paper noted, in addition to premium payments to establish a mutual, ‘local authorities would be required to contribute to the costs of the feasibility study; set-up of the scheme; and capitalisation. The more participants there are, the lower these costs would be for individual local authorities. Based on evidence drawn from the supporting study, a mutual scheme comprising 10 LA members could require a payment of £50,000 from each LA towards feasibility and set-up as well as a capital contribution of approximately £400,000. In addition, the internal staff costs of local authority staff involved would also have to be considered’.

But, according to the DCLG paper, the available evidence suggests that the proposed legislation should bring downward pressure on local authority insurance premiums. And ‘given the estimated size of the local insurance market, summary analysis suggests that it would only take a relatively small overall change in the price of premia to recoup the cost of establishing a mutual’.

But cost is one thing, risk is another. And, while according to Robert F Kennedy, ‘only those who dare to fail greatly can ever achieve greatly’, those managing public resources have a legal duty to exercise a trustee duty of care.

So, the study conducted for the DCLG indicated that enabling local authorities to enter into mutual insurance arrangements does present some risk in the use of public money. And it also highlighted four key reasons for the failure of the long-standing local authority mutual insurance operation, Municipal Mutual Limited (MML) in September 1992. These were that MML:

  • expanded beyond its core business outside local authorities and into non-insurance activities;
  • amended its governance so that it was not wholly local authority-owned;
  • pursued poor investments heavily skewed towards commercial property at a time when the commercial property market was depressed; and
  • had inadequate management and scrutiny – the regulatory regime and governance regimes in which MML operated in were more benign than those existing today.

Learning from the MML experience, the proposed legislation has been drafted to ensure that the activities local authorities can undertake are limited to core insurance services and provided only to relevant members. In addition, the governance structure will have to meet Financial Services Authority (FSA) rules and requirements.

Also, in the government’s view, investments by the mutual should be made in accordance with the CIPFA guidance, Treasury Management in the Public Sector – Code of Practice and Cross-sectoral Guidance Notes. This has statutory backing through regulations made under section 15 of the Local Government Act 2003.

FSA rules will require (among other things): sufficiency of capital reserve (currently €3.2m rising to €3.5m at the end of the year, with a 25% discount for mutuals) and a volume-based capital requirement. This is that the insurer should hold capital broadly equal to 27% of gross premiums, or 39% of claims incurred each year for liability insurance policies.

In addition, a local authority mutual will need to be established and operated in accordance with the FSA handbook and it will also have to meet all the FSA governance, risk management and reporting requirements. Management of the mutual will need to have appropriate and relevant skills and experience and the governance arrangements will need to be suitable for an operation of that size and risk profile.

As noted in my 10 September article, the phoenix is a bird with well-developed ash-departure skills. But any authorities contemplating forming an insurance mutual in anticipation of forthcoming legislation will need to make sure their particular ‘phoenix’ is well trained in a variety of exacting regulatory and governance requirements. The DCLG’s impact paper is not a bad place to start for those contemplating this route.

Nicholas Dobson is a practising solicitor specialising in local government