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(Reuters) - New rules to determine lump sum payouts for personal injury claims will cost British motor insurers and reinsurers 3.5 billion pounds initially, consulting firm EY estimates.
A government review earlier this year led to a cut in the discount rate used to calculate the payments, to minus 0.75 percent from the 2.5 percent in place since 2001, a move which wiped millions off the profits of UK insurers.
The downward move in the rate means insurers need to pay out more in cash to claimants now to ensure that returns over their lifetime meet the awarded compensation, a hit to motor insurers' profitability.
Admiral's (ADML.L) pretax profit fell by 25 percent in 2016 after the car insurer took most of the hit from the rate change in last year's earnings, while Direct Line (DLGD.L) took a one-off hit to earnings.
EY, which estimated the overall cost of the change in the so-called Ogden rate based on market announcements and its own calculations, said in a report released on Thursday that the change will cost British motor insurers and reinsurers 3.5 billion pounds ($4.5 billion) initially.
That includes about 2.4 billion pounds of losses that have been disclosed publicly to date, but does not include any margins insurers had already set aside for the Ogden rate change prior to the announcement.
It also does not include the ongoing costs in 2017 and in future from accidents that will be settled at the new rate.
Britain's motor insurance market reported significant underwriting losses in 2016, EY said.
Net combined ratios for the sector - a measure of profitability in which a result above 100 percent indicates a loss - worsened to 109 percent last year from 100.5 percent in 2015.
EY sees further pressure on the ratio in 2017, with ongoing costs from the new Ogden rate and the need for insurers to rebuild reserve margins released to offset it. It expects the ratio to weaken by 3.1 percentage points compared to a year earlier, excluding the Ogden rate impact.
Reform of whiplash injury claims, which insurers say have resulted in many fraudulent claims, and a review of Ogden methodology may bring some respite, EY said.
"The general election result last week may have created additional uncertainty and insurers will be hoping that the Ogden consultation and reform of whiplash claims will remain priorities for the new Lord Chancellor and the government," Tony Sault, UK general insurance market lead at EY, said.
The change in the Odgen rate along with high repair costs and a rise in insurance premium tax to 12 percent are also expected to push up already rising motor insurance rates by 9 percent in 2017 to an average of 503 pounds, EY said.
Reporting by Noor Zainab Hussain in Bengaluru; Editing by Carolyn Cohn and Susan Fenton