2016/17 Accident Compensation Corporation (ACC) average levy rates for the Earners, Work and Motor Vehicle Accounts

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1 In confidence Office of the Minister for ACC 2016/17 ACC LEVIES PROPOSAL 1. This paper seeks your agreement to: a b c d 2016/17 Accident Compensation Corporation (ACC) average levy rates for the Earners, Work and Motor Vehicle Accounts technical updates to regulations for the Earners and Work Accounts in-principle policy enhancements to the vehicle risk rating programme, which will provide the basis for the specific rates that apply to individual vehicles, subject to further consultation issue a Government funding policy statement by March 2016 to inform the 2017/18 levy setting process and future levy years. EXECUTIVE SUMMARY ACC levy rates for 2016/17 2. I am seeking agreement from Cabinet on the following 2016/17 ACC levy rates: Earners Account Average levy rate per $100 of liable earnings (excl. GST) 1 Work Account Average levy rate per $100 of liable earnings (excl. GST) Motor Vehicle Account Average levy per vehicle Proposed 2016/17 rates $1.21 $0.80 $ Current 2015/16 rates $1.26 $0.90 $ Percentage change 4% reduction 11% reduction 33% reduction 3. These levy reductions are consistent with those that were consulted on, and recommended to me by the ACC Board. They are based on a funding policy agreed by Cabinet in May 2014 [EGI Min (14) 11/9 refers]. 4. These proposed levy rates are estimated to reduce levies by a total of $450 million for the 2016/17 levy year and are what will be incorporated into the fiscal forecasts for the Half Year Economic and Fiscal Update 2015 (HYEFU) It is important to note that these proposed rates are averages; levies paid by individuals will vary with individuals risk ratings and claims experience. Proposals that affect individuals relative levy rates are discussed in the paper, including a provision that caps the levy increase for any business classification unit by 25%. 1 While these amounts are exclusive of GST, the recommendation is expressed as GST inclusive ($1.39) to provide Inland Revenue with clarity on the rate required for implementation. 2 If Ministers agree to the lower Motor Vehicle levy rate as recommended by Treasury (paragraph 6 and 56 refers), this would not need to be reflected in the HYEFU forecasts as the fiscal impact on OBEGAL (as provided in table 12 at paragraph 112) is not material for HYEFU purposes. 1

2 Treasury recommendations on average levy rates 6. Treasury has provided the following comment on the levy proposals: Treasury supports ACC s Work and Earners levy recommendations and recommends an average Motor Vehicle levy rate of $117.98, as incorporated in and signalled publicly at Budget This lower rate would provide an opportunity to further reduce Motor Vehicle levies with no material impact on the projected solvency of the Motor Vehicle Account in the 2016/17 levy year, which would be expected to remain at around 105% funding if this rate were applied. This is the same funding level as is projected under ACC s Motor Vehicle levy recommendation for 2016/17, and aligns with the midpoint of the % funding target under the ACC funding policy. 7. I do not consider there to be a sufficiently clear or rigorous rationale for the Treasury s recommendation, which departs from the funding policy agreed by Cabinet in May 2014 [EGI Min (14) 11/9 refers]. While the adoption of the Treasury s recommended rate would reduce projected solvency only slightly (remaining at 105% when rounded), it would also set Motor Vehicle levies further below new year injury costs. This means that under the funding policy agreed in May 2014, the Motor Vehicle levy would need to increase by approximately 15% the following year to bring levies into line with new year injury costs (all things being equal). This highlights the clear trade off between reducing solvency levels, achieving levy stability, and deferring future levy increases. Funding decisions can achieve any two, but not all three, of these objectives. The funding policy that has been applied appropriately places greater weight on levy stability and aligning levies with new year injury costs. Furthermore, there will always be a range over which levy rates that are alternative to those calculated under the funding policy, will provide for marginally different solvency levels. This relationship holds for all levy Accounts, under any funding policy being applied. As such, I do not consider immaterial impacts to solvency a sound basis for departure from the agreed funding policy. 8. It is important for the Government to be clear about its rationale if it deviates from ACC s recommendation given that ACC s recommendation: a b c reflects the Government s funding policy and its risk preferences incorporates more up-to-date information has been publicly consulted on. 9. At the time ACC calculated levy rates for consultation the solvency of the Motor Vehicle Account was projected, at the beginning of the 2016/17 levy year, to be at the midpoint of the funding band the Government has decided to target. This differs to the Earners and Work Account, which currently hold excess funds. In addition, the funding policy provided the basis for the Motor Vehicle levy signalled in the Budget 2015 forecasts. The rate ACC consulted on, and I am recommending, applies the funding policy to updated claims experience data. In light of these two points, it is particularly unclear why departure from the funding policy, through the adoption of a lower rate, should be targeted towards the levied Account that has the lowest funding position. It is also unclear why the Treasury s recommended Motor Vehicle rate is preferable, given that the key assumptions underpinning that rate have since been updated and no longer reflect the funding policy. A stronger legislative framework for ACC funding and levies 10. Building on the May 2014 Cabinet decisions on a Government funding policy, we have taken a number of steps this year towards improving the framework for, and 2

3 governance of, the levy setting process. The Accident Compensation Act 2001 (AC Act) was amended to: a b c clearly articulate and consolidate the principles that guide the levy setting process implement a more robust governance structure, whereby responsibility for the development of the funding policy that guides the levy setting process is transferred from ACC to the Government enhance the transparency of the levy setting process by increasing the reporting requirements on ACC. 11. The AC Act was also amended to allow residual levies to be discontinued earlier than previously required under legislation and this power was exercised for implementation through the 2016/17 levies. This aligns with our 2014 manifesto commitment and will ensure businesses do not contribute more than their fair share towards offsetting residual liabilities. 12. The levy rates I am seeking agreement to advance this direction. By aligning with the funding policy agreed to by Cabinet in May 2014, they reflect the Government s preferences about how important objectives, such as levy stability, long-term solvency of the Scheme, and accurate price signalling, are weighted and traded off. 13. These proposed levy rates differ from what was factored into Budget 2015 in two key ways, by: a b following ACC s consultation rates, the average levy reduction will occur in 2016/17, at the same time as when residual levies will be discontinued, minimising the number and extent of businesses to receive a levy increase in that year. This differs to what was provided for in Budget 2015, which allowed for the possibility of residual levies being discontinued in 2016/17 or 2017/18 by providing for smaller levy reductions in each of those years incorporating updated claims experience data to reflect recent higher claims costs, and modelling assumptions (including impacts due to the removal of the residual levy) (2)(f)(iv) 15. 9(2)(f)(iv) 3

4 Issuing a Government funding policy 16. I am also seeking confirmation of the funding policy previously agreed by Cabinet in May 2014 [EGI Min (14) 11/9 refers]. ACC consulted, on my behalf, on this funding policy as part of its wider consultation on 2016/17 levies. 17. This will form the basis of the levy rates consulted on and recommended by the ACC Board in future levy rounds (2017/18 onwards). It is required to be issued by September 2016, following recent legislative changes to improve the governance and accountability of the levy setting process. The Government would still be able to set alternative levy rates for reasons of public interest. 18. I intend to issue this prior to ACC commencing any work on 2017/18 levies. Treasury recommendation on the Government funding policy 19. Treasury has provided the following comment on the levy proposals: Before the funding policy is finalised for the 2017/18 levy year, Treasury recommends further testing of the impacts of the policy against plausible changes in the ACC scheme s costs, assets and liabilities, as has been recommended by independent actuaries. The parameters of the funding policy make a material difference to future levy rates and fiscal forecasts. The proposed policy is very slow to reduce ACC over-funding: under current projections, for example, solvency in the Earners Account would remain above 105% in Further scenario testing would ensure that Ministers are fully aware of the policy s implications and have a final opportunity to adjust the policy before it is implemented. 20. In my view, sufficient analysis was provided to Cabinet when it decided on its preferred funding policy in May Those decisions were made following several briefings received by the Minister of Finance, Associate Minister of Finance, the Minister for ACC and Associate Minister for ACC, which were discussed with officials on several occasions. These briefings included modelling of different funding targets and horizons, various approaches to reach the funding target sooner, and results from ACC s dynamic risk model. This was provided together with policy analysis of various options. 21. In reference to the Treasury s point that projected solvency rate would be above the target of 105% in 2031, it was made clear in all the modelling provided to Ministers that projected levy and solvency paths are based on current information that is unlikely to hold, given the inherent volatility in the scheme. The point is therefore that a longer funding horizon provides a mechanism to smooth levy rates in response to shocks to the scheme while making some progress towards target solvency, rather than setting firm expectations about future levy rates or timing to reach target funding levels. 22. Moreover, our agreed funding policy also has support from the ACC Board and has now been publicly consulted on. I am confident that our agreed policy appropriately balances the financial responsibility principles recently introduced into the AC Act. Other levy-related proposals 23. I also recommend a number of levy-related proposals. These include: a b in principle policy enhancements to the Vehicle Risk Rating (VRR) programme (further consultation on levies to apply to individual vehicles on the basis of these enhancements will occur from 14 December 2015 prior to the making of the relevant regulations) reducing the Motorcycle Safety Levy rate from $30 to $25 per motorcycle 4

5 c technical updates to the classification of businesses to reflect changing risk profiles and updates to levy calculations to reflect wage inflation for levy purposes, that occur annually. Regulations required to implement new levy rates 24. To enable the collection of the new levy rates from 1 April 2016 for the Work and Earners Accounts, and 1 July 2016 for the Motor Vehicle Account, regulations must be made by 2 March 2016 and 1 May 2016 for the respective Accounts. Announcement 25. I intend to announce the new average 2016/17 levy rates immediately after they are agreed by Cabinet. BACKGROUND The Accident Compensation Scheme 26. ACC is a Crown agent providing comprehensive, no-fault personal injury cover to all New Zealand residents and visitors to New Zealand. ACC coverage is managed under five separate Accounts. This paper considers the levies that fund the Work, Earners, and Motor Vehicle Accounts as outlined in Table 1 below. 3 Table 1: Summary of the ACC Accounts Account Funded by Pays for Work Account Levies on employers and selfemployed Work-related injuries Earners Account Levies on earners through PAYE (or invoiced directly by ACC for self-employed people) Earners non-work injuries (not including motor vehicle and treatment injuries) Motor Vehicle Account Levies on motor vehicle owners Motor vehicle injuries Non-Earners Account Government appropriation Non-earners injuries (not including motor and treatment injuries) Treatment Injury Account Contributions from the Earners and Non-Earners Accounts The levy setting process for 2016/17 levies Cabinet makes final levy decisions People injured as a result of medical treatment 27. The Accident Compensation Act 2001 (AC Act) requires the collection of levies to fund the cost of all claims under each levied Account on a full-funding basis. 28. To achieve full-funding, section 166A of the AC Act requires the Minister for ACC (and Cabinet), when setting levy rates, to have regard to principles of financial responsibility: a b c the levies derived for each Account should meet the lifetime cost of claims in a particular year; any deficits or surpluses in an Account from previous periods should be corrected by the setting of levies at an appropriate rate for a subsequent year or years; and large changes in levies should be avoided. 3 The appropriation for the Crown-funded Non-Earners Account is considered during the Budget process each year. The Treatment Injury Account is funded through the Earners and Non Earners Accounts. 5

6 29. Additionally, section 300 of the AC Act requires the Minister for ACC (and Cabinet) to have regard to the public interest when exercising any functions or powers under the AC Act, in particular the interests of tax payers, levy payers, claimants, and potential claimants. 30. Following final levy decisions, ACC is required to publish a report detailing the effect that the prescribed levies have on the relevant Accounts. ACC Board makes levy recommendations 31. ACC is required to consult on new levy rates before they can be considered by Cabinet. 32. ACC has made 2016/17 levy recommendations to me after taking account of submitters views following public consultation from 1 to 30 October PROPOSED AVERAGE 2016/17 LEVY RATES 33. I am seeking your agreement to set average ACC levy rates for 2016/17 that align with those consulted on, and recommended to me, by the ACC Board. This reflects feedback received in the public consultation, which is summarised in the attached Regulatory Impact Statement. Table 2: Proposed average levy rates for 2016/17 compared to current 2015/16 rates Earners Account Average levy rate per $100 of liable earnings (excl. GST) 4 Work Account Average levy rate per $100 of liable earnings (excl. GST) Motor Vehicle Account Average levy per vehicle Proposed 2016/17 rates $1.21 $0.80 $ Current 2015/16 rates $1.26 $0.90 $ Percentage change 4% reduction 11% reduction 33% reduction The ACC Board s funding policy underpinning the proposed 2016/17 levy rates aligns with the Cabinet agreed funding policy 34. ACC consulted on 2016/17 levy rates that give effect to its funding policy, as has been the case in previous years. 35. This year, ACC adopted a funding policy that is consistent with the Cabinet agreed funding policy [EGI Min (14) 11/9 refers], meaning that ACC has consulted on, and recommended, levy rates that are consistent with this. 36. The overall purpose of a funding policy is to provide guidance on how to maintain solvency of the Accounts at reasonable levels whilst also maintaining levies at rates that are reasonably stable and align with underlying costs. These objectives, which are reflected in the principles of financial responsibility that the Government must have regard to when setting levies, necessitate inherent trade-offs. 37. The Cabinet agreed funding policy, underpinning these proposed levies for 2016/17, captures and balances these trade-offs with the following parameters: a b c levies are based, in the first instance, on projected new year injury costs. This connects levies to costs, which improves fairness, price signals, and provides the right incentives to avoid injuries and invest in rehabilitation a funding range of 100% to 110% of reported liabilities for each levied Account is targeted (in previous years, ACC s funding policy targeted funding ratios that were much higher) after reflecting new year injury costs, an adjustment is made to levies to correct for one tenth of any surplus or deficit in the accounts over one levy year. This mechanism to 4 While these amounts are exclusive of GST, the recommendation is expressed as GST inclusive ($1.39) to provide Inland Revenue with clarity on the rate required for implementation. 6

7 return the funding position to the midpoint of the target funding band (105%), is referred to as a 10-year funding horizon. 5 This is a longer horizon than ACC had previously been using. It has the effect of smoothing the adjustment in response to any surplus or deficit, resulting in less volatile levies and fiscal impacts, and a greater alignment between levies and new year injury costs. d a cap on the annual average levy increase for any one Account at 15 per cent has been set (not including levy increases due to inflation for the Motor Vehicle Account). This provision is precautionary and is expected to be rarely applied. The impact of the proposed levy rates on ACC s funding position and future levy rates 38. Currently, all Accounts hold assets that are either above or within the target funding band of 100% to 110% of reported liabilities. This is reflected in the proposed levy reductions, which gradually return the Accounts to target funding levels. The relatively large levy reduction proposed in the Motor Vehicle Account reflects that current levies are above projected new year injury costs for 2016/ Table 3 below illustrates the projected current and future funding positions at various points in time, under the proposed levy rates and the funding policy. In practice, funding levels are likely to vary around the paths illustrated because changes in claims experience and economic conditions are very difficult to predict for long-tail schemes like ACC. This means that the funding policy is reapplied each levy round so that levy rates reflect any changes to new year injury costs and changes to the one tenth adjustment that is required to return the funding position to target. In reality, the funding positions will deviate from this path when expectations are updated and the impact the funding horizon has on smoothing levy volatility is likely to be more pronounced than projections would suggest. Table 3: Summary of funding positions of ACC s levied accounts Levy Account Projected funding position (assets relative to reported liabilities) 6 31 March 2015 (end of 2014/15 levy year) 31 March 2016 (end of 2015/16 levy year) 31 March 2024 (end of 2023/24 levy year) 31 March 2031 (end of 2030/31 levy year) Earners 125% 123% 113% 108% Work 113% 115% 111% 107% Motor Vehicle 102% 105% 105% 105% 40. As Table 3 demonstrates, the 10 year funding horizon responds relatively slowly to differences between actual and targeted funding positions. The alternative would be to apply a shorter funding horizon, which would return a larger portion of surplus assets by setting levies at a lower rate, further below new year injury costs, so that the Accounts would return to target funding levels more quickly. The trade-off of this alternative approach is that levies would need to increase more quickly in future years (all else being equal) Choosing a funding horizon necessitates a trade-off between more stable levies and reaching target funding levels quickly. In recognising this, some stakeholders expressed a view that lower 5 A 10 year funding horizon means that one tenth of any surplus assets will be returned (or deficit will be made up) in the following levy year. Importantly, this does not mean that the funding target (105% of reported liabilities) is reached in 10 years time. Each levy round, the gap between actual and target funding is reassessed and one tenth of that gap is closed by adjusting levies above or below expected new year costs. 6 Based on information to 31 March 2015, including discount rates and expected investment returns, and 30 June 2015 valuation of the outstanding claims liability. Note that the estimated work-related gradual process claims liability is included in the Work Account. 7 This pattern occurs because in order to return surplus funds to levy payers and move toward the target funding position, levies must be set below the expected cost of claims. As the target funding position is approached, levies must gradually rise to align with the expected cost of claims. 7

8 levies, corresponding to a shorter funding horizon would be more appropriate to return excess funding more quickly. While a shorter funding horizon (returning a larger portion of any surplus or deficit) means that the funding position is more likely to remain above (or below) target for a shorter period, on balance, I consider a 10 year funding horizon appropriately places greater weight on achieving levy stability and aligning levies more closely with new year injury costs. In particular, the choice of a 10 year funding horizon recognises that: a b relatively stable and predictable levies are important to levy payers because fluctuations in levies translate directly to fluctuations in businesses and households incomes, compromising the ability to plan; and ACC has the ability to post-fund deficits over long periods (due to the long-term nature of its liabilities) and its status as a state-backed scheme. The impact of the proposed levy rates on levy payers and the economy 42. Table 4 below summarises the impact the proposed levy rates would have on levy payers and the economy. Table 4: Total and average levy reductions of the recommended approach Average Work Account levy rate per $100 liable earnings, GST excl. Earners Account levy rate per $100 liable earnings, GST excl. Average Motor Vehicle Account levy rate per vehicle, GST excl. Estimated reduction in levy revenue $171m $61m $218m Total $450m The impact of the proposed levy rates on households 43. The main impact for households this year is through the Motor Vehicle Account reduction. Each car a household owns would see the levies they pay reduce by an average of $65. The actual reduction for households will depend on their vehicle s risk rating, as discussed from paragraph 70. For petrol-powered vehicles, a portion of the levy is paid through a petrol levy so their actual levy would depend on the amount they travel Under the proposed rates, the average household would see a GST inclusive annual reduction of around $50 (from $1,281 to $1,228) in the levies they pay towards the Earners Account. 9 An average income earner and a minimum wage earner would see GST inclusive annual reductions in their contribution to the Earners Account of around $30 and $20 respectively. 10 The impact of the proposed levy rates on businesses 45. A feature of Work Account levies is that the levy that each business pays is determined by the claims experience of their classification unit, and loadings and discounts based on their individual claims experience (experience rating). 8 This does not risk rate based on efficiency of the car. 9 The average annual household income (wages and salaries) is $88,357, Household Economics Survey: year ended June 2014, Statistics NZ. (The latest data currently available). 10 The average annual personal income (wages and salary) is $49,396, Household Economics Survey: year ended June 2014, Statistics NZ. Wages per annum at the current minimum wage of $14.75 on a 40 hour week is $30,680. (The latest data currently available). 8

9 Distributional impacts of discontinuing residual levies in the 2016/17 levy year 46. Following the passage of the Accident Compensation (Financial Responsibility and Transparency) Amendment Act 2015 (the Amendment Act 2015), sections of the AC Act, requiring specified residual amounts to be paid off, were repealed by Gazette notice. The decision to remove residual levies in 2016/17 reflected reasonable evidence that sufficient residual levies would have been collected by 1 April 2016 to offset the outstanding cost of historical claims Removing residual levies does not change the total amount of levies that is required to fully fund the levied Accounts, but it does change the relative contributions made by individual businesses to the Work Account. Industries whose relative injury rates have improved since 1999 will pay lower levies and those whose relative injury rates have worsened will pay more The proposed reductions to the average Work Account levy mean the levy increases some businesses would have otherwise received (even if these were felt over a number of years as a result of capping 13 ) is reduced significantly. Under the proposed average Work Account reduction of 10 cents (an 11% reduction), approximately 79% of businesses will receive a levy reduction. Approximately 9% of businesses will receive an increase less than 10% and 12% will receive an increase between 10% and the maximum increase of 25% If the Work Account levy were to remain at the current rate of 90 cents, only 53% of businesses would receive a levy reduction, the remaining 47% would see an increase. 50. High level impacts of the recommended levy rates are outlined in Table 5 below. Table 5: Average levy reductions for businesses of various sizes 15 Firm size by number of employees (assuming average liable earnings per worker of $50,000) Reduction to the average Work Account levy of 10 cents (11% reduction) $250 $500 $1,000 $2,500 $5,000 The impact of the proposed levy rates on the Crown Accounts Levy rates in the Half Year Economic and Fiscal Update (HYEFU) 2015 forecasts 51. The proposed 2016/17 levy rates, as recommended by ACC, are what will be incorporated into the fiscal forecasts for the HYEFU. If Ministers agree to the lower Motor Vehicle levy rate, this would not need to be reflected in the HYEFU forecasts as the fiscal impact on the operating balance before gains and losses (OBEGAL) is not material for HYEFU purposes. Paragraph 110 to 112 (Financial Implications) provides a summary of the OBEGAL impact of ACC s HYEFU forecasts as compared to the Budget Economic and Fiscal Update (BEFU) 2015, and the OBEGAL impacts of Treasury s recommended Motor Vehicle levy rate. 11 Residual levies were previously collected to meet the outstanding cost of pre-1999 claims, when ACC moved from funding on a pay-as-you-go basis to a system of fully funding the lifetime cost of claims. 12 This occurs because 2016/17 Work Account levies will be based solely on businesses current risk ratings, while previously, a portion of the total levy (the residual portion) was calculated based on businesses historical risk ratings (the remaining cost of pre-1999 claims, estimated as at 2005). The removal of the residual portion has no distributional consequences for levy payers of the Motor Vehicle and Earners Accounts. 13 The capping of levy changes is addressed in paragraph This does not take into account levy discounts and loadings. 15 Note that these do not take into account industry risk relativities and experience rating adjustments. 9

10 How the proposed levy rates compare to Budget 2015 provisions 52. The proposed 2016/17 levy rates provide for an estimated $450 million reduction in levy revenue over the 2016/17 levy year, whereas BEFU provided for a $375 million reduction. 53. The majority of this difference in levy revenue occurs in the Work Account and largely arises from the removal of residual levies in 2016/17, which was determined after Budget 2015 was finalised. In particular, this increases the associated levy reduction because fewer levy payers will now be contributing to the Work Account levy In addition, since Budget 2015, an independent valuation of the Outstanding Claims Liability (OCL) has been undertaken, and updated new year claims forecasts, reflecting recent, higher claims costs, has been incorporated. 55. While the ACC Board s proposed levy reductions for 2016/17 are slightly larger, it is not anticipated that there would be further levy reductions in 2017/18 under the funding policy previously agreed to by Cabinet unless there are significant favourable shifts in the factors underlying ACC s levy calculations (particularly claims performance and discount rates). Treasury recommendations on average 2016/17 levy rates 56. Treasury has provided the following comment on the levy proposals: Treasury supports ACC s Work and Earners levy recommendations and recommends an average Motor Vehicle levy rate of $117.98, as incorporated in and signalled publicly at Budget This lower rate would provide an opportunity to further reduce Motor Vehicle levies with no material impact on the projected solvency of the Motor Vehicle Account in the 2016/17 levy year, which would be expected to remain at around 105% funding if this rate were applied. This is the same funding level as is projected under ACC s Motor Vehicle levy recommendation for 2016/17, and aligns with the midpoint of the % funding target under the ACC funding policy. 57. I do not consider there to be a sufficiently clear or rigorous rationale for the Treasury s recommendation, which departs from the funding policy agreed by Cabinet in May 2014 [EGI Min (14) 11/9 refers]. While the adoption of the Treasury s recommended rate would reduce projected solvency only slightly (remaining at 105% when rounded), it would also set Motor Vehicle levies further below new year injury costs. This means that under the funding policy agreed in May 2014, the Motor Vehicle levy would need to increase by approximately 15% the following year to bring levies into line with new year injury costs (all things being equal). This highlights the clear trade off between reducing solvency levels, achieving levy stability, and deferring future levy increases. Funding decisions can achieve any two, but not all three, of these objectives. The funding policy that has been applied appropriately places greater weight on levy stability and aligning levies with new year injury costs. Furthermore, there will always be a range over which levy rates that are alternative to those calculated under the funding policy, will provide for marginally different solvency levels. This relationship holds for all levy Accounts, under any funding policy being applied. As such, I do not consider immaterial impacts to solvency a sound basis for departure from the agreed funding policy. 58. It is important for the Government to be clear about its rationale if it deviates from ACC s recommendation given that ACC s recommendation: a b c reflects the Government s funding policy and its risk preferences incorporates more up-to-date information has been publicly consulted on. 59. At the time ACC calculated levy rates for consultation the solvency of the Motor Vehicle Account was projected, at the beginning of the 2016/17 levy year, to be at the midpoint of the funding 16 This occurs because while all levy payers (accredited and non-accredited employers) currently pay the residual levy, only non-accredited employers pay the current portion of the levy. That is, while nonaccredited employers will continue to pay the same total levy, the accredited employers will see a reduction in the levy that they are invoiced because they will no longer pay the residual portion. 10

11 9(2)(f)(iv) band the Government has decided to target. This differs to the Earners and Work Account, which currently hold excess funds. In addition, the funding policy provided the basis for the Motor Vehicle levy signalled in BEFU forecasts. The rate ACC consulted on, and I am recommending, applies the funding policy to updated claims experience data. In light of these two points, it is particularly unclear why departure from the funding policy, through the adoption of a lower rate, should be targeted towards the levied Account that has the lowest funding position. It is also unclear why the Treasury s recommended Motor Vehicle rate is preferable, given that the key assumptions underpinning that rate have since been updated and no longer reflect the funding policy. ISSUING A GOVERNMENT FUNDING POLICY STATEMENT 62. A key change to the levy setting process, as a result of the passage of the Amendment Act 2015, is that responsibility for setting the overarching funding policy that guides the development and setting of levies has shifted from ACC to the Government. Specifically, a Government funding policy statement, consistent with the new principles in the AC Act, must be issued by the Minister for ACC within 12 months of the Amendment Act 2015 taking effect (September 2016). 63. ACC must give effect to this funding policy statement when consulting on and recommending levy rates (this contrasts to the current approach where the Government s role is confined to making levy decisions at the end of the process). As is the case now, the Government is able to set levies that depart from ACC s recommended levies for reasons of public interest, as provided by section 300 of the AC Act. 64. I am seeking agreement to issue a Government funding policy statement that is consistent with the funding policy that Cabinet agreed in May 2014 [EGI Min (14) 11/9 refers], on which ACC has undertaken consultation, on my behalf. The parameters Cabinet agreed to are outlined in paragraph 37 and have been incorporated into the 2016/17 levy rates I am seeking agreement to. 65. I intend to issue the Government funding policy statement by March 2016, prior to ACC commencing any work on 2017/18 levies. Treasury recommendation on the Government funding policy 66. Treasury has provided the following comment on the levy proposals: Before the funding policy is finalised for the 2017/18 levy year, Treasury recommends further testing of the impacts of the policy against plausible changes in the ACC scheme s costs, assets and liabilities, as has been recommended by independent actuaries. The 11

12 parameters of the funding policy make a material difference to future levy rates and fiscal forecasts. The proposed policy is very slow to reduce ACC over-funding: under current projections, for example, solvency in the Earners Account would remain above 105% in Further scenario testing would ensure that Ministers are fully aware of the policy s implications and have a final opportunity to adjust the policy before it is implemented. 67. In my view, sufficient analysis was provided to Cabinet when it decided on its preferred funding policy in May Those decisions were made following several briefings received by the Minister of Finance, Associate Minister of Finance, the Minister for ACC and Associate Minister for ACC, which were discussed with officials on several occasions. These briefings included modelling of different funding targets and horizons, various approaches to reach the funding target sooner, and results from ACC s dynamic risk model. This was provided together with policy analysis of various options. 68. In reference to the Treasury s point that projected solvency rate would be above the target of 105% in 2031, it was made clear in all the modelling provided to Ministers that projected levy and solvency paths are based on current information that is unlikely to hold, given the inherent volatility in the scheme. The point is therefore that a longer funding horizon provides a mechanism to smooth levy rates in response to shocks to the scheme while making some progress towards target solvency, rather than setting firm expectations about future levy rates or timing to reach target funding levels. 69. Moreover, our agreed funding policy also has support from the ACC Board and has now been publicly consulted on. I am confident that our agreed policy appropriately balances the financial responsibility principles recently introduced into the AC Act. MOTOR VEHICLE ACCOUNT PROPOSALS Enhancements to the Vehicle Risk Rating programme 70. Regulations setting out the new Vehicle Risk Rating (VRR) programme came into effect on 1 July 2015 [LEG Min (15) 4/2 refers]. VRR provides for light passenger vehicles that are 3,500 kilograms or less to be placed into one of four levy bands, with the different bands representing the ability of each vehicle to limit injury in the event of a crash. The objective of VRR is to achieve fairer levies that are better aligned to the risks and factors affecting Scheme costs. 71. Developing a risk rating framework for vehicles is a complex undertaking, reflecting the diversity of cars in the New Zealand fleet and manufacturers branding practices. Submissions show there is a reasonable level of support for VRR but, at the same time, levy payers expect refinements. 72. I am seeking in-principle agreement to these proposed enhancements (described below) now, which ACC has consulted on my behalf. ACC will carry out a further round of consultation from 14 December 2015 on the specific levy rates that apply to individual vehicles [CAB-15-Min-0098 refers], based on these in-principle decisions. Incorporating model generation information 73. Currently, information about a vehicle s recorded make, model, and year of first registration is used to group vehicles, but model generation information has not been readily available in all circumstances. As a result, some vehicles from the same model generation are being charged different levy rates. 74. ACC has been working with a Motor Vehicle Industry Expert Group (MVIEG) 17 and individual manufacturers to create a database to identify unique generations of vehicles within a model. 75. I recommend introducing model generation to the information used to identify and group vehicles across the programme. This will help ensure that all vehicles with the same design (including safety features) are grouped together and allocated to the same band and levy rate. 17 Members include the Automobile Association, Motor Industry Association, Motor Trade Association, Motor Vehicle Importers Association. 12

13 A further statistical credibility threshold for the use of real world crash data 76. Where possible, real world crash data is used to determine the appropriate levy band for particular vehicles (the Total Secondary Safety Index (TSSI), developed by the Monash University Crash Research Unit). TSSI data focuses solely on the role vehicle features and vehicle design play in reducing the risk of injury to drivers, passengers, and other road users in the event of a crash. It does this by removing, as much as possible, the impact of other variables, such as weather and alcohol I recommend additional credibility criteria to provide greater confidence that the models have statistically credible data. In particular, I propose that real world crash data (TSSI) be used for vehicles with ratings that fall within a 2% confidence interval width. 19 This is consistent with other organisations that base ratings on Monash data, for example, Used Car Safety Ratings on the Rightcar.govt.nz website. Under this approach, the majority of vehicles will have enough crash data available for Monash to assign a TSSI (approximately 62%). Other methods are used to assign a levy band to the remainder of the vehicle fleet (discussed below). Default to NCAP for newer cars up to 5.5 years old 78. For newer vehicles, it is unlikely that sufficient crash data will be available to apply credible TSSI ratings. In recognising this, Cabinet agreed [CAB Min (15) 10/1A refers] that the risk rating of newer vehicles, less than 3.5 years old, be based on laboratory crash testing (the New Car Assessment Programme (NCAP)). Introducing the model generation information, where a particular model may span a number of years, and using TSSI to rate a vehicle, irrespective of its age, so long as the TSSI is considered credible, means that this hard cut off point of 3.5 years is no longer feasible. 79. While NCAP is considered the best substitute available to rate newer cars or cars that do not have a credible TSSI, as with TSSI, it is important that the NCAP ratings used are credible. NCAP is introducing date-stamping and considers that NCAP ratings remain credible up to 6 years from when it was first assessed. This recognises that the protocols and design of the NCAP test change over time as engineering and safety design features improve but NCAP ratings do not update year on year. 80. I recommend applying this NCAP credibility principle to VRR, meaning that where credible TSSI is unavailable, NCAP ratings are applied as long as the vehicle is less than 5.5 years old. 20 This would cover approximately 6% of all vehicles. Using the average score of the vehicle s peer group (market group) of the same age 81. Because all light passenger vehicles must be allocated a levy rate under VRR, other methods must be used to help allocate vehicles risk ratings, where a credible TSSI or credible NCAP is unavailable. I propose continuing the two methods currently used market groupings and using a vehicle s year of first registration as a proxy for allocation. This would cover approximately 26% of all vehicles. 82. Market groupings categorize vehicles together into make and model groupings based on similarities of their type, size and other specifications and use crash data from the average of a particular group to determine levy bands, along with vehicles year of first registration (eg large SUVs in 2008). A vehicle s market group has been found to correlate with real world crash injury outcomes and the market groups assigned by Monash University will be followed. Where no market group information is available (for vehicles that are extremely rare, unique, or 18 Use of real world crash data requires sufficient data points (crashes) for estimates to be considered statistically valid. Currently, a minimum number of crashes need to occur (100 crashes of which at least 20 result in hospitalisation) for TSSI to apply to any given model of vehicle. 19 At the 90% confidence interval. 20 The difference between the recommended five and a half years and the date-stamping of six years is simply to reflect that the levy year for the Motor Vehicle Account starts half way through the calendar year, on 1 July. 13

14 specialised), models are placed into a default levy band based on the vehicle s year of first registration (covering the remaining 6% of vehicles). 83. ACC also consulted, on my behalf, on ageing NCAP ratings older than 6 years old, allowing them to be used instead of, or in addition to (and given preference to) market groupings. This would be a correlation exercise, rather than being based on actual crash outcomes. For example, cars that receive a 5-star NCAP rating that are between six and 12 years old could be assessed as having the equivalent of a current 3-star NCAP rating and be given the corresponding levy band. This option, while worthwhile pursuing in future, requires further development to ensure its implementation runs smoothly. ACC and MBIE will be working closely with the MVIEG and reporting back to me on the merit and feasibility of progressing this option in future levy years. This includes developing a work programme for incremental enhancements such as incorporating the impact of crash avoidance technology. Proposed levies for Vehicle Risk Rating classes 84. The average levy rate for light passenger vehicles within the VRR programme is $ (a 34% reduction from 2015/16). This equates to approximately 96.7% of the average Motor Vehicle levy for 2016/17, which is roughly the same relativity as that applied last year where light passenger vehicles were charged, on average, a levy equal to 96.1% of the average 2015/16 Motor Vehicle levy. 85. After applying the differences in risk across the VRR classes, the approximate spread of vehicles across levy bands 1, 2, 3 and 4 is estimated to be 19%, 18%, 21%, and 41% respectively. This provides for indicative levies as set out in Table 7 below. Table 7: Indicative levies for Vehicle Risk Rating Classes (to be finalised after further consultation) Vehicle Non-petrol vehicles Petrol vehicles 2015/16 Proposed 2016/ /16 (excluding average levy collected through petrol levy of $82.67) Proposed 2016/17 (excluding average levy collected through a petrol levy of 6.9 cents) 21 Band 1 $ $ $ $84.98 Band 2 $ $ $ $61.87 Band 3 $ $ $ $48.65 Band 4 $ $99.83 $68.46 $25.54 The upcoming VRR consultation will be based on these policy proposals 86. The levy relativities in Table 7 are indicative only. The final allocation of vehicles to bands will be determined following the upcoming VRR consultation. This will provide levy payers with an opportunity to see how the proposed enhancements translate to actual levy rates for individual vehicles and whether their vehicle moves across levy bands from 2015/16 to 2016/17. Following this consultation, the levy relativities (Table 7 refers) will likely need to be adjusted slightly to ensure the average Motor Vehicle Account levy that is agreed to is maintained. As such, these will be confirmed with Cabinet when Motor Vehicle Account regulations are considered in I am seeking authority to draft regulations that reflect these policy proposals and incorporate feedback from the consultation on the specific allocation of vehicles to levy bands. I will recommend any further detailed changes to Cabinet when Motor Vehicle Account regulations are considered in The petrol levy rate 88. The Motor Vehicle Account levy is collected from the owners of petrol-powered vehicles through two sources: the vehicle licence fee and the petrol levy. Petrol vehicle owners currently pay a 21 These levy rates assume a petrol levy rate of 6.9 cents per litre. If a petrol levy rate of 5.7 cents were applied (see paragraph 88 to 91) the license portion for petrol vehicles would increase slightly although the total levy would remain unchanged. 14

15 petrol levy of 6.9 cents per litre. In total, 44% of the motor vehicle levy for petrol driven cars is currently funded through the petrol levy. 89. ACC consulted on reducing the petrol levy to 5.7 cents per litre. Because the average Motor Vehicle levy is also reducing, this would see the proportion collected through petrol increase to around 50%. A number of stakeholders considered that further increasing the proportion of the levy collected through petrol would be more equitable because fuel consumption relates to distance travelled on the road and it is expected that the risk of accident increases with the time spent on the road. Other submitters supported the original proposal as consulted. 90. Having considered the various submissions, the ACC Board has recommended maintaining the petrol levy.at 6.9 cents. This would equate to around 60% of the Motor Vehicle levy being collected through petrol. 91. I support increasing the proportion of the Motor Vehicle levy that is collected through petrol. A petrol levy rate of either 5.7 cents or 6.9 cents would achieve this. In the end, the decision on which of these figures should be applied is a matter of judgement. Motorcycle levies 92. Differences in levies between vehicles in the Motor Vehicle Account are generally based on the expected cost of claims for each group. The levy for motorcycles has been set at a significantly lower level than claims costs would justify. While the true cost of injuries for motorcycles would translate to levies between $986 and $2,114 (depending on engine size), they are currently charged $ (600cc or less) and $ (over 600cc) I recommend maintaining 2016/17 motorcycle levies at existing 2015/16 rates. Because the average Motor Vehicle levy is reducing, this would increase the relative contribution motorcyclists make to Motor Vehicle Account levies and more closely align motorcycle levies with the relative risk of injuries, whilst also ensuring motorcyclists are not faced with an increasing financial burden that could make owning a motorcycle prohibitively expensive. A minor adjustment will be made to reflect any petrol levy change Cabinet approves, to ensure that owners of non-petrol driven motorcycles pay, on average, the same total levy as petrol driven motorcycles. 94. In 2016/17, the overall cost of motorcycle-related injuries is estimated to be $114 million. Of this, $87 million would need to be funded by other vehicle owners, if the current 2015/16 motorcycle levy rates are maintained. If motorcycle levies were reduced in line with other vehicle levy reductions this would mean owners of other vehicles would be subsidizing an even greater proportion of the costs of motorcyclists injuries. 95. I have asked officials to explore ways to reduce the underlying drivers of levy costs through a range of incentives aimed at improving motorcycle safety. These initiatives could include, for example, further incentivising motorcycle training. MBIE and ACC officials are also working with other transport agencies on the next Safer Journeys action plan. Officials will continue to work with motorcyclist representatives to develop and implement these initiatives. 96. The consultation document provided information on the option of increasing risk-rating bands based on engine size. Other options were also suggested during consultation, for example, using power-to-weight ratio as a basis for risk rating. I will be considering the feasibility and merit of introducing other methods to calculate motorcycle levies in future years. Motorcycle Safety Levy 97. In 2010/11, the Government established the Motorcycle Safety Levy (MSL) and the Motorcycle Safety Advisory Council (MSAC) to fund road safety initiatives specifically for motorcycle and moped riders. The MSL has been set at $30 per motorcycle each year, and has generated income of approximately $14.5 million since its inception (including investment income). 98. I recommend that the Motorcycle Safety Levy be reduced from $30 to $25 per annum. The total reduction to all motorcyclists for 2016/17 will be approximately $415,000. While MSAC has 22 This excludes the Motorcycle Safety Levy of $30 per annum. 15