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Insurance broking and advising industry shake-up looms, as govt looks to ban commissions

Insurance broking and advising industry shake-up looms, as govt looks to ban commissions

Commissions for insurance brokers and advisers could soon be done away with in New Zealand.

The Government has touted the idea of following the Brits in banning brokers and advisers from receiving commissions, in its review of the Financial Advisers Act 2008 and the Financial Service Providers Act 2008.

An issue paper on the review, released earlier this week, asks the public to give their feedback on restricting, or altogether banning commissions.

The Ministry of Business, Innovation and Employment (MBIE) spells out its concern:

“A number of financial advisers are either partly or wholly paid by commissions that are paid by product providers. These commissions can create a conflict of interest for the adviser; incentivising them to advise that their client buys a particular product.

“Though some types of adviser must inform their clients of any commissions, there are concerns about the ability of consumers to interpret this information.”

Authorised Financial Advisers are legally obliged to disclose commissions they may earn, as well as any conflicts of interest. However, the problem in the insurance industry is that most brokers/advisers are only Registered Financial Advisers, who don’t have to explicitly make these disclosures.

The problem

A report published by the Australian Securities and Investments Commission, ‘Review of retail life insurance advice’, in October last year, paints a pretty grim picture of the influence commissions have had over the quality of advice provided to life insurance customers.

Based on a review of 202 advice files in Australia, it says when advisers were paid up-front commissions, 45% failed to meet the standard. When another remuneration basis was applied, the failure rate dropped to 7%.

The review also found 96% of the cases that failed the advice test were sourced from up-front commission policies.

The Financial Markets Authority here has also identified “churn” – the practice of advisers persuading clients to move from one financial product to another for the purpose of receiving a high up-front commission – as posing a risk to some types of insurance.

MBIE’s issue paper recognises that commissions may “create a perception that advisers are less trustworthy and do not have consumers’ best interests at heart. This can have the flow-on effect of damaging public confidence in financial advisers.”

Other countries banning/restricting commissions

MBIE notes, “Internationally, a number of jurisdictions changed regulatory requirements following the global financial crisis to either ban or restrict the use of commissions.”

In 2013, commissions on new sales were banned in the UK, and ‘conflicted remuneration’ (effectively commissions) were banned in Australia.

While ‘conflicted remuneration’ on life insurance products is exempt, the Financial Systems Inquiry in Australia has proposed that upfront insurance commissions be set at the same level as ongoing commissions.

The controversial 'Trowbridge Report' has proposed setting a maximum amount for upfront commissions.

In the US, mandatory information disclosure continues to be the main approach to dealing with conflicts of interest.

General insurance brokers: the problem lies with life insurance advisers

Insurance Brokers Association chief executive, Gary Young, says it’s important to recognise the different ways in which commissions are used in the general insurance industry, compared to the life, income protection, health and trauma insurance sector.

He explains it’s common for life insurance advisers to be offered one or two-off large incentives from insurers when they sell a product. Conversely, brokers who sell and manage general insurance are more likely to receive smaller commissions when their clients renew their policies every year.

Young says, “In life you might get a 200% [commission] up-front. In general you might get 20% a year. It’s quite a different scenario for the two, and if anything, life is looking towards moving to where the general insurance model is.

“You can see that AMP in Australia has moved in that direction and one can presume the same kind of thing will happen across this side of the Tasman.

“Churn isn’t a problem in general insurance. You’re not turning clients over, because after two years you can get another lot of up-front commissions.”

Furthermore, he says the commissions paid by various general insurers tend to be fairly similar across the board, removing the incentive for brokers to provide disingenuous advice.

Young also points out general insurance brokers don’t usually earn commission from their corporate clients, as any brokerage is rebated and a fee is agreed on.

While they receive a mix of brokerage and fees from their commercial clients, they receive a large brokerage and small fee from their domestic clients.

Therefore, his concern is that if commissions are banned, brokers may have to charge higher fees at the domestic level, deterring people from using brokers in the first place.  

“They would simply go to a direct player and buy the cheapest product.

“So if you’re looking out for the interests of the consumer, there’s an argument that moving to fees is a backward step as people would no longer seek advice. In the end they’d be buying on price, which is the worst thing you can do”, Young says.

He says some of the association’s members have moved to a fees-only approach.

“I think gradually it’s something a lot of our members will look at. But again it might be for parts of their book, not necessarily all of their clients.”

Life insurance advisers: things aren’t so rosy in the UK

Financial Adviser Associations of New Zealand chairperson Robert Oddy says that anecdotally speaking, “There’s a slow change that’s occurring – mainly in the investment area, rather than in the insurance area. That is because of the way the insurance companies have historically remunerated people. It’s been an incentive-based approach.”

He says it’s too early to comment on the specifics of the Government’s review of the Financial Advisors Act, but says, “I think they [MBIE] will take into account the UK and Australian experiences and some might argue that there have been considerable difficulties in the way the changes have been adopted.”

He maintains the income of advisors in the UK has dropped.

While one might argue that the consumer will benefit from this, Oddy says there’s a risk this will prevent the industry from attracting well qualified and experienced advisers.

Furthermore, he agrees with Young in saying, “If they ban commissions outright, I think the chances of getting the bulk of New Zealanders to pay fees for insurance advice would be a question to be addressed.

“Whether that pushes the insurance sector into more use of online facilities is open to debate.”

Oddy says it’s too early for the Association to comment on what it’ll recommend to MBIE in its submission. However, he notes that if New Zealand adopts the Trowbridge model, that puts a limit on up-front commissions, the Government would need to make sure the limit isn’t set too low.

According to MBIE, a post implementation review found that the ban on commissions in the UK has; “reduced product bias from adviser recommendations, reflected in a decline in the sale of products which paid high commissions before the ban; made it easier for consumers and advisers to compare platforms, increasing competitive pressure and leading to significant reductions in charges; and reduced the price of financial products by at least the amounts paid in commission before the ban.”

The public have until July 22 to make submissions on the paper.

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Commissions are only part of the problem for the insurance broking industry. Tomb-stoning ( writing fictitious business to claim the up-front commissions in the hope of covering the payment at a later stage); Naked Policies ( taking the premium and not writing an actual insurance cover, hoping that a claim isn't made) and just plain old bribery ( see Herbert Insurance colluding with an insider to defraud Bunnings last year) are practices that would hardly raise an eye-brow at any gathering of the 'professionals' in this industry.
(Herald quote: "Clients who were uninsured as a result of Mr Herbert's offences were exposed to a risk of loss many times greater than the cost of the premiums which they paid in good faith."


how would agents get paid?


One of several ways!
(1) Phantom policies that are written (Tombstoning) are submitted to the reinsurance company ( like, say, Sovereign Insurance) and the paperwork is taken at face-value and the commissions paid out up-front to the broker on the non-existent policy.
(2) If no reinsurance is written with, again say Sovereign ( Naked Policies) then the broker pockets the premium and hopes for no claims, or less claims than the amount of the premiums they've collected. A bit like 'buying' the office Lotto ticket and keeping the money, and hoping that the numbers don't come up!
(3) Brown-paper envelopes! Cash is paid by a broker for dubious policies ( eg: overinflated premiums to a large company etc). The broker gets a bigger commission than they should and splits it with the Insider who gave them the business. (A bit like what some of the Forex boys have been caught doing!)


It's important to recognise I think that AMP is not strong in the independent adviser market and (according to independent research houses) do not have market leading products. They essentially own their own distribution arm - so it is in their best interests to reduce upfront commissions - but what is in the best interest of the NZ consumer? hmmmmm?