John Trowbridge is calling for life insurance companies to create more innovative ways to interact with customers. Here he outlines his recent address to the March 2016 FSC Life Insurance conference.
Reform is under way on financial advice. We have had FoFA, which for example has obliged advisers to act in the client’s best interests and is imposing standards on education. For the life insurance industry, the ASIC report in 2014 has given impetus to review commissions. The Life Insurance and Advice Working Group (LIAWG) was formed in response and made recommendations for reform in many areas, either through regulatory action or through voluntary action by the industry.
Government decisions are leading to legislative change, which means industry reform. Reform is worthwhile because there is an underlying problem within the life insurance industry, which I call the intermediary imperative.
"Let’s also look for innovation. It doesn’t have to be radical or disruptive,
but it should look for closer and more effective interaction with consumers"
The “intermediary imperative”
Historically, intermediaries have been essential in stimulating product demand, notwithstanding a clear need for life insurance products across the community. This results in:
- Intermediaries creating a separation or distance between insurer and customer;
- Product design, services and remuneration of advisers being built around what advisers want and what they say that customers want, which is not necessarily the same thing as what customers do want;
- Insurers historically have survived and prospered only with the support of advisers;
- Commissions becoming the normal form of adviser remuneration and that creates a conflict of interest, especially when there is an initial commission on new policies and replacement policies that is materially higher than the renewal commissions.
Hence, the effective customers of the insurer are the advisers, not the consumers or the policyholders.
Taken together, these conditions create a first-mover disadvantage whereby no single insurer can break ranks without jeopardising its business. Insurers are captive to the advisers.
This may seem odd in the context of a ‘best interests’ duty, but the best interests test is still in its infancy.
This problem of the ‘intermediary imperative’ may not be obvious because most people have come to expect that this is the way the life insurance industry operates. But the conflict of interest problem is real and, no matter how much education, training, professionalism and integrity advisers have, customer interests will not always be put first.
How does reform occur?
Reform can occur in two main ways:
- By legislation or regulation ie. where the government dictates the need and the nature of the reform, and
- An innovative competitor arrives, for example an existing player or a new entrant who changes the competitive environment through some kind of innovation.
Two examples which are salutary in the life insurance context:
We used to have a superannuation surcharge and RBLs. The system was very complicated and diverted a major part of the advice function to tax planning. A massive simplification was made a decade ago by the Government eliminating first the surcharge and then the RBL, and also making post-retirement benefits tax free.
Whatever the equity issues might be, simplification has been a great facilitator for generating industry reform. The emphasis is now on planning for retirement - we have seen innovation in the super industry, including greater interest in retirement products. A large amount of innovative energy was released by regulatory simplification.
2. NRMA’s emergence as a motor insurer
NRMA started about 50 years ago when there were 40 or 50 competitors in motor insurance. All of them were selling through agents and brokers. NRMA sold direct in the pre-internet days and that meant dealing directly with the customer by telephone or in branches.
The competitors said it would never work because there would not be proper underwriting. They waited for NRMA to fail. So what happened? NRMA’s market share rose on average 1.5% p.a. for 25 years and it was always profitable, partly because of the quality of the information it received through dealing directly with customers was much higher.
Others had to adapt or withdraw. Almost all of them have withdrawn today. Today some 90% of motor insurance is sold direct.
Consumers are much better suited by this system and, interestingly, at its height in the 1980s and 1990s, NRMA Insurance was widely regarded as the best motor insurer in the world.
Life insurance today
The government is now initiating reform, but will this lead to innovation?
Initially, regulation will cover maximum commissions, firstly on the hybrid model at 80/20 then moving to 60/20, on both new and replacement policies, with a two-year clawback and elimination of conflicted remuneration for licensees. So conflicts of interest should reduce but they will not be eliminated.
Quite interestingly, the industry has agreed to payments which, at 60/20, will be less than was recommended in my report (20% annual commission plus $1200 initial payment) for more than 70% of policies and 40% of premiums.
Furhter, clawback is a poor idea, with advisers having to hold contingent assets for two years. And then they can go again with another upfront commission on a replacement policy. Perhaps the longer future is level commissions?
The stage is ripe for innovation. ‘Robo’ advice is in its infancy but will develop, current advice processes are inefficient and expensive, lifestyles and technological knowledge of younger people are different, ‘fintech’ is attracting investment with entrepreneurs looking to restructure the world of banking, lending, investing and of course insurance. Also, superannuation funds are getting better at promoting life insurance and its uptake.
Perhaps employers can also be awakened, having slumbered (i.e. opted out), since the defined benefit tradition began to disappear in the 1980s and 1990s and super has become a personal responsibility.
"Don't fight the changes but embrace them and adapt"
It is not surprising that the younger financial advisers are not complaining. They can see the new world ahead. So if I were an insurer, licensee, adviser or superannuation fund, I would be looking at how to operate my business differently in the future.
The emphasis needs to be on consumer needs and consumer interests. A change of mindset is needed and it should encompass retail, group life and direct business. The current modus operandi for direct business is inadequate, relying on incomplete disclosure until claim time.
And there other initiatives, especially an industry code of practice and all that this could entail if standards are set and best practices developed, publicised and followed. There should also be wider Approved Product Lists and simplified Statements of Advice. We will have industry standards on claims handling, and it would be worth taking a leaf out of the workers compensation book in relation to incentives and practices regarding returning to work.
The overall message is: don't fight the changes but embrace them and adapt.
Then let’s consider an industry vision for the future, with consideration of the boundaries with health insurance and workers compensation insurance? Perhaps an FSC think-tank for longer term reforms once the current adviser conflicts of interest are dampened?
Let’s also look for innovation. It doesn’t have to be radical or disruptive, but it should look for closer and more effective interaction with consumers, with greater efforts at creating community understanding of needs and how they can be met effectively through life insurance.
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