Imitation isn't always the sincerest form of flattery......
I’ve been watching closely the developments over the ditch in my former abode with regard to the recommendations for life insurance commissions. I know, I know – much has been written, spoken, and often shouted about the subject, but with a few years under my belt in the industry, I’d like to offer a more balanced narrative, if I may.
The Australian regulators have recently become aware - and apparently incensed - at the alleged poor quality advice offered to clients when life policies are being replaced, with the clear accusation that many advisers are serving their own financial interests ahead of those of their client. The conclusion drawn by the regulators that the high up-front commission payment is a factor which should not be present in the advice equation and have recommended that this practice be discontinued.
No doubt the F.M.A. has also taken notice of the trend for a small number of companies in NZ to grow faster than the overall market, and have correctly concluded that these rapidly growing organisations are doing so at the expense of their competitors ‘in-force’ books of business.
However, despite their proximity in many aspects, Australia and New Zealand are two significantly different market places for life insurance. Having worked on both sides of the Tasman, I feel reasonably well qualified to make that statement and present the following as evidence;
1. The Corporate Law Economics Reform (CLERP) was a necessarily radical series of legislative instruments needed to clean up the business world in Australia which reeked of corruption at many levels. NZ, while not squeaky clean or entirely immune from shady dealing, was hardly in the same league as the Diggers in this regard. Think HIH and try to find an NZ equivalent episode remotely like that.
2. While there certainly were instances of inappropriate selling pre-regulation in NZ, examples of malpractice in Australia were rife. Think tied agents selling Occupational Pension Schemes to tribes of nomadic Aborigines – and try to find a remotely equivalent episode in NZ.
3. Compulsory Super in Australia radically altered the landscape of the industry. Conversations which AMP, National Mutual, and Colonial Mutual tied agents used to have in the pub, at a Barbie, or at the footy about life insurance, shifted to superannuation which was a much easier subject to broach and which yielded much more positive results. So the presence of agency branch offices from Bunbury to Brisbane faded quickly away, and those agents became financial advisers. Although NZ also had tied agents, their domination of the distribution scene was demolished by the arrival and subsequent success of Sovereign - a market-generated change, rather than a legislation driven change .
There are many more reasons to claim differential market characteristics – legislative, regulatory, and commercial, but I believe the above three will suffice for now.
Turning specifically to the recommendations to regulate upfront commission payments, I would urge caution in the NZ industry scene for the following reasons;
1. Regulating earnings in a free market economy may have unintended consequences. Reducing compensation incentives to financial advisers may exacerbate the under-insurance problem so ably identified in Massey University's study on the issue 'Exploring underinsurance within New Zealand.
2. We already have the mechanism in place for dealing with inappropriate replacement of life insurance policies. If this were enforced more rigorously, the need to penalise the many for the actions of the few, would dissipate. This is a product provider issue and the regulator could do worse than call on the FSC to require members to disclose the statistics surrounding applications for life insurance replacement rejected for inadequate or inappropriate rationale submitted by the ‘replacing’ adviser.
3. All policy replacements are not ‘churning’. The issue is not quite as black and white as some would have us believe. Some life companies do not offer automatic upgrade of new policy benefits or wordings to existing policyholders. In these cases, an adviser would be derelict in his duty to act with care, diligence, and skill should he/she not provide the most appropriate protection available.
Furthermore, and this point relates to the reference to the free market economy that represents the NZ market, all life insurance companies are not the same. There are some organisations which, through prudent management, are able to manage operating expenses more efficiently than their competitors. To sustain this efficiency, there is a requirement for constant positive inflow of new premium income. If a product provider is able to do this by stimulating support through enhanced remuneration structures which do not disadvantage the consumer, why should they be penalised? Why should they be hobbled in their competitive efforts to the advantage of their less efficient competitors who cannot control their expenses as effectively?
Finally, the fallacy that up-front commissions are detrimental to price efficiency needs to be dispelled.
First year commissions are often financed by reinsurers, subject to year one rebate from the same reinsurance sources, and ‘DACed’ (capitalised) over a number of years to absorb the expense impact in the year of disbursement. Hence the impact of an upfront commission payment is minimised.
Removing commission completely would result, on average, in a 20% saving to the consumer.
But here’s the rub – this 20% is the inherent distribution or acquisition cost to the product or service provider. Remove this from many other products in our market economy, and the products would simply not be distributed, sold, or bought. Take away real estate agency commission, or travel agents commission and the markets would be severely impaired.
So, if people didn’t buy and sell houses, or go on holiday – so what?
Well, apart from addressing some issues in the housing area – not much.
But if we became an even less well financially protected community, this would have the potential to wreak considerable social and economic havoc as bread-winners, business owners, and borrowers ceased to be exposed to appropriate advice on financial risk liabilities and exposures.
It’s also inappropriate to cite the case of lawyers, accountants, or investment advisers because consumers in general simply don’t buy personal risk protection insurance, but they will seek and pay for legal, taxation, or asset enhancement advice, but we’re a long way from bracketing life insurance advice in the same category.
Furthermore, on the price issue, I would also point to the comparative premiums between bank life insurance products and their life insurance company competitors.
If upfront commission is such a prejudice to consumers’ interests when distributed by commissioned financial advisers, why are bank life insurance products – distributed by salaried individuals – no less expensive?
The hand of financial services regulation in NZ has been traditionally more circumspect than elsewhere, and in this regard, while there is much to learn from our overseas colleagues, I submit New Zealand should plough its own furrow and apply existing regulations more diligently.