Inherent Conflicts Within Insurance Intermediaries Not Being Properly Managed, United Kingdom’s Financial Conduct Authority Reports
May 29, 2014
Inherent conflicts within insurance intermediaries are not being properly managed, a recent “Thematic Review” by the United Kingdom’s (“UK”) Financial Conduct Authority (“FCA”) has found. The FCA is the UK’s primary financial services industry regulator.
Entitled “Commercial intermediaries – Conflicts of interest and intermediary remuneration,” the May 27, 2014 report details the FCA’s evaluation of seven large insurance intermediaries that serve small and medium UK business clients. The research included an assessment of revenue and premium flows, intermediaries’ largest insurer markets, significant enhanced commission arrangements with insurers, conflicts of interest policies, product tender and review documentation, “Chinese Walls,” and key management information. The FCA concluded that, in some firms, control frameworks and management information have not developed at the same pace as business models.
To download the FCA’s “Thematic Review,” click here.
In creating the report, the FCA sought ” . . . to establish how general insurance intermediaries identify and manage potential conflicts of interest where they receive revenue from both their customers and insurers.” Moreover, the FCA ” . . . wanted to understand whether the flow of revenue from insurers or other sources to intermediaries arranging insurance for UK SME [small and medium-sized enterprise] customers, particularly when acting as their agent, might unduly influence the intermediary to recommend an insurer against the insurer’s best interest or cause an intermediary to improperly perform its duties to its customer.”
The FCA described small business customers as having more complex insurance needs than retail clients, but not always more sophisticated buyers of insurance. As a result, small businesses often rely on insurance intermediaries for advice, but few even understand that there is a possibility for their insurance intermediary to be conflicted.
“Small businesses are experts in their particular field, but are often not experienced in buying insurance. That is why they need to be able to trust their insurance intermediary to act in their best interests. If there are conflicts of interest that are not identified or properly managed, that trust is put at risk,” FCA Director of Supervision Clive Adamson explained.
Insurance intermediaries can play a number of roles in the distribution chain, sometimes acting as agent for the insurer, as well as the customer. These different obligations and the way intermediaries are remunerated create the potential for conflicts of interest that need to be actively managed, according to the FCA.
In its effort to establish how the flow of revenue from insurers or other sources to intermediaries could affect the treatment of customers, the FCA found that:
- There was increased risk of conflicting interests where firms fulfilled multiple roles in the distribution chain, and acted as agent for both the customer and insurer in the same transaction;
- The control framework and management information in some firms had not developed in line with changes in the size and complexity of the business;
- Some intermediaries relied on disclosure as the main way to address conflicts of interest, rather than having effective control frameworks in place;
- Disclosure provided to customers was sometimes very generic and unlikely to meet their information needs or enhance their understanding; and
- Conflicts of interest were not always effectively mitigated in relation to add-on insurance or services, premium finance or where the cost of insurance is borne by a third party.
The FCA’s consumer research also revealed that small businesses are not aware of the differing roles intermediaries can perform. Many (68 percent) believe that intermediaries acted as their agent when selecting and placing their insurance. Further, a large majority (86 percent) of small business policyholders expect their insurance intermediary to search for more than one quote, a statistic that is not consistent with placement processes within some intermediary firms.
The FCA expressed concern that, if conflicts are not properly managed, the risk exists that decisions could be made in the interest of intermediaries, rather than their small business customers. This could result in some small businesses overpaying or buying products they don’t need.
As a result of its findings, the FCA is taking the following actions:
- Supervisory engagement with the firms involved to address specific issues identified, using the full range of regulatory tools available to the FCA as appropriate;
- Making the related feedback available to the wider industry via forums and trade bodies in order to illustrate potential shortcomings with existing approaches to managing and mitigating conflicts of interest;
- Engaging proactively with the industry to enhance understanding of the FCA’s rules and expectations;
- Providing further information and education to SME customers highlighting the FCA’s findings and their rights; and
- Feeding the FCA findings into planned thematic work on commercial claims.
“We expect all general insurance intermediaries to reflect on how they manage the conflicts of interest arising within their business model in the context of our findings and concerns set out in our review, and to make any necessary changes required to ensure that they are complying with the existing regulatory requirements in this area,” the FCA stated.
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