Spotlight on commissions

Spotlight on commissions

A review of broker remuneration is pending, and the industry is preparing to defend a system that it insists is working just fine

By John Deex

At this stage nobody can predict what that review will recommend, but it could result in significant changes for insurance brokers, with the commissions that insurers currently pay them facing the prospect of being outlawed.

But brokers are fighting back, arguing that if a system isn’t broken there’s no need to fix it, and the alternative could seriously harm access to advice.

Royal commissioner Kenneth Hayne’s recommendation for a review is in fact very broad, taking in much more than broker commissions.

We know that it will assess the effectiveness of a range of measures introduced to improve the quality of financial advice, and that it will be completed preferably by June next year, and no later than December 31 next year.

“On their face the conflicted remuneration prohibitions may appear to be comprehensive,” Commissioner Hayne writes in his final report. “But there are exceptions to their application relating to general insurance, life risk insurance products and basic banking products.

“Any attempt to reduce or eliminate conflicts of interest in the financial advice industry must begin, therefore, with examination of those exceptions, and whether they continue to be justified.”

While he did not go as far as suggesting exactly what changes should occur, others have since taken that additional step.

Key reports from the Australian Competition and Consumer Commission (ACCC) and small business ombudsman recommend the banning of so-called “conflicted remuneration” for general insurance brokers, with the ACCC suggesting replacing commissions with a fee-based model.

Brokers absolutely disagree. But before analysing the arguments in detail, it’s important to understand exactly what conflicted remuneration is.

The Corporations Act currently contains a broad prohibition on what it describes as conflicted remuneration. And McCabe Curwood Partner Mathew Kaley says the legislation contains a clear definition of what the term means.

“The conflicted remuneration that’s prohibited is that remuneration which, because of its nature or the circumstances in which it is given, could reasonably be expected to influence the advice given or product recommended to the customer,” Mr Kaley told Insurance News.

“In short, the provisions prohibit financial services licensees and their representatives from giving or receiving conflicted remuneration where advice is given to retail clients.”

Where a provider deals in a product without giving advice – not even general advice – then the conflicted remuneration provisions don’t apply.

They also don’t apply to products distributed to wholesale clients, and fees paid by clients to brokers would not be considered conflicted remuneration.

Mr Kaley warns that if the general insurance exemption in relation to insurance brokers were to be removed, as the ACCC and others recommend, the impact would be significant.

“The remuneration brokers currently receive from insurers for advising on retail products would become very limited,” he says.

“What that would mean for the distribution of retail products through insurance brokers is unclear. It could, for instance, result in brokers moving out of that part of the market altogether.”

So why does the ACCC want broker commissions banned? Its inquiry was into the affordability and availability of insurance in northern Australia – a fraught problem with no easy solutions.

Many argue that banning broker commissions will have no impact on the underlying problem, which stems from the high level of risk in the cyclone-prone north.

But Deputy Chairman Delia Rickard tells Insurance News that, despite recognising the valuable work brokers do, a shift to a fee-based model is required.

“Look, the ACCC didn’t start out with an expectation that it would have a recommendation to ban commissions” she says.

“I should say at the outset, we absolutely heard from consumers who had had great experiences with brokers who had gone above and beyond to get them coverage. So this is not an anti-broker thing.

“However, the more we looked at it, the more we realised that there was an inherent conflict of interest for brokers receiving commissions.

“We spoke to one insurer [that was] concerned about the cost of insurance in northern Australia, and decided to cut commissions. They cut them back to 15%.

“They changed no other aspect of their policy, and lost a significant amount of business.

“We also saw evidence of consumers who have used a broker, then discontinued using a broker, and got significant reductions on their policy costs.

“All up, we really felt there is an inherent conflict in the payment of commissions and if our role was to reduce the cost of premiums for consumers this was an unavoidable recommendation.”

Not surprisingly, National Insurance Brokers Association (NIBA) Chief Executive Dallas Booth has a very different view. While he understands the theoretical concerns about conflicts, he says in practice there is no problem.

“The royal commission heard many examples of real conflicts and genuinely poor customer and consumer outcomes being driven by remuneration structures,” he tells Insurance News.

“But they heard no evidence of that occurring in relation to general insurance brokers. No evidence at all.

“I’m hearing every day examples of brokers chasing the best possible deal they can get for their client, and if that means a saving of $200 or $2000 or more, that’s what they do because it’s in the best interest of the client.”

Brokers who chase higher premiums for their own benefit “won’t last in business for very long”, he says.

Analysing impact: McCabe Curwood’s Mathew Kaley

“The clients will soon find out that there are better ways and better deals out there and it is very easy for a client to change brokers.

“So anybody who is trying to rort the system and make personal gain out of it won’t be there for long, and that is not the typical example of insurance brokers that I deal with each and every day.”

Mr Booth is concerned that a purely fee-based structure could leave those clients with highly complex policies and claims facing unaffordable costs.

“The process at the moment tends to blend those services within the broker firm and there is a sharing process for both placement and claims.

“That allows the broking process to be available to everybody who walks in the door and I think there is massive value in that.”

He also fears many small businesses would be put off seeking advice for a fee in the first place.

“The evidence around the world is overwhelming, that people are not prepared to pay for financial advice on a fee basis. Very few people are prepared to do that.

“And the net result often is when those sorts of reforms are introduced, the level of advice provided to a community reduces,” Mr Booth says. “Therefore the community by definition has to be worse off, given the importance and the need for good advice flowing through to individuals and to business owners.”

He questions the accuracy of the ACCC’s claims about a product being snubbed by brokers purely because the commission was lowered.

“A lot of brokers have told me the circumstance that they reference followed a particular insurance company doing a major portfolio review [which] looked at commissions, pricing and terms and conditions of cover.

“The net result was that brokers had to have a good look at the cover being provided, the premiums proposed to be charged, and the interest of the client in relation to those matters, and the brokers do what they always do – they act in accordance with the best interest of the client.

“All the brokers that have commented to me about that have been absolutely firm about the fact that any change of insurer was invariably because of terms and conditions and price and not because of commission levels.”

Steadfast Managing Director Robert Kelly disputes the ACCC’s view that taking away commissions would lead to cheaper insurance for clients, and says he’s seen these arguments before.

“I’ve been fortunate to work in jurisdictions all around the world where consumers buy insurance on commission,” he told Insurance News.

“I watched the FCA investigation into the London market operation…and the conclusion that came out of London was clearly there was some conflict of interest. But overall, at the end, the consumer gained by those conflicts of interest by the competition that [they] created.

“When the ACCC says the way to provide cheaper insurance in Far North Queensland is to get rid of commissions and allow brokers to take a fee, it will stymie the person who cannot afford to pay a fee from getting competitive pricing on their policy.

Backing broker commissions: NIBA Chief Executive Dallas Booth

“It worries me when you take a system where the commission is factored into the cost of distribution and hope that by taking the commission off that the consumer will lose the 20% – that the insurance industry will drop 20% off their pricing. “In my many decades in this industry I’ve never seen anything like that happen.”

PSC Managing Director Tony Robinson says it’s frustrating that broker commissions have been singled out when “variable remuneration” is commonplace across many industries.

And he says broker commissions work because they are transparent, create competition in the market, and reflect the work put in by brokers.

“The absence of some sort of reward structure for a third party intermediary means there’ll be less price competition that can’t be a benefit to the end insured,” he tells Insurance News.

“It’s the competitiveness between providers that’s created by the broking intermediary… that helps keep prices down. It’s got more pluses.

“The marginal difference in the conflict between that form of remuneration and any other form of remuneration is small in my mind, while the benefits of it are significant.”

Mr Robinson believes commissions can be more concerning when the benefit of the commission flows directly to individuals – but this isn’t how it works at PSC, or at many other brokers.

“In almost all cases in this industry, the variable element of the commission is being paid to an entity, and then how it’s shared between the parties in the entity is often quite unrelated to the front-end of the business. In our case the corporate is earning the variable commission but the vast majority of the people in our businesses are on [fixed] salaries only.

“It’s a system that works well for the reasons I’m talking about. No structure removes the conflict. The conflict is managed by transparency and the natural forces of the market. If I don’t service my client well I lose them. If I’m not charging appropriately I’ll lose them and if I’m not getting a good premium outcome, I’ll lose them.”

For all this, the ACCC’s Ms Rickard is not backing down. She stands by the evidence produced in the report, following a detailed three-year inquiry.

“We had compulsory information-gathering powers [and] we saw extensive documentation,” she says.

“We are as confident as we can be in the evidence that we have produced in this report and we have got the internal documents and a whole range of quotes, many of which didn’t make it into the report, that support directions we’ve taken.”

She also argues that fees don’t put most people off seeking advice, saying that when the Future of Financial Advice reforms were put in place in 2012, this was a major concern. “Yet we are seeing financial advice businesses survive, flourish, and consumers being prepared to pay a fee.

“There may be some consumers who will be put off by it, but we’ve certainly seen across financial services that businesses continue to survive and many consumers appreciate the transparency that exists there.”

But brokers warn that nobody knows their industry like they do, and Mr Booth adds some stark advice.

“I’m absolutely convinced that governments and regulators have to think very, very carefully about what happens next if you abolish commissions. Will the community actually be better off?

“As part of this review we will be challenging anybody and everybody to put on the table, ‘where is the evidence of a problem that needs to be fixed?’”