The most surprising thing about today's FCA report on its conflicts of interest review in commercial insurance is the number of SMEs who arrange insurance through an intermediary. According to its report, nearly 3.97m SMEs rely on a broker. The rest of the report will come as no surprise to the industry in that, whilst there are pockets of best practice and good conflict management, there are still intermediaries whose conflicts of interest controls have not caught up with their evolved business models. The generally reassuring conclusions may conceal more interventionism to come. The FCA notes at the beginning of the report that, given the level of understanding of SME buyers, it expects them to have similar levels of protection to retail consumers. With that in mind, the FCA intends to educate SMEs on its findings and, in particular, their right to request commission information from their broker. Given that apparently 72% of SMEs believe their broker will be earning commission of 15% or less, there may be some interesting conversations to come.
The report highlights the following key findings:
1. There is a lack of consumer understanding about the services that are being provided
In some firms that describe themselves as independent brokers, as little as 30% of their business was actually derived from acting as an agent of the customer, suggesting that their business model is closer to an insurer agency. This is in contrast to 82% of SMEs who expect their broker to go to at least two markets to obtain a quote, with 27% expecting them to go to at least seven markets. This is, of course, inconsistent with the economics of doing SME business.
It is therefore important that a customer is accurately informed of the basis on which a broker acts. The report reflects on an example of disclosures on the various ways a broker may act, made in a single section of a terms of business agreement, making it impossible for the customer to decipher which model applies to them. Particular concern is raised in relation to add-ons and premium finance arrangements (both of which have been the subject of previous FCA papers) because of the inconsistency between the advisory service provided on the main product and more of an insurer-agency arrangement on these additional products. Seventy-nine per cent of SMEs expected intermediaries to act on their behalf in securing the best or cheapest payment option, despite the majority of intermediaries considering themselves to be only offering, and not advising on, finance options.
Good practice involves:
- Ensuring that the customer receives sufficiently clear information that enables them to understand the basis on which a broker is acting for them in relation to each product they purchase.
- This information should include add-on products and premium finance arrangements as well as the main product.
2. There is a lack of effective control frameworks to identify, mitigate and manage conflicts
The report notes that many firms have conflict of interest policies, but that there is a lack of control framework and management information to support the implementation and audit of those policies.
Good practice involves:
- Ensuring that where a firm acts for the customer and the insurer, that there is a separation between the broking (customer facing) role and the placement (market facing) role. Where a firm operates an MGA, there should be an ethical barrier in place between the broking and placement functions.
- Where insurers are being selected for a panel or a scheme, that the basis of selection is dominated by product features and value for the customer and not remuneration for the broker. A full audit trail of the basis of selection should be maintained to be able to demonstrate this rigour around the selection process.
- Robust controls should be in place where a firm has made its staff aware of enhanced remuneration arrangements. Firms should not allow staff remuneration, for example, to increase the risk of conflicts not being managed effectively.
- Management information must be made available to senior management to allow them to see that conflicts are being effectively managed. For example, file review findings, conflicts of interest registers and information on key insurer relationship and gross written premium to those markets
3. Firms rely too heavily on the disclosure of conflicts
The report emphasises that disclosure is not a "get out of jail free" card as it does not exempt intermediaries from the obligation to maintain and operate the effective organisational and administrative arrangements required by SYSC 10. SYSC 10.1.9G specifically states that "over reliance on disclosure without adequate consideration as to how conflicts may be appropriately managed is not permitted".
Good practice includes firms:
- considering how their exposure to the risk of conflicts of interest may have changed as they introduce new products, schemes and markets into their business
- ensuring that where they operate a scheme or panel arrangement, that this is frequently reviewed to ensure on-going suitability, for example to ensure on-going value for money and benchmarking of the insurers' performance against metrics such as claims paid and complaints management
- monitoring the impact of different commission arrangements with insurers on their placement activities through audit
- ensuring that there are appropriate controls in relation to add-on and premium finance arrangements
4. More to come
The FCA notes its concern in relation to claims handling authority arrangements with a profit commission and highlights that it will report further on these concerns in the forthcoming commercial claims review. It also raises concerns about residential property management services and conflicts, which is the subject of an on-going Competition and Markets Authority case. We will provide an update on these issues when further information is released.
As the FCA concludes the report by summarising how it plans to engage with firms in relation to specific issues to better educate the industry generally as well as the buyers of insurance, intermediaries must take action now to reflect on how they manage conflicts and to make any necessary changes to ensure they comply with FCA expectations.