The Market Conduct Group of the International Association of Insurance Supervisors (IAIS) last month released the Application Paper on Approaches to Supervising the Conduct of Intermediaries ("Application Paper" or "Paper"). Based in part on a survey of over 60 IAIS members, the Application Paper discusses alternative approaches to the implementation of ICP 18 (Intermediaries) and ICP 19 (Conduct of Business) of the Insurance Core Principles developed by the IAIS.
The Application Paper is divided into four sections, as follows:
- Types of insurance intermediaries
- General approaches to intermediary supervision
- Supervisory requirements and approaches that promote good conduct of business
In general, the Paper attempts to define the range of activity with respect to which Insurance Supervisors can and should exercise authority. It incorporates some examples, drawn from the IAIS survey, of how this has already been accomplished in various jurisdictions worldwide. From a Canadian perspective, it is worth noting that Quebec is one of five or six global jurisdictions whose policies are repeatedly referred to in the report.
Types of insurance intermediaries
Following a brief introductory section, the second section of the Application Paper identifies the basic types of intermediaries (e.g., "agents" vs. "brokers") and notes that existing regulatory frameworks are being challenged by the proliferation of non-traditional intermediaries, including auto dealers, travel agents and post offices and other businesses that offer insurance products. In addition to these are online sellers, whose activities pose special challenges for regulatory systems developed in an era of paper transactions and face-to-face meetings. Like many other regulators, the challenge for Insurance Supervisors is to develop regulatory responses to these circumstances which will promote consumer protection without stifling innovation.
General approaches to intermediary supervision
The third section begins by noting that business conduct (as opposed to adherence to prudential standards) is the main focus of intermediary supervision. The Paper considers the range of approaches taken by IAIS members with respect to a number of supervisory issues (most, but not all, Insurance Supervisors also have jurisdiction over intermediaries). Because intermediaries are often much smaller than insurers, one principle that emerges from this discussion is that licensing and supervisory requirements should not impose "unreasonable barriers to entry" for intermediary businesses of modest size. The Paper notes that, in many jurisdictions, intermediaries are divided into categories that are subject to distinct types of regulatory treatment. Such categorizations are often based on product class or type of customer (retail vs. wholesale). The Paper cites Quebec as an example of a jurisdiction that has divided regulated intermediaries into classes in order to concentrate inspection and supervisory resources on the risks that are specific to each class.
However, the Paper also observes in this section that, while insurers have traditionally been held responsible for the conduct of agents, some supervisors are extending this to encompass brokers as well, even though they are conceptually independent of the insurers whose products they may recommend (Quebec is again noted as exemplifying this approach). In all cases, conflict of interest will be one of the primary supervisory concerns with respect to intermediaries, given their simultaneous relationship with buyers and sellers of insurance (conflict of interest is discussed further below).
The Application Paper describes licensing as the "bedrock of intermediary supervision". Licence types will generally reflect the differing circumstances and risk factors of different licensee categories. For example, those offering insurance as an ancillary product to their primary business line (e.g. airlines) may face minimal or no licensing requirements in some jurisdictions. Licensing has the advantage of providing a baseline of information about each intermediary in a jurisdiction, which in some cases is supplemented by annual reporting requirements or requirements to report on fundamental changes. While compulsory periodic reporting exists in some jurisdictions, the Paper warns that the amount of required reporting should not be out of proportion to the size of the business.
Other means of obtaining information discussed in the Paper include customer complaint processes and targeted reviews, such as "mystery shopping" exercises, advertising and media monitoring and thematic reviews. Australia, for example, has undertaken reviews of the sale of insurance by auto dealers and the bereavement industry. Quebec is mentioned in connection with its use of on-site inspections, the "targets" of which are determined on the basis of a risk-matrix analysis.
Indirect supervision is another avenue, particularly for supervisors that do not have direct authority over intermediaries. In the United States of America, an insurer is required to file the names of its agents with the state insurance regulator, who can then use that information to monitor the agents' compliance with its commitments to the insurer. Self-regulatory organizations (SROs), where sufficiently resourced and objective, can play a significant oversight role as well, particularly with respect to consumer education and the resolution of complaints. The IAIS is of the view, however, that supervisors should have oversight of SROs, and the standards that apply to them, if they intend to use them as part of an indirect oversight structure.
Sanctions ranging from simple warnings to customer compensation, injunctions, financial penalties and licence withdrawal can be imposed for a broad range of failings and misconduct, including incompetence, dishonesty, conflict of interest issues, poor record-keeping and insufficient control over confidential data.
Supervisory requirements and approaches that promote good conduct of business
The fourth section of the Application Paper considers the specific requirements of ICP 18 and 19 as they affect intermediaries' business conduct. These include competence, training, integrity, governance and conflict of interest requirements, among others. The competence requirement under ICP 18.3, for example, requires supervisors to set standards with respect to professional knowledge and experience. This can include educational standards and continuous professional development (CPD) requirements. These requirements can be tailored to different types of licensee and may require additional courses and training when an intermediary begins offering new types of insurance product.
Integrity and professional ethics are also significant elements in ICP 18. Depending on the jurisdiction, rules in this area may be established by the Supervisor itself, by professional bodies or by law. For example, the Supervisor may establish a Code of Conduct that applies to intermediaries' dealings with customers. It is also common to require internal processes such as background checks for new employees. A possible role for professional bodies is illustrated by the requirement under Quebec law that such organizations establish disciplinary procedures for their members based on government-mandated codes of ethics. Through their CPD programs, SROs frequently play a major part in ethical training.
Corporate governance, including risk management and internal controls, is dealt with in ICP 18.4 and ICP 19. Governance structures that advance the objective of fair treatment of customers may be encouraged by Supervisors through the imposition of codes of practice. In the risk management area, the Application Paper notes that supervisors may make policies and internal controls a condition of licensing. These policies could include regular risk assessments with respect to intermediaries' own exposures and those of their customers. Privacy, confidentiality and data security are other areas in which Supervisors should require policies, procedures and internal controls, including with respect to any outsourced activities.
Conflicts of interest are a matter of particular relevance to intermediaries, who are by definition in a simultaneous relationship between two entities - consumer and insurer - whose interests are not necessarily aligned. According to the Application Paper, the supervisor should require intermediaries to take "reasonable steps to identify, avoid or mitigate conflicts of interest through appropriate policies and procedures." The report notes that Australian studies have shown that commission salespersons are particularly prone to providing legally non-compliant advice. Another Australian study identified high-pressure tactics by auto dealer salespersons selling add-on insurance.
The Application Paper recommends that intermediaries disclose information about their fee structures, their financial links with insurers and their manner of remuneration to potential customers. ICP 18.5 requires that intermediaries disclose remuneration information where a potential conflict of interest exists. Some jurisdictions restrict variable remuneration, e.g. to 20% in the case of the Netherlands. Others bar commissions entirely for investment products or require commissions to be spread out over time in order to better align the intermediary's interests with the long-term interests of its customers (clawbacks are also used to achieve a similar result). While the authors of the Paper appear to approve of these measures, they also caution against attempts to restrict remuneration that might end up harming consumer interests by restricting access to advice and other intermediary services.
The need for clarity about remuneration and the intermediary's relationships with insurers is connected with transparency - another theme of the Application Paper. Supervisors should require that the transparency principles of ICP 18.5 be applied to online intermediary-customer relationships in the same way that they are applied in face-to-face relationships. In general, promotional materials should be accurate and must be withdrawn or corrected if inaccuracies come to light.
The fourth section of the Application Paper also deals with the sales process and ongoing intermediary-customer relationship. In the sales process, the key is to be clear about the points on which the customer is most likely to require clarification, given his or her experience and knowledge. In all cases, explanatory materials given to the customer must be sufficient to allow him or her to understand the product being offered. At a minimum, they must prominently indicate the core elements of the policy, such as the insurer's name, the benefits, any exclusions or limitations and the consequences of any failure to make timely payments. The Application Paper suggests that Supervisors may wish to undertake "mystery shopping" exercises in order to assess the realities of the customer experience (much as Canadian securities regulators and industry associations did in 2014 with respect to investment and mutual fund dealers).
The Application Paper notes that ICP 19.6 recommends that Supervisors require intermediaries to provide appropriate advice to customers prior to the conclusion of any contract. Precisely what is "appropriate" for this purpose is highly dependent on circumstances, with simple, low-risk insurance products requiring relatively little in the way of advice. Obtaining signed acknowledgments from customers is also recommended, with the caveat that they will not always constitute proof that the customer has fully understood the contract. Records of advice given should be retained by the intermediary in the event that a dispute should arise. Supervisors may also wish to consider whether a greater onus is placed on intermediaries with respect to ongoing advice. Australia, for example, requires insurance intermediaries to provide retail clients with an annual fee disclosure statement. Whether a requirement to update advice should be imposed on intermediaries during the life of the product is a more difficult question, as the Paper recognizes, as such a requirement "may exceed the business plan of the intermediary who sold the product". The Paper notes that Quebec already has this type of requirement in place.
Finally, to the extent that intermediaries are involved with claims management and complaints handling, Supervisors should ensure that these activities are conducted in a fair and timely manner. The Application Paper raises a red flag over "profit-sharing type arrangements" in which the intermediary may benefit from lower payouts to its customers (another example of the sort of conflict of interest issue that is highlighted throughout the Paper).
While the Application Paper does not itself create any obligations for intermediaries, it summarizes the range of issues that Insurance Supervisors must consider and provides a number of interesting examples of ways in which those issues have been dealt with in jurisdictions around the world.