 By Ian Benson, Director at Maclay Murray & Spens LLP
The countdown to the new Retail Distribution Review (RDR) regime, which comes into force in December, has led to growing speculation that similar rules may be introduced for the retail insurance sector. RDR draws a line under commission-based remuneration, historically set by the product provider, in the retail investment industry. As a result, firms providing advice to retail clients in the UK on retail investment products can only be remunerated by adviser charges for the advice and related services, which have been agreed with and paid for by their clients.
A key aim of RDR is to address the potential for adviser remuneration to distort consumer outcomes, with the Financial Services Authority’s (FSA) Adviser Charging Rules designed to ensure adviser firms are only remunerated by such adviser charges.
Reinforcing this position, the FSA has recently written to the CEOs of a number of life insurers and networks/IFA firms that are subject to the requirements of the prospective adviser charging rules to be introduced into the FSA handbook. The FSA has made it clear that firms must adhere to not just the letter but also the spirit of RDR and, in particular, that product provider firms do not look for " ways to circumvent the adviser charging rules by soliciting or providing payments that do not look like traditional commission, but are generally intended to achieve the same outcome, i.e. to secure distribution and have the same ability to unduly influence advice”.
The communication sets out some of the FSA’s key concerns over certain aspects of existing distribution agreements. In particular, these go into some of the operational support arrangements, for example, information technology provided by product providers to intermediaries.
If these changes are anything to go by, moves to introduce a similar framework in the retail insurance sector could present a series of challenges to the sector.
Given the focus of the FSA, soon to become the Financial Conduct Authority (FCA), on conduct of business in general and retail distribution in particular, will what is thought to be "good" for retail investors be applied to retail insurance products?
Some insurance products that function as investment products, for example, types of insurance bonds, are already within the scope of RDR. However, pure insurance products, such as pure protection sold to retail clients will not have to apply the same charging rules when RDR comes into force.
While the FSA’s recent statements fall short of an outright ban on the payment of commission on the sale of retail insurance products, they did say that the FSA had found evidence of poor practice in the industry. In particular, it highlighted sales incentive schemes "guaranteed to give the wrong outcome for the consumer”. As a result, the FSA has asked firms to review their incentive schemes and controls in this area and have coupled this with the promise to revisit the issues in 18 months' time.
However, any ban on commission imposed by the FSA, mirroring the RDR ban on commissions, would have to fit within the broader context of the proposed revisions to the insurance mediation directive, known as IMD2. The European Commission’s final report and study on the impact of IMD2, published in May 2011, specifically looked at the banning of commission on sales of insurance as a potential solution to issues arising, both in a remuneration context and from the spectrum of conflict of interest management. This report noted that, in discussions with stakeholders, most respondents believe that a ban on commission was an extreme move that would lead to greatly reduced competition and choice for consumers. The report also noted that the introduction of a mandatory disclosure regime, addressing both the nature and source of remuneration, appeared advantageous, with the least market disruption and cost.
The European Parliament’s working document on IMD2 was published in October, with the issues outlined consistent with the absence of a ban on commission payments on the sale of insurance products. In particular, it explores some of the technical difficulties arising from the provisions of IMD2, specifically relating to conflict of interest and transparency, questioning whether insurance investment products are actually compatible with pure investment products and should be subject to the same rules.
Additionally, the European Commission is looking for maximum harmonisation under IMD2 in a number of key relevant areas. Member states may, therefore, be prevented from ‘gold plating’ IMD2, by going beyond the minimum requirements of the directive.
This may limit the scope of a potential ban on the sale commission on the distribution of retail insurance products in the United Kingdom.
The proposed prudential regulation for the insurance industry under Solvency 2 and, in particular, the delayed timetable for implementation, has been a main focus for insurance companies. However, it is important not to lose sight of the FCAs conduct agenda relating to the distribution of products and the form this will take, within the constraints of IMD2, will need to be closely scrutinised. What is clear is that significant reform affecting distribution models in the insurance industry may well become an issue. In the meantime, it is important to review existing distribution agreements, to ensure these comply with the existing FSA handbook provisions and with an eye to future changes.
Ian Benson is a director in the financial services group of Maclay Murray & Spens LLP.
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