Some of the more unsavoury practices of the country's multibillion dollar life insurance industry will be put under the blowtorch next week, including the insidious practice of advisers "churning" clients to earn hefty commissions.
The corporate watchdog has conducted a forensic investigation into the life insurance advice industry and it is believed to have turned up some highly questionable practices and inappropriate behaviour by some advisers.
The industry is bracing for further surveillance, enforcement action against some advisers and pressure from the government to change the conflicted remuneration model.
Against the backdrop of a financial planning scandal at Commonwealth Bank and a Senate inquiry which concluded that ASIC should have been faster to act and much harder, a tough report from the regulator into the insurance sector will go some way to repairing its reputation as being asleep at the wheel.
Under the future of financial advice (FOFA) reforms, the previous government made the extraordinary decision to carve out insurance products from the blanket ban on commissions. It meant insurance companies and advisers dodged a bullet on a very important aspect of conflicted remuneration.
Not surprisingly, some untoward practices have been allowed to multiply over the years, particularly the practice of churning clients.
Insurance and conflicted remuneration is expected to become the new battle ground as the Murray inquiry into the financial system looks at conflicted remuneration as it prepares its final report. In its interim report it said removing such conflicts would improve the quality of advice.
ASIC is believed to be briefing operators and industry bodies on its surveillance efforts and will release a hefty report next week. It has prompted some debate inside the insurance industry about commissions.
It is understood that ASIC wrote to a number of life insurance companies in the past few months asking for details of insurance policy lapses. It then received information on the adviser attached to those policies and the licensee involved to identify churn. Churning is where an adviser cancels an existing life insurance policy for the purpose of maximising their revenue. Put simply, the client's needs are not taken into account.
The way it works is advisers can earn 100 per cent or more of the first year premium paid on an insurance policy. They then receive a trailing commission. For some of the more unscrupulous advisers, it means if they switch a customer from one policy to another every few years they can earn another big upfront fee. In some companies it has bred churn masters, or planners who make a lot of money from churning clients.
Noel Stevens symbolises the dangers of churn and conflicted remuneration. Stevens was a scaffolder with less than $20,000 in assets but he did have a life insurance policy with Westpac' a policy he had for seven years which meant it would always pay out. He had a bank account with the Commonwealth Bank and was convinced by a financial planner to switch to a CBA life insurance policy.
A year after switching from Westpac to CommInsure, Stevens was diagnosed with terminal cancer. He spent the final months of his life fighting the bank over a $300,000 payout. He won the case but the bank appealed it after he died. The bank lost the appeal.
During the case Stevens discovered the teller received a referral fee of $444.60 and the planner scored an upfront commission of $815 and a trailing commission for switching him from Westpac to CBA.
Last month ASIC deputy chairman Peter Kell made a telling comment when he said: "It is still the case that when we find poor advice in a licensee, more often than not poor advice around life insurance is a key part of the problem."
The life insurance industry has been going through some major challenges in the past couple of years as claims have increased at the same time as lapse rates in term insurance, or death cover.
At the heart of the problem is that the commission paid to advisers is equivalent to the premium. The way it works is the insurance company has to pay the commission as well as incur expenses setting up policies and setting up a reserve that relates to future claims. The upshot is the company incurs a loss and that loss is capitalised based on the assumption that a profit will be booked on future premiums. That's the theory. The practice has been something quite different of late.
In the past couple of years people have been dropping their policies because they are too expensive. It has made it difficult for the licensees to recoup their initial losses on new policies. There has also been a lot of churn by advisers. Given many of these products have been priced on a return on equity of 12 per cent, if the lapse rate increases by 5 per cent it means the ROE has fallen by 5 per cent, or almost half the company profit.
With the regulator now circling and the debate on conflicted remuneration reaching fever pitch, change in the industry could be nigh.
