Inside Money: Report 413 - the high commission conundrum

Do high up-front commissions encourage more 'churning' of clients into new insurers? Photo / Thinkstock

The Australian financial regulator churns out a lot of reports - 34 this year to date alone, for example.

I have passed on most of them but Report 413 , titled 'Review of retail life insurance advice', has been on my reading list for a couple of weeks.

And after putting it off for as long as possible, I finally dragged myself through the Report 413's 77 pages this week.

As widely reported in Australian media, the Australian Securities and Investments Commission (ASIC) found the insurance advisory industry wanting on several counts.

"We have found significant room for improvement among the advice we reviewed and we will be actively working with the advice industry to lift the standard of life insurance advice," Report 413 reports.

More specifically, ASIC took a swing at the insurance industry remuneration structure, which is dominated by high upfront commissions (average 110-130 per cent of first year premiums in Australia)

"High upfront commissions give advisers an incentive to write new business," ASIC says, which contributes to hyper-active churning practices (unnecessarily moving clients into new policies).

Whether the ASIC report is a pre-cursor to legislative attempt to remove, or constrain, life insurance commissions is moot: that would be an interesting battle.

The New Zealand regulator will be watching closely. Although, a spokesperson for the Financial Markets Authority (FMA) says a local version of Report 413 is unlikely.

NZ insurance research, Russell Hutchinson, has filed a critique of the ASIC report, arguing its sample size of real client files was too small and probably skewed towards fault-finding.

He says the ASIC report is also a bit vague on the definition of "excessive switching".

In a recent report on the local life insurance industry, Hutchison notes the NZ conditions are "peculiarly good for switching business".

"The adviser incentives to switch business are large because of high upfront commissions [higher, in fact, than Australia]," the study says. "... These conditions have existed for some time, and if anything, they would suggest a higher level of switching that we currently experience."

But the Hutchinson report also attributes some of the insurance churn to rising consumerism (fuelled to a large extent by the internet) that is driving "comparison and switching" in many industries (mobile phones, power, for example).

For the most part, ASIC blames advisers for churning clients through insurers but perhaps the more interesting finding of Report 413 points to a structural failing in the industry.

"Remuneration arrangements that pay high upfront commissions to advisers are important to insurers to win new business," ASIC says. "However, those very same remuneration arrangements are contributing to high lapse rates where insurers lose existing business to competitors offering high upfront commissions.

"It seems that high upfront commissions are contributing to poor commercial outcomes for insurers."

If that's true, the insurance industry might be grateful for regulatory support in lowering their distribution costs.

But will savings gained through commission controls, if they come, be passed on to consumers? I'll keep a look out for the ASIC report on that.