by Tony Vidler
Well..it has happened.
Life Insurance sales commission in Australia is regulated to lower levels, albeit with a phase in period.
The arguments have at times been ferocious, and those arguments are being watched closely in other jurisdictions such as New Zealand. Here one of the key policy making departments involved in the sector has put its views into the debate.
The Ministry of Business, Innovation and Employment (MBIE) has spelled out its concern, saying:
“A number of financial advisers are either partly or wholly paid by commissions that are paid by product providers. These commissions can create a conflict of interest for the adviser; incentivising them to advise that their client buys a particular product.
“Though some types of adviser must inform their clients of any commissions, there are concerns about the ability of consumers to interpret this information.”
Therein lies the actual problems:
1. only some types of advisers have to be utterly transparent, creating distortions in the market place and confusion for consumers
2. trying to create different rules for subsets of the advice industry blurs the distinction between product representatives (pure sales) and advice-based professionals who may or may not include product recommendations as a consequence of their advice process
3. there is a conflict of interest argument which must be considered and addressed, without prohibiting product representatives from providing simple product solutions without comprehensive advice. Frankly, there are many times and situations for clients where they just want and need a product solution, not a comprehensive planning process.
3. consumers are largely ignorant about the quantum and impact of commissions in this area, so rarely consider the conflicted advice issue themselves without having it overtly drawn to their attention
If we are to be totally honest as an industry we would also have to accept that very high initial commissions on insurance sales contribute to the practice of “churning”, or twisting perfectly adequate policies from one insurer to another for no significant change in client benefits. Commission certainly adversely influences the behaviour of some individuals. That is an issue for all practitioners as it undermines confidence in the sector.
MBIE’s issue paper recognises that commissions may “create a perception that advisers are less trustworthy and do not have consumers’ best interests at heart. This can have the flow-on effect of damaging public confidence in financial advisers.” They have also noted that “Internationally, a number of jurisdictions changed regulatory requirements following the global financial crisis to either ban or restrict the use of commissions.”
That is true. And we’ve just seen it happen in Australia.
I remain unconvinced – though am open-minded about the issue – that banning commission is a good thing.
In my reasonably long experience of dealing with insurance and consumers I have no doubt that it remains a grudge purchase in the main. It is nearly always bought with some reluctance on the part of the consumer, no matter how logical the need.
Frankly, every consumer hopes they are wasting their money every time they buy insurance. They don’t want to die, have their house burn down, crash their car, end up in hospital, or anything else. They are hoping they are wasting their money.
That attitude of reluctant purchaser when combined with the rather laborious process of actually getting many personal insurances put into place means that if the cost of the task were to be passed on directly to the consumer to pay in the form of an invoice for time or expertise, it would present an additional barrier to participation in the use of insurance products. In plain english: less consumers will pay for insurance if they have to pay a direct fee over and above their insurance premium too.
Having said all that, I suspect that in attempting to balance up the needs of all stakeholders there is some serious merit in the Australian reform concept. I cannot see the benefit of capping the amount of commission regardless of the work involved on the part of the adviser – that to me looks plainly ridiculous. The suggestion that no job was worth more than $1,200 was ludicrous market intervention.
However, restricting the maximum rates payable upfront in percentage terms has merit. As does providing a phase in period to switch the industry models to something closer to the relatively successful general insurance structure of reasonable and constant annual service commission levels – that is a good move. It does concede effectively that commission does have a place as a consumer choice in remunerating a service provider. And so it should.
Commission as a method of remuneration is not in itself the villain. Distortions occur when the amounts which can be earned for simple transactions are ridiculous. And aberrant behaviour is encouraged when there is no distinction between going through the process of providing a detailed solution or simply switching an incumbent contract to a different insurer on a relatively fast-tracked basis.
The real villain is
In a small country such as this, where we literally have only about 2 degrees of separation, conflicted advice is almost inevitable. Certainly we try to avoid it wherever possible, but it simply isn’t always possible. People on the advice side of the business are married to people on the manufacturing side of the business….nepotism in business is a fact of life here….people from all segments of the industry are friends with each other….it is a part of the Kiwi-way.
In government and governance New Zealand adopts a principles-based approach to the identification and management of conflicts of interest. There are no prescriptive definitions and there are few explicit rules detailing how conflicts of interest (or potential conflicts) are to be managed by those in charge of running the country. The Public Service Code of Conduct, for example, sets out the general principles and provides the framework within which individual public servants are able to make informed judgements when faced with competing interests and conflicting values.
(Ref: State Services Commission “Managing Conflicts Of Interest – Resource Kit” http://www.ssc.govt.nz/node/7732 )
This principles based approach to the sector understanding and managing its own behaviour and meeting its own ethical obligations is the standard that New Zealand government and public servants apply to themselves. When it comes to managing the day-to-day conflicts that must arise in a small country, their suggested approach is:
“Avoidance and disclosure”
The Public Service Code of Conduct requires all public servants to observe the principles of fairness, integrity and impartiality in all official dealings. Public servants are required to disclose any conflict of interest, or potential conflict, before they commence employment and during employment if such a conflict arises. It will then be up to their employer (the chief executive of the organisation) to determine whether a conflict of interest exists and, if so, what course of action is to be taken to resolve it.”
Those same folk provided essentially the same legislative structure to the financial advice sector. The financial services sector employers – being the consumers themselves – are given precisely the same opportunity to decide whether to accept the conflicted advice or not.
The problem is not the principles, or the forms of remuneration which consumers may choose from. The problem is not “commission”.
The problem is lack of consistent application of the core principles.
A principles based approach is the most pragmatic and flexible way to address industry reform and the evolution of a profession, but it only works when the same principles are applied universally to the industry. If they only apply to parts of the sector then they are not really principles of any worth. If you allow the principles to be voluntarily applied by participants, then they are almost entirely worthless.
When these principles are applied across the entire sector, then they begin to provide some transparency and begin to address some of the issues. But a degree of prescription helps in the application of the principles too…such as putting the hidden commissions called “soft dollars” into the spotlight of consumer scrutiny. There is undoubtedly work to be done on the subject of how we handle the conflicts that commission as a form of remuneration presents, and there is also no doubt in my mind that in saying so I will have just lost a proportion of whatever popularity I may have had in some quarters.
We DO need to address the transparency and trust issues surrounding the remuneration models though, and we need to strengthen the methods of dealing with conflicts of interest.
That path stops a long way short of banning a remuneration model entirely, particularly when it seems to be the preferred remuneration model of the consumers themselves when purchasing some types of products. We need to be pragmatic in finding the right solutions so that they work for all industry participants including the consumers. It is about finding the common ground.