Financial planners and life insurance have been in the headlines recently. It’s a strange development, for a variety of reasons that i will cover later in this post. For the moment however, let’s just say that the current debate is highly superficial, and there’s a need for greater clarity – so read on!

Financial planners and life insurance

The current debate revolves around some key pressure points in the money world here in Australia:

• Life insurance companies have been losing money – or at least, making less than their shareholders would like!
• Financial advisers and financial advice generally, is the current “play-thing” of political power brokers, and looks set to stay that way for a while yet
• Post the Global Financial Crisis (“GFC”), a “do-it-yourself” trend has emerged for investments, and this is now extending to insurance
• The advent of internet technology as a mainstream tool, allows anyone to access a host of data on life insurance and insurance generally

What can i add to the ocean of data droplets available on the web? Perhaps a little bit of information, and some background from a financial adviser’s point of view.

ASIC, Financial planners and life insurance

The Australian Securities & Investments Commission (“ASIC”) regulates the provision of financial advice in Australia. In October, ASIC released a report of its findings following investigations into the broad issue of life insurance advice in the Australian market. The report was damning in its highlighting of the level of inappropriate advice being dished out to retail clients. You can see ASIC’s Deputy Chairman, Peter Kell, discuss the report and its findings in the video below.

The report’s release was taken up by media, with strong coverage across the country. For anyone with the time to read the actual report, it can be found on this link here. ASIC’s ability to regulate the advice industry is limited in various ways, so one of the most effective non-legislative ways in which they can drive change is through reports such as this and by bringing media attention to play on any abuses or errant behaviour in the advice market.

Financial planners and life insurance – which planners?

Like all media campaigns, the short message can often mask a more complex underlying situation and this case is no different.

One of the first issues to be highlighted is the wording surrounding the people who give advice.

The terms “financial adviser”, “financial planner”, “adviser” and many others are all used concurrently – mainly because there is no legislative backing for a particular definition. It’s something that the main financial advice industry bodies are attempting to tackle but it’s a tough job, as there are many conflicting opinions about who should be able to label themselves as what. Many “financial planners” don’t even deal with life insurance – they pass that on to specialist life insurance advisers.

From my point of view, passing life insurance recommendations on to someone immersed in the area is a reasonable call, as life insurance is a very involved and time-consuming field, and i find it hard enough to try to keep on top of investment and legislative issues surrounding financial planning without having to try to keep up-to-date in the ever-changing landscape of life insurance policies.

As Peter Kell points out, any advisers working in the life insurance area and doing a good job, are going to be tarred with the same brush as those who do a bad job – especially in light of the headlines and the general lack of community insight into the financial advice world. If a financial adviser hasn’t developed a thick skin by now then they mustn’t be able to read, so i don’t think you need to worry about financial advisers in amongst this media blitz on life insurance advice!

Financial advice on life insurance – What are the issues?

The ASIC report highlights their concern list, so my focus is on the broader issues surrounding financial planners and life insurance advice. Here’s my list of important key points.

• Life insurance can be a complex topic, easily misinterpreted or misunderstood
• Commissions are “conflicted remuneration” and can cause bias – but they can often be more appropriate than alternatives
• “Churning” or re-writing policies for commission alone, is a problem – but beware what you ask for on this one..

There are more points that could be covered but it has been suggested that my posts can take a bit to digest, so we’ll limit ourselves to these key points for now.

Life insurance can be more complex than you would reasonably expect

Why is it that many financial planners do not make recommendations on life insurance or insurance generally? The key reason is that it is difficult to stay up-to-date on life insurance policies. As a person who has dealt with life insurance over far more years than my ever-so-young visage would suggest, i can assure you that it is rarely a case of “write an insurance policy and pay a premium”. There is usually a good deal of work required to get an appropriate life insurance policy up and running for someone.

An associated reason why many financial planners do not make recommendations on life insurance, is that the legal liabilities associated with doing so put a great deal of risk on any recommendation. Even though all financial planners are required to hold Professional Indemnity Insurance, there is no guarantee that the liability insurance will pay in the event of a claim against the adviser, and the scope of investigation required to make a technically correct and appropriate recommendation is vast.

Please accept my assurance that i am not trying to avoid the financial adviser’s need to get things right, nor the simple point that being a planner means taking on that risk anyway. These are just my observations on issues surrounding what would otherwise seem a very simple and clear-cut issue.

Are life insurance policies too complex?

Some commentators have suggested that life insurance policies are too complex and legislation should be enacted to force some form of simplification. While i applaud the idea, it should be acknowledged that some areas ARE complex, and simple solutions don’t always work.

At the same time, i think that there is room for a “MySuper” version of life insurance – that is, a cut-down, minimum benefit-level, minimum-clause based life insurance product that all insurers can compete to provide at the lowest cost.That would allow people who don’t want any personal advice to at least have some certainty that the accounts they are selecting from are equal in terms of clauses.

In fact, i’d very much like to see that approach being taken to all the forms of insurance. Even something as simple as “life insurance” can hide some strange clauses. You would expect “life insurance” would simply pay in the event that you die. However, i have seen instances where the insurance cover would not be paid – such as death while riding a motorcycle! Who would expect to see that in the fine print?

What is meant by the term “life insurance”?

The term “life insurance” is in itself a simplification – the ASIC report covers

• income protection,
• death insurance (expressed in the ever-positive term “life insurance”),
• total and permanent disability cover, and
• “trauma” insurance.

Each is a highly specialised area in itself but when you mix and match these forms of cover, the number of variables can become extraordinarily large – making any valid comparison quite a difficult task. Again, i am not trying to say that life insurance comparisons are beyond the ability of the average person, as that statement is only sometimes valid. What i am saying is that i as a financial planner with many years experience of the life insurance industry, approach any “best interest” insurance comparison with some trepidation.

Examples of the inputs to making a valid ‘best’ insurance recommendation include :

• Cover in super versus cover outside super
• Estate planning issues such as an ability to make a beneficiary nomination
• Policy fees, and reducing these costs by taking policies offering a suite of cover in the one account
• “Joint” cover, including “first trigger” style cover
• Exclusions, premium loadings and insurance cover “underwriting” (assessing your application for cover)

Commission are conflicted remuneration and lead to bias

The overall thrust of this comment is absolutely true. There is a bias if there is a commission payable from a product. However, this does not mean that the bias is not in the best interest of the person seeking life insurance advice. Here are just some examples:

Low cost insurance cover means no financial advice?

The ASIC report includes a number of very good examples of good versus bad advice. Commissions are held up as the “bad” input as they alter advice and create a bias. One of the areas that frustrates me immensely in the modern, high-tech and ethics-driven debate on financial services, is what i see as a lack of interest in the position of those who are not wealthy or those that have only modest needs. The drive for “pay-as-you-go” financial advice conveniently bypasses discussion on how these people are to access good and appropriate financial advice. In the case of life insurance, i can be quite clear as to examples..

A person who wants to look at their insurance cover but is low on income or assets or funds for premiums may have an insurance premium of say $400. The adviser’s licence holder will be paid something like $400 upon completion of that policy, under the usual “up front” commission basis common in the industry (i’m being simplistic for the sake of the example. Commission is not paid on policy fees and the level of upfront percentage that applies varies, so it would probably not be this much). This could be seen to be excessive. Shouldn’t the client be better off if that adviser did not receive the higher commission and instead received commission on the “renewal basis” – perhaps 20%, which equals around $80? You’re going to get annoyed at me for this – but that will depend upon many things. The most obvious question will be whether the person received any advice in relation to taking out that policy? If they did then the adviser needs to follow a legislated process, and will incur substantial costs in doing so. It is extremely unlikely that a professional financial planner offering a range of company’s products would be in a position to deliver that advice for anything less than $300 (and i am being extremely conservative on using this figure – i am unable to offer any statement of advice at a cost of $300).

The result is that the person with the $400 premium could possibly find a premium of $300 but they would be better off only if the cost of financial advice was below the difference in premium – ie, $100. I sincerely doubt that this would be possible. The alternative is that a person surfs the web (assuming they have the funds and access to do so) and finds a comparison website and is able to identify from this the appropriate policy and cover. I am undoubtedly biased through my experiences in dealing with life insurance underwriting and claims over many years – but i would not be confident of that process resulting in the best outcomes for the person involved.

Wouldn’t it be great to have no commissions on life insurance at all?!

Commissions are conflicted remuneration and it’s a good basis from which to start any discussion on financial planning advice. However, life insurance is not necessarily as straight-forward as investment or super advice, and the capacity of the Australian public to pay direct fees for life insurance advice is uncertain.

Problems arise when obtaining insurance takes much longer than expected. It is not unusual to find that medical conditions or occupations or hobbies create difficulties in obtaining the cover people require. This can dramatically increase the amount of time and effort required on the part of the financial adviser. It is not unusual for this to create a distortion between the cost of the insurance premium and the cost of the advice required. An example would be when a person is utterly rejected for any cover at all. This situation would usually have meant a good deal of time and effort on the part of the adviser – how happy will the person recently rejected for cover by the insurance company when they receive the financial adviser bill for something that didn’t even go through?

It’s a bit of a conundrum (which is most likely solvable but i’m not sure just how) as the costs associated with researching life insurance options and bringing a valid policy into fruition can often be out of context with the actual cover put in place or the costs associated with the insurance premium itself.

Having made those statements, there does need to be further work on establishing better methods for dealing with the mix of advice and products – without narrowing the product range (eg, only using one insurance company products) or options available. The current system does not make that easy – even for advisers that rebate all commissions to the client, and charge a fee – as the commissions are “clawed back” from the adviser if the policy fails to stay in force for a particular period (usually a year or so). As pointed out in today’s Australian Financial Review (Smart Investor section, p25 “Arm yourself with life cover knowledge” by Jeremy Chunn) in which the writer suggests:

“Fee-for-service advisers who pass on an advance commission to their clients only to have them terminate a policy after 11 months will be pursued by the insurer for clawback. In this world, there’s risk everywhere you look.”

 “Churning” or re-writing insurance policies for commission reasons

“Churning” is an industry term for the unnecessary cancellation of one policy and the taking out of a new policy, simply so that a new “up front” commission will be payable to the adviser. It is an outcome of the conflicted commission remuneration, and an abhorrent practice. In my early years in the life insurance industry, it was an area that would occasionally confront life insurance companies, who took steps to stamp on the practice wherever it appeared. However, it has been my observation that this was, and remains, an unusual event and is NOT a common occurrence in the life insurance industry.

Moving to a better policy versus “churning”

The accusation of churning life insurance policies is sometimes based on statistics that show a high level of changing policies over time. While this may be indicative of the potential churning of policies, it is also quite likely a standard outcome of formal reviews of current policies.

For example, a single person having life insurance through their default super fund, gets married and sees an adviser to look at their new responsibilities and estate position. It doesn’t matter whether the adviser is a bank adviser, an industry fund adviser or a [insert alternative] adviser – the changed circumstances will require a good look at alternatives to come up with an outcome that is in the best interests of the client. Just one area that would suggest change would be clauses related to “total and permanent disablement”. Changes to the law surrounding total and permanent disablement cover in super have taken away the ability to set up “own occupation” style cover. This can be important, as it is easier for a claim to qualify under “own occupation” terms than it is under the standard terms of “any occupation for which you are suited by knowledge training or experience”. It can seem like an incidental issue until the point comes where a claim is made, at which time the difference can be incredibly important.

There is also the point of advisers acting in a client’s “best interests”. The recent political debate on changes to the so-called “FOFA” reforms, has muddied the waters on “best interests” as it relates to financial advice. There are technical arguments of what constitutes “best interest” as a definition but from my point of view, most financial advisers actually do their very best to find the best outcome that they can for their clients. They may be limited by the licence they hold, in the range of products they can select solutions from but even a fairly limited range of policies will still raise a large number of possible options from which to attempt to obtain the best outcome. In other words, an adviser that always aims to obtain “the best” outcome for their clients, may also be an adviser most open to accusations of “churning”, as they continually seek the best possible solution to insurance needs.

Adviser “best interests” requirements can be a two-edged sword

 

Advisers also have a legal obligation that causes quite a bit of angst when confronting life insurance advice. While it is easy to denigrate this as a driver towards outcomes and adviser actions, the fact is that an adviser can be held just as responsible for the advice they did NOT provide as they can for the advice that they DID provide. It takes some pondering to get your head around that one but the best way of looking at it is to look at a very simple example..

A person approaches an adviser to look at their life insurance position. The client is worried about cost, and wants to make sure there is sufficient money put aside for their marriage partner and children if the worst should happen. The adviser looks at a range of life insurance policies and comes up with one that is competitive on cost and still provides for a payout with minimal potential exclusions. The adviser puts in place total and permanent disablement cover, and the total insurance cover is set up in superannuation to further help the cashflow position of the client. Move forward a little and the client suffers a condition that would have been covered under an “own occupation” definition total and permanent disablement policy but that sort of cover isn’t available in super so the client’s claim is rejected. You could argue that the adviser did everything correctly – they provided the cover required and at an appropriate cost. The client did not focus on total and permanent disablement, this was something the adviser raised. The written Statement of Advice correctly limited the advice to life insurance and total and permanent disablement. Where’s the problem?

The problem is that the adviser may not have thought to highlight the impact of having total and permanent disablement cover in super. They may have dismissed that as being less important than the cashflow consideration. However, the obligation on the adviser is to point this out to the client. If there is no evidence that this occurred then the adviser is potentially liable for incorrect advice through omission.

Such examples are not far-fetched. They are the bread and butter of many lawyers offering services in advice legal cases, so this is no small issue for a financial adviser attempting to do the right thing by their clients and by the law. An adviser who follows this commercial reality is more likely to be replacing policies than someone who pay lip-service to the idea of “best interest”.

What does the ASIC report say?

Here is what the consumer group Choice say on their website, in relation to the ASIC report..

The report follows action taken by ASIC against advisers providing poor advice, including advisers who failed to adequately consider their client’s personal circumstances and needs and who recommended switching between policies to maximise commission income. Poor advice could mean that consumers took out policies:

• with bad conditions, such as their health conditions not being covered
• that were expensive
• that denied their claims as they no longer were covered for an event their previous policy would have covered.

ASIC found that the majority of life insurance policies recommended have stepped premiums, which increase with your age. In some cases, consumers were recommended policies that they may not be able to afford in the future.

Read more: http://www.choice.com.au/media-and-news/consumer-news/news/asic-crackdown-on-life-insurance-09102014.aspx#ixzz3GqDjT6ry

As you can see, there are a lot of pluses and minuses for the range of options available when considering life insurance recommendations.

“Stepped” versus “Level” insurance premiums

Yet another minefield where the number of conundrums exceeds the straight lines!

“Stepped” premiums are generally changed each year to reflect a person’s age and the increased chances of a claim being made. This follows the logic that insurance premiums for a 50 year old should be higher than those for a 30 year old, as the chances of death occurring during a time when the policy is likely to be in force, will generally be higher. In some cases (such as income protection), the “steps” in premiums may occur after a longer period, such as 5 years. Regardless, the premiums will generally increase and this can become quite a burden for the policyholder – just as their age suggests that a claim is more likely.

“Level” premiums are usually kept the same from when the policy starts, so long as the client continues to pay the premiums due in a timely manner. This does not mean the premiums WON’T change, as there is usually a “policy fee” of anything from $40 to $100 pa that would usually be indexed to inflation. In addition, most insurers will offer a “cpi increase” which means the policyholder can increase their cover by the level of inflation to help keep the cover relevant in today’s dollar terms. The extra cover will incur extra premiums but again, once set the premium rate will usually stay constant. The insurers are also usually able to change the premium rate so long as they do so to all similar policyholders (in other words, they cannot pick on individual policyholders which should mean that they are less likely to try to increase premiums “just because”).

To keep the premium level over a long time, the insurer will charge a higher amount than technically required in the early stages of the policy. If the policyholder keeps paying the policy then eventually the level premium will be lower than the equivalent stepped premium, and from then on the policyholder is “in front”. However, this means there is a “break-even” point before which the stepped premium policyholder will have paid less than the level premium policyholder. If circumstances mean the level premium policy is cancelled prior to the break-even point then the policyholder has paid more than they should, and the advice provided to use a level premium would have turned out to be bad advice. An adviser cannot see into the future but this is just one of the points that needs to be considered when working out what is “best interest” for the client.

The ASIC report covers some examples of how stepped premiums can be better than level premiums, and is well worth a read.

In yet another example of how attempting to reach a client’s best interests can lead to what may appear as churning, the move from stepped to level premiums would usually involve a completely new comparison against other policies and companies, as the method of calculating level premiums results in different outcomes and rankings for companies compared with that for stepped premiums!

 

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Financial planners and life insurance – Further Reading

ASIC’s Moneysmart website includes some basic information on life insurance : https://www.moneysmart.gov.au/managing-your-money/insurance/life-insurance

Financial Planning Association‘s website on life insurance : http://fpa.asn.au/life-insurance/

Choice Australia’s website : http://www.choice.com.au/media-and-news/consumer-news/news/asic-crackdown-on-life-insurance-09102014.aspx

 

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Financial planners and life insurance – Disclosure

• I am an authorised representative operating under the licence of RI Advice Pty Ltd.
• The business that i am a director and shareholder of, receives brokerage and or commissions from a range of financial products, including life insurance.
• I am an adviser noted on a large number of insurance policies of one type or another, and therefore should be considered biased in relation to any discussion on such issues. Personally, i think i’m capable of thinking above that – but you should draw your own conclusions!

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Financial planners and life insurance – Disclaimer

Remember the Great Disclaimer – nothing in this post or on this site is to be taken as being or inferring personal financial advice. It is general advice only and i would suggest that you don’t even take it as that – because it is really just my observations and comments, with the inevitable personal perspective, potential for bias, room for misunderstanding or misinterpretation and a host of other potential pitfalls.

Unless we (that’s me, Michael) expressly say so, the content of this site should not be treated as constituting financial planning, tax or accounting advice. It may be incomplete and may contain unverified information obtained from third parties or the public domain. My business entities and financial services licence holder, its agents and associates disclaim liability for any reliance upon the content of this post and this site. If you require financial planning, tax or accounting advice specific to your circumstances please obtain a written statement of advice from a suitably qualified person. We (i) disclaim liability in relation to computer viruses or other defects associated with this site – although i do go through a lot of personal effort and time to make sure that the underlying website infrastructure is updated regularly.

Just because i get bored of the compliance requirement to continuously point out the obvious, i’m going to indulge myself and highlight similarly obvious disclaimer points..

• i am not responsible for the content of any linked articles, posts or images
• i am not responsible for any opinions, errors, omissions, that may be in those posts
• i quite likely am responsible for any technical glitches that stop you from being able to get to a link… i am the writer, editor, proof reader, publisher, director, artistic input team, marketing consultant, code editor, site designer, SEO Consultant, IT Maintenance department and coffee-boy here at the institution that is Michael’s Musings – so give me a break.
• You may find it ironic that most of the pages arrived at via links, will include their own disclaimers against anything wrong or terrible – hence the Latin term “caveat emptor” or “buyer beware”. It doesn’t really matter that you aren’t technically buying the things you peruse on the net – but the law of advice and its interpretation as it applies to websites is such that you are assumed to have ‘bought’ anything you read as a matter of a commercial transaction, which is kind-of/sort-of fascinating, in a Geeky kind of way.
• By arriving at this website, it is inferred and assumed that you have read all disclaimers and disclosures, and that you accept the terms and conditions applicable to your being on this site, in full and with utter delight. To help remind you, i’ve elucidated the terms and conditions again for you below:
  • Terms and Conditions : Michael has complete and utter control over who can do what, when and where in relation to this site. If you comment, he is just as likely to post your comment as he is to delete it. Quite often, it will be ignored completely. Sometimes spam will amount to such an avalanche that your own note is lost in the detritus, and it is deleted as spam. No correspondence will be entered into, and no quarter given in any Tony Abbott-style “shirt-front” confrontation over anything remotely connected to or with or not connected to or with this site or its contents or any inference gained or taken from it. Being on this site constitutes acceptance of each and every condition Michael can think of, as well as those conditions he has not yet thought of, and those that he should have thought of.
• Nothing that is written on or in or that can be inferred from this site is valid for more than 1 minute and 1 second after it is published to the web. The world changes and changes again, and my opinions change from time-to-time, often from random events – so what was the case before is highly unlikely to be the case now.

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Michael’s soapbox – feel free to ignore this paragraph

The attention being paid to commissions in the life insurance debate is well-meant but not necessarily in the interests of all potential policyholders. It’s a bit like the continuous media campaigns to remove commissions from superannuation – the idea has merit but it’s not a complete solution, and it is certainly not the only business model that can work in the community. There are circumstances where people with low balances can be arguably better off paying commissions, if it allows them to access good financial advice. This statement is heresy in the financial planning industry at the moment but that is because many financial planners do not see their role as providing advice to anyone with less than (say) $400,000 of investable funds. My background of dealing with a broad section of the community over many years leaves me upset at seeing those with lower incomes or modest positions unable to access financial advice – and i don’t mean “vanilla, mass-produced and severely limited advice” – as that should really be delivered via ATM anyway. The commission option, for all its obvious flaws, did allow some businesses to deliver excellent financial advice to a broader section of the community. Not everyone out there wants to or is in a position to, pay an hourly rate of $220 for financial advice (this is the usual hour rate in the industry – including that for “industry funds” rate of personal financial planning advice). Just as some industry funds are allowing members to pay their financial planning costs as an instalment fee from their super account balances, there is a need to find avenues for wider access to broad financial advice. Let’s hope the regulators and consumer and pressure groups take a moment to think about those who are not in a position to meet hourly rate financial planning costs.