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The Actuary The magazine of the Institute & Faculty of Actuaries
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Will anything really change?

Under the current polarisation regulations (effective since 1989) a sales agent may either be tied to one company (so they only sell the products from that one company), or independent, where they can recommend the products from any insurance company.
The proposed changes to CP121 are:
– To allow agents to be ‘multi-tied’ This means that they are tied to a number of companies, so they can recommend products from a number of insurers.
– The term ‘independent’ is to be used by advisers who are to be paid by fees by clients, not by commission The aim of this is to make sure that ‘true independent advice’ is not biased by the amount of commission paid by the insurer to the adviser. The defined payment system (DPS) waters this down, by allowing an independent adviser to take commission in an agreed, but tightly prescribed manner for example initial commission can be used to offset fees.
– Relaxation of the ‘better than best rule’ This means that if an insurer owns an independent or multi-tied adviser, then the insurer’s products can be recommended provided they are equivalent. Previously, if an insurer owned an independent adviser, the insurer’s product had to be superior before it could be recommended.
– To introduce authorised financial advisers (AFAs) These are independent and can recommend products from any provider. AFAs can either be paid by commission or fees.
The aims of the new legislation are to:
– improve the quality and consistency of financial advice;
– give policyholders access to simple, low-cost advice;
– give policyholders better value for money;
– make the system simple to understand for the policyholder.

What will happen next?
A second draft is due to be published in September 2002, after industry comment, so there are a number of things that are up for review. However, several things have already happened:
– Within hours of the first paper being released in January, I had a number of conversations with IFAs and broker consultants, all confidently telling me how they would or would not be affected by CP121.
– In April 2002 I met an IFA who had spoken to 23 insurance companies and had heard 22 versions of CP121.
– There are teams of people working away in insurers’ back offices, who stay late at night and eat takeaway pizzas, trying to figure out what might or might not happen.
– There are numerous IFAs and insurers dancing and flirting with each other. Some have taken the relationship further, the first and most high-profile being 2001’s wedding of the year between AMP and Towry Law. Most insurers and advisers are still eying each other up or going on first dates.
So at the moment there is lots of talking, listening, and thinking going on. This is not at all surprising. Nor is it surprising that company directors will not rush into potentially irreversible decisions.
In terms of the potential impact on the market, I would like to give a personal view on five key questions.

Q1 What is an authorised financial adviser?
These are mentioned in the legislation, but it is not clear where they fit into the picture. IFAs who currently take commission could simply change their name and carry on operating as they are, recommending products from the whole market and being paid commission.
To allow this to continue seems bizarre. One possible explanation is that the AFA route is only there to allow the regulations to be implemented quickly, and then could disappear later.

Q2 Will there be an increase in the number of fee-based advisers?
In theory fee-based advice is the answer to everything. We know that the public needs advice, and the public would value good, reasonably priced advice of a consistent quality. Most advisers would love to operate on this basis they know how much they will be paid, and also know that they will be paid even if there is not a recommendation of a product at the end of the process.
So why not charge on a time-cost basis and present an invoice to the client at the end of the process? The reason is that there are a number of problems:
– The public does not trust financial advisers or insurance companies. This huge problem must be overcome, but as the negative publicity seems never-ending, I cannot see how this can change easily or quickly.
– Policyholders have no idea of a sensible fee. IFAs have very significant overheads, not only the normal costs of running a business, but also compliance, professional indemnity cover, time to research and to meet insurers. So charging £120 an hour seems like a huge amount of money to the policyholder, but after eating into the other costs, it doesn’t leave much for the adviser.
– Credit risks many policyholders will be unwilling to pay the bills, meaning either loss of income or the IFA wasting time chasing the unpaid bill.
– Many IFAs who are used to taking high rates of initial commission will find it difficult to alter their business models and start charging fees. Even if they do so, there will be a period where their cashflow will be significantly reduced.
The regulations do allow independent advisers to use commission to offset against fees. This means that, having agreed a fee of £1,000, the amount paid by the policyholder is reduced by the commission received from the insurer. Some advisers currently operate on this basis and more may do so. The key benefit is that the adviser is more open about the amount of commission that he or she is earning.
However, this may well increase, not reduce, the commission bias between providers. You could imagine the agent saying: ‘If you buy this policy from company X, you owe me £200, but the same product from Y means that you owe me £100.’ What will the policyholder do?
Putting all of this together I can only see a very small number of advisers moving, especially in the short term.

Q3 To what extent will advisers move to being multi-tied?
This is an interesting one. At the moment most IFAs only use a handful of providers, whether or not they have a formal ‘panel’ process. So on the face of it, moving to a multi-tied environment could mean little change. Coupled with this, the adviser will put pressure on the insurers to provide training and IT support, along with increased commission rates.
So surely any adviser must seriously consider this as an option for their business.
At the moment it is a relatively straightforward process for the adviser to change their current provider as the quality of products and services changes. Given the importance of the decision to the adviser’s business and also the number of possible ways of structuring a deal, it is hardly surprising that they will move cautiously.
The opportunity for the bigger players to squeeze the smaller companies out of the market will, in my view, be too great to resist. On the face of it, an adviser putting together a number of players to tie to could put together a panel that contains a number of specialist companies. However, I believe that the adviser is likely to choose a small number of big players who can offer a full range of services.
I see multi-ties happening in the medium term, to the detriment of smaller insurers.

Q4 Will insurers buy into IFAs?
I believe that the relaxation of the ‘better than best’ rule will mean that insurers invest capital into firms of IFAs. This is potentially the biggest change that comes from CP121.
The marriage between provider and supplier makes sense for both parties. The IFAs need capital at the moment because of a number of factors such as:
– lower commission rates on pensions business;
– the need to invest in IT systems;
– greater compliance and PI insurance costs;
– picking up their mis-selling bills.
For the insurer there is significant benefit in being able to control both the supplier and distributor, as we have seen in other industries such as brewing and holiday travel. As margins continue to be squeezed, this vertical integration seems obvious.
For the regulators, knowing that the same company owns both supply and distribution means they have the benefit of knowing where to point the finger if there is a problem. Also, going back to the aims of CP121, namely to give simple, reasonably priced advice of a consistent quality, the regulators will be able to achieve this more easily if the same company controls both parties.
Finally, there will be no shortage of IFAs offering their business for sale. Most are aged over 50, are unwilling or unable to invest in the technology required and see the prospect of selling up and retiring as very attractive. Wouldn’t you?

Q5 Will this make things easier for the public to understand?
At the moment most of the public would struggle to tell you the difference between a tied agent and an independent adviser. Adding further complexity by introducing multi-tied advisers and authorised financial advisers, and allowing independent advisers to be owned by an insurance company, will surely add to this confusion.
So I find it extremely hard to believe that these changes can make life simpler for the man in the street. Maybe I have underestimated the extent of the changes or maybe I underestimate the intelligence of the public. We shall see.

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