"Will the FCA conclude that insurers should make it possible to upgrade existing policies to capture new benefits, even if that means additional underwriting and cost?"
The Financial Conduct Authority’s (FCA) protection market study is focusing, amongst other things, on unnecessary policy replacement.
Of course, advisers should conduct annual reviews to ensure customers’ circumstances haven’t changed. When they do, existing plans often no longer meet all and every need, but does that warrant a new policy?
To know, we need to look at pricing models. If a customer were to purchase a 25-year policy, the risk of a claim increases the longer the plan is in force. And yet, the price stays the same – ignoring indexation for now.
In practice, the cost of risk is much lower in the earlier years, so customers pay too much for the risk. For a 25-year policy, that’s the case for the first 15 years, while in the next 10, the underlying cost is higher, so customers recover their overpayment.
“The alternative is age-costed pricing, which better reflects the actual cost of risk on an ongoing basis.”
When a policy is replaced, therefore, the customer is starting that journey over again and will be paying too much for the next 15 years. That can’t be considered a good customer outcome.
As is often the case, however, it’s not that simple. Two major factors are getting in the way.
Influence over the decision to replace rather than amend an existing policy often concerns commission and, specifically, indemnity clawback periods.
When the clawback period comes to an end, usually after four years, there is a temptation to replace a policy with another to earn new commission from its replacement.
“Let’s be honest, rebroking happens, and there are some firms whose business model features this practice proactively.”
Most providers will allow changes to existing policies. Customers can increase the sum assured and/or lengthen the term of a policy (usually subject to additional underwriting), or, at least, a declaration of health. Similarly, Income Protection (IP) policies can be changed, provided the customer’s new occupation doesn’t sit outside the insurer’s risk tolerance.
However, when providers upgrade their offerings, particularly Critical Illness (CI), rarely do they allow existing policyholders to access new and, usually, better products. The rationale is that applying additional risk to existing policies with no corresponding increase in premium would be commercially dangerous.
“Guardian Financial Services applies any new CI proposition to existing policies, but that’s probably because it’s a relatively new player and less exposed to risk.”
The reluctance of providers to give existing customers access to upgraded propositions means advisers have to advise customers to replace their existing policies if they want the shiny new model.
When that happens, not only is the price likely to be higher because the customer is older and the upgraded proposition is better, by definition, but the adviser receives commission.
It’s very easy to justify a replacement policy and, therefore, a new commission payment, if the provider doesn’t have a mechanism to amend existing policies to cover new risks that have been added.
Will the FCA conclude that insurers should make it possible to upgrade existing policies to capture new benefits, even if that means additional underwriting and cost?
That wouldn’t surprise me.
