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Add on, opt out, heads up

On March 25, 2015, the Financial Conduct Authority published Consultation Paper 15/13 (CP15/13), which included a proposed ban on the opt-out selling of add-ons.

The FCA's reasoning has wider implications for the insurance market, which needs to consider the FCA's points concerning claims figures and excessive profit-taking. These points could potentially apply to other products and sales techniques, as could the FCA view that "the detriment caused by opt-out selling can also be experienced by commercial customers".

An insurance add-on is typically a discretely priced and purchased policy that covers a particular type of risk alongside a primary or principal policy. Add-ons are often sold on an "opt-out" basis, in that a customer must take an active step not to purchase the add-on (for example, changing a pre-written "yes" in an answer box in an application form).

The journey so far

As explained in the consultation paper, the changes proposed by the FCA have been a few years in the making: "a study on general insurance add-ons [was launched] in December 2012 and [became our] first market study in July 2013...to determine whether or not competition is effective and working in the interests of consumers".

The FCA published provisional and final findings and proposals in March and July 2014 respectively, including:

  • "[Buyers of add-ons] are less likely to shop around and are less price-sensitive [and] have poor awareness of what they have bought;
  • Insufficient information [is] available about the quality and price of add-ons;
  • Information that is available is often presented very late in the buying process;
  • Add-on providers benefit from a clear point-of-sale advantage [against] standalone providers;
  • Add-ons are often poor value, although we found that stand-alone products [for the same risks] can also be poor value;
  • Ineffective competition translates into an overpayment [by consumers] of at least £108 million a year;
  • There is no commonly available measure to assess the monetary value of general insurance [GI] products."

These findings were foreshadowed by the motor legal expenses insurance market thematic review in June 2013, and Swinton Group Ltd.’s fine in July 2013.

The FCA's 2014 findings reports proposed four remedies:

  1. An "opt-in" period for sales of guaranteed asset protection (GAP) products (in short, insurance covering a fall in value of re-sellable goods);
  2. Banning opt-out selling;
  3. Improving information provision; and
  4. Introducing a "value for money measure" in GI markets.

CP15/13 has focused on the proposed ban and information provision from firms. The ban:

  • "[Would apply] in respect of all add-on[s];
  • Is not limited to [GI] markets;
  • [Excludes] business practices that we see [as currently non-detrimental including: ]
    • Auto‑renewal of [principal] financial products;
    • Renewable add-on products [to which a customer has previously "opted-in"]; and
    • "Unbreakable bundles" [e.g.,] a home insurance product [with] no choice but to have both buildings and contents insurance..."

The guidance on information has been aimed at:

  • "Introducing add-ons to customers earlier in the sales process;
  • Demonstrating good practice in helping customers, [e.g.,]:
    • Compare packages of primary product and add‑ons; and
    • To make comparisons of packages easier...
  • Displaying the annual price of add-ons (as well as monthly) to ensure the customer can adequately understand the overall price; and
  • Reminding firms of their duties in [selling] add-ons [including] ICOBS requirements [as] to … features, benefits, exclusions, terms and price."

Financial, behavioural and legal drivers for change

The FCA has said it believes that opt-out sale techniques lead to "over-consumption" of insurance add-ons: customers are buying products they do not need and do not remember they have. In forming this view, the FCA has noted particular claims ratios for add-on cover:

  • For personal accident and [GAP] 10 percent of the retail premiums were paid out in claims;
  • Home emergency had an average claims ratio of 25 percent;
  • The average claims ratio in 2012 for:
    • MLEI was 7 percent;
    • Personal injury 5 percent;
    • Key loss cover 25 percent; and
    • Extended foreign use cover 29 percent."

In summary, the FCA said that "low claims ratios over a number of years, indicate that firms are not under pressure to improve value".

The FCA also noted that standalone personal accident insurance had an average claims ratio of 15 percent, and that claims rates for insurance products sold on an opt-out basis were materially lower than those sold on an opt-in basis:

  • "One breakdown product offered free to customers on an opt-out basis [had a] claims rate [of] 20 percent, but on an opt-in basis, [it] was 49 percent.
  • Similar findings were evident [in respect of certain] home emergency products, where the respective figures were 8 percent against 18 percent."

Further, on pricing trends, the FCA found firms being able to "significantly increase prices with minimal impact on demand".

The FCA has also proffered evidence connecting opt-out sales techniques with the sales penetration of add-ons on sales of MLEI:

  • "One firm that achieved sales figures [per customer or principal policy] of around 80 percent on an opt-out basis, [achieved] 40 percent when the product was sold on an opt-in basis."
  • "[Another] firm told us that, as a result of switching from opt-out to opt-in, sales rates reduced from 53 percent to 32 percent."
  • "Two other firms told us that after switching from opt-out to opt-in their total sales fell by 13 percent and 2 percent."

In respect of consumers' current rights, the FCA has reiterated its view that protections against opt-out selling under the Consumer Contracts (Information, Cancellation and Additional Charges) Regulations 2013 do not protect anyone defaulted into an add-on product when buying, for example, an insurance product.

A limited fallout?

The FCA has calculated that the detrimental effect on firms and any "unintended consequences" otherwise, will in effect be "negligible". However, significant sums are potentially at issue for firms reliant on opt-out sales, including collective lost revenue of £9-13 million per year as a result of the ban, and the consideration that making changes in line with the proposed guidance to amending technical interfaces such as IT systems could cost in the range of £0.5‑2.5 million per firm.

The FCA has also acknowledged that there will potentially need to be a short-term increase in the remit of senior managers for insurance firms, such as "reviewing the most commonly bought add‑ons and making necessary changes to product display". There could also be consequential issues regarding remuneration and quality assurance controls.

The FCA's comments concerning customer value for add-ons are reminiscent of the allegations which were made about payment protection insurance (PPI). This might explain the regulator's wish to prevent opt-out selling becoming prevalent in areas other than general insurance. Given what happened to PPI, add-on market participants who have not responded in line with the FCA's 2014 findings reports should consider their potential legal and compliance risk exposures. As to changes in intermediation operations, it is also worth remembering that opt-in techniques have been controversial in sales of both PPI and claims services about PPI.

This article was first published by Thomson Reuters Accelus at http://www.complinet.com/global/news/news/article.html?ref=178007

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This information is intended as a general discussion surrounding the topics covered and is for guidance purposes only. It does not constitute legal advice and should not be regarded as a substitute for taking legal advice. DWF is not responsible for any activity undertaken based on this information.

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Jeremy Irving

Partner

I specialise in providing compliance, regulatory and operational advice to clients in the insurance sector, including investigations, disputes and commercial/corporate matters that could affect clients’ standing with regulators.

Douglas Howie

Partner

I am a Partner in the Corporate and Banking team. For over 25 years I have specialised in advising on transactions in the insurance market, including some of the largest.

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