Since the Spitzer enquiries into broker commissions in the US in 2004/5, the issues of whether to make commission dislcosure mandatory and whether further regulation is required in respect of conflicts of interest have never really been far from the Financial Services Authority’s (FSA) radar. The market strived to find a solution that would deter the FSA from introducing yet more regulation but has failed, thus far, to find a commonly accepted solution as market views are polarised. The findings of the European Commission’s investigation into business insurance and the independent review conducted by CRA on behalf of the FSA, amongst other things, have motivated the FSA to issue a discussion paper 08/2 entitled “Transparency, disclosure and conflicts of interest in the commercial insurance market” (the Discussion Paper) with a view to resolving these issues.

The European Commission’s report on competition in business insurance published in September 2007, found that existing disclosure obligations in relation to commission are inadequate, such that clients are unable to make fully informed choices. The Commission’s preliminary conclusion was that full disclosure of all such broker earnings might help to mitigate conflicts of interest arising between brokers and their clients, however, it intends to look at the area within the framework of its planned review of the Insurance Mediation Directive, but also invites member states and industry participants to review the report’s findings and to propose appropriate action. See our previous blog here.

On the FSA’s instruction, CRA conducted both a market-failure analysis and a cost benefit analysis of the issues. It concluded that the benefits of solely introducing a rule making commission disclosure obligatory would not outweigh the costs, as the benefits would accrue only to medium sized customers. However, in carrying out their work they indentified wider issues of concern similar to those raised by the European Comission. Specfically, they felt that customers had a poor understanding of the capacity in which their intermediary was acting and the extent to which the intermediary was acting on their behalf. This was being exacerbated by market changes and by the use of business models and remuneration structures that give rise to conflicts of interest. See our previous blog here.

The Discussion Paper examines the key conditions necessary to encourage market efficiency. The paper highlights the importance of buyers having access to clear, comparable information about the role of the intermediary, their services and the way they are paid. The paper also considers the importance of managing conflicts of interests which are arise as a consequence of intermediaries dual roles as adviser to his clients and as distributor to insurers. Intermediaries increasingly have divided loyalties resulting in conflicts as a consequence of insurers delegating more functions to them.

The Discussion Paper outlined three possible solutions to address the perceived problems in the market:

  • more rigorous enforcement of existing rules through a combination of further guidance and additional reporting requirements;
  • an enhanced regime to improve quality of disclosure of commission (on request by the customer), services and status; and
  • mandatory automatic disclosure of commission.

Dan Waters, Director of Retail Policy and Themes at the FSA, said: “Our discussion paper offers some potential regulatory solutions, but the door also remains open for an industry-led response”. The closing date for comments on the discussion paper is 25 June 2008.  In addition, the FSA is conducting a detailed survey of intermediaries remuneration and business models (thematic work) and customer research as to how they use information about intermediaries’ commission and services. This additional work together with feedback on the Discussion Paper will help to inform the decision about whether to make changes to FSA supervision or rules. Whilst mandatory disclosure may yet be avoided, mounting evidence of detriment for customers suggests that change will be unavoidable.