Trowbridge – The Adviser View

Michael Baragwanath Director and Principal Adviser, Enva Financial Services enva.com.au

Life Under the Trowbridge

Like many people I’ve taken a look at the Trowbridge Report and I’ve come to the conclusion that Mr Trowbridge made an error – but it’s not what you might think.

The error is that the recommendations are listed in the wrong order!

Allow me to suggest the correct order for the recommendations:

1. Establish a Life Insurance Code of Practice
2. Licensees should re-examine systems and reduce the administrative burden on advisers
3. Expand Approved Product Lists (APLs) for all licensees to include at least half of all insurers
4. Prohibit licensees from receiving benefits from insurers
5. Over the next three years, implement a transition period to move to a new revenue model
6. Transform the revenue model to remove conflicts and start the process towards a fee for service insurance environment

If you read the recommendations from finish to start and remember that Mr Trowbridge put forward a ‘whole of system’ reform model, perhaps, like me, you’re now very excited about the future.

Rather than be fearful of the change and recommendations, now is the time for advisers to embrace the challenges and opportunities created by Trowbridge. The biggest battle for us now is not retaining conflicts that prop-up expensive business models – it’s attacking the red tape that makes us dependant on such a conflicted payment arrangement.

Remove conflicts, remove red tape, improve standards and improve outcomes.

Insurers have been quick to call for caution and many advisers are very worried about what these recommendations mean. I’m in a similar boat to all of you. The recommendations, if accepted without significant structural changes to compliance and insurance applications, would stop me placing business with any insurer. Just running a quote and some basic research would shift our business to a loss-making position. So how then can I write about Life under the Trowbridge? Let’s take a look…

Today’s consumer market

Firstly let’s quickly look at the market as it stands today…

Fact: Investors are totally disconnected from the expected and actual cost of financial advice. 

Research suggests that the average investor expects to pay between $400 and $1000 for financial advice.

We all know that advice costs a lot more than that. However, it is worth looking at similarly complex services from other professionals:

• A will with testamentary trust, power of attorney and advanced care directive or medical power of attorney for a couple costs approximately $1,400
• A personal tax return: $200
• SMSF accounts and return: $1,200
• SMSF audit: $270-$500
• Company setup costs: $1,100
• Registering a trademark: $200
• Establishing a share trading account: $0
• Buying shares on the stock market: $26-$50 (with a percentage to the broker for advised purchases)
• Loan establishment fees: $500

The biggest battle for us now is attacking the red tape that makes us dependant on such a conflicted payment arrangement

There is a tremendous disconnect between the cost of advice and the cost of other financial services.

Fact: Those that don’t know you don’t trust you. Those that do know you love you to bits! 

We know that only 20% of Australians seek financial advice, with 80% believing that they can do it on their own (some can and do). Among the reasons provided by consumers who do not seek advice, the following usually rank at the top of the list:

1. They don’t trust advisers
2. They believe advisers are only trying to sell them a product they might not need
3. They don’t think they can afford it/advice is only for the rich

The lucky few who do seek advice rate their adviser as one of their most trusted professionals and are willing to pay for your time. If only the others knew just how great you are!

Fact: Life insurers in Australia are in big trouble and they don’t really want to tell you that. 

Life insurance is a funny business. Get it right and that business will deliver fat profits, consistent, counter-cyclical revenue and tremendous valuations. Get it wrong and you’ll see a disaster as you raise rates to climb back to profit, which drives your healthiest clients away. You’re left carrying a very expensive and unhealthy baby that is about to collect on your reserves and destroy your business.

Look through the accounts of today’s listed insurers and you’ll see return on equity in the single digits. Add up the total sales of all insurers and you’ll realise that the retail market has gone sideways or backwards in recent years. From 2010 to 2013 the compounding growth rate was 5.8% for the market.

It’s clear that the current model is not achieving its aims of protecting more Australians. Remember, insurance is not about advisers; it’s about risk transfer and too much risk still sits with the consumer and government.

Fact: We’re so buried in compliance that many advisers have Stockholm syndrome. 

Just like that moment in ‘1984’ when Winston Smith realises that he loves Big Brother, so too do many advisers defend the Statement of Advice (SoA) as a mark of professionalism.

Research in the Australian Health Care study from 1995 showed that malpractice resulted in 18,000 deaths per year and 50,000 cases of permanent disability. For context, the Financial Ombudsman Service (FOS) resolved 24,983 disputes in 2012.

The fact is that twice as many people are permanently disabled by malpractice than complain about anything in financial services. Despite this, doctors roam free without having to issue a document explaining their advice, while advisers go to jail for failing to issue an SoA and have a legal responsibility for that document for life.

What could the future look like?

The following is my view of what the process could look like – actually what it must look like – for life insurance advice to remain profitable for the adviser and accessible for the consumer:

1. Insurers now offer to complete the entire application, medical requirements and follow-up. The adviser issues a quote for cover with the recommended ownership method and forwards the contact details of the client to the insurer.
   Quotes are obtained directly from the adviser’s CRM system and few, if any, advisers use an insurer’s quote tool. Many advisers choose to remove the commission altogether and simply charge a fee for their advice. The insurer can collect this fee on behalf of the adviser through the monthly premium. Should the client cancel their policy, the remaining adviser fee is still payable. Eg: the premium is $250 per month, plus a $60 per month adviser fee. $310 per month is debited from the client’s account for the first year. This already exists. BT Insurance offers it right now.
2. Statements of Advice (SoAs), if they exist at all, are two pages long and generated by the CRM software automatically once a quote is selected, based on client profile inputs. The SoA outlines only the adviser’s reasoning for the selected strategy. The Product Disclosure Statement already explains the product and the quote explains the product cost. Ideally, there is no SoA, just a diary note recording the adviser’s client notes and relevant personal details.
3. Completing a fact find and referral to the insurer, as well as comparing the market, can be done in a single meeting. The adviser and client need only spend one hour determining the right cover strategy and making a referral to put it in place.
4. Is this more complex and more time consuming when replacing cover? Yes, and it would cost a client more to do it. It would still be easy to justify why a direct life policy doesn’t meet a client’s needs or why a client should upgrade from a 1996 trauma contract, but the marginal differences between all current offers would stop churn. Unless of course a client is willing to pay more to review their cover provider.
5. Productivity is massively increased, but it’s unlikely that premium costs will reduce at all. Insurers will need the margin to invest in marketing, technology integration and product simplification. This new model requires much higher productivity, which means more people need to seek advice for advisers to make a profit.

What is the value of an adviser under Trowbridge?

Your value is in asking the right questions to ascertain the correct level of cover required, to know the tax and superannuation law well enough to recommend the best ownership strategy and to help secure a long term plan with a combination of stepped and level cover.

The client choices become clear:

1. Buy a product from the TV, where they are unlikely to know what it is or how it works
2. Research and buy a product online or direct from an insurer (many will want to do this and some will actually do it)
3. Seek advice and get the right product, structured the right way and know what they’re covered for

Is there a relationship or is it a transaction?

Many people see their accountant only once per year, their doctor only when needed and their lawyer only as a last resort, yet the relationship people hold with these professionals is not considered simply transactional. The focus is purely on the relationship and what it means for the client, not the mess of product applications.

What is the cost to the adviser? 

There is no easy way to position this. On the plus side you will spend significantly more of your time in front of clients and far less time doing paperwork beyond a diary note.

On the negative, it’s unlikely that you’ll need anywhere near as much support. Your para-planners and support staff need to get authorised and in front of clients.

Living under the Trowbridge means that you should be spending a maximum of two hours with a client to secure and implement advice. You could spend more time, but your clients need to be willing to pay for it. Beyond two hours of work you’ll exceed the threshold that market research tells us consumers are willing to pay.

Assuming that the average adviser’s small business needs to earn between $200,000 and $400,000 in new business revenue, a fee of $360 per hour needs to be charged for 5.5 hours per day, 40 weeks a year. This means seeing as many as 500 clients per year, a dramatic increase from today, offset by a dramatic decrease in paperwork.

This also means that one of two things will happen: many advisers will leave the industry or many more people will seek advice. This is why I don’t believe premium costs will decrease; all of that margin will need to go into marketing and promotions to drive people to seek advice.

For my part a new piece of technology will be released soon (see: connectionengine.com.au). I’ve thought hard about how I can help more people seek advice and turned this into something for everyone.

What else needs to change?

Insurers will need to develop unified quoting and platform integration. Advisers do not have the time to learn or use different quoting tools. It must be accessible via a platform. Insurers that go their own way will be left behind. Datafeeds and CRM-based quoting solutions and the ability to send through a client’s contact data with a click are required.

In the new world, advisers will now be much more productive. This means they need to see more clients to maintain a profitable business. These new clients cannot be sourced by the adviser alone. Insurers must invest in broad communication with the Australian consumer on the value of life insurance.

Technology providers also need to improve their offerings. Currently, CRM solutions are complex and in need of investment or disruption. The incumbents can choose to embrace the former or have the latter forced upon them.

What will this new world create?

Advice brands not product brands. Australians know ‘Westpac’, they know ‘Colonial’; we have the ‘Big 4 banks’ and the ‘Big 4 accounting firms’. We need to build the ‘Big 4 advice firms’, focused on the provision of financial advice not financial product advice.

I don’t know about you but my plan for Enva is a Big 4 advice brand. Who wants to join me in this brave new world?

Ashley Pattinson Principal, Pattinson Financial Services pattinsonfs.com.au

A Different View

With the release of the Australian Securities and Investments Commission (ASIC) report on life insurance advice our industry was gifted a unique opportunity to identify ways to adopt change – unfortunately that gift has been largely ignored.

Like so many reports before it, the Trowbridge Report does nothing to call on change from the manufacturers, or the regulator. By taking the framework of the past and projecting it forward through the same old lens, the report does nothing to identify a different way forward.

As a visionary Mr Trowbridge makes a great bookkeeper.

The insurers

For decades the insurance manufacturers have provided tools and encouraged the behaviour that led to the cannibalisation of their own market. It’s time to stop.

At its core, insurance requires a large pool of policy holders. Within that pool a portion will claim, the majority will not. This makes insurance pools sustainable. Surprisingly, the insurers have done little over the last two decades to encourage advisers to seek out and advise previously uninsured or non-advised customers. Why is this? Why is it that the most certain way for insurers to increase their long term profits (having an ever growing pool of insured lives) has been largely ignored? Because it doesn’t pay short term bonuses.

Life company management are incentivised to produce short term results. Their bonuses and remuneration packages are based on timeframes which are too short to be relevant to the insurance cycle. This has to stop.

The insurers must agree, or be regulated, to build the pool of correctly insured Australians. The pool should grow by at least 100,000 new lives each year. By growing the pool, the insurers protect both future profits and future sustainability. Default levels of cover within super funds do nothing to ensure the majority of Australians are correctly insured. On the contrary, default super actually lulls people into a false sense of security. These customers need advice, not the amount of cover $1 per week affords them.

By adopting a growth focus the insurers would then be able to focus on different remuneration models, ones that support their overall growth objectives. For example, pay a different rate of commission to advisers for finding and advising previously non-advised lives. Would there be such a focus on churn if advisers were focused on advising new lives not just recycling existing lives? Not if ‘new lives’ were rewarded at a higher rate.

The Trowbridge report also fails to identify one of the biggest issues in our industry – guarantee of upgrade. Why is it that an existing customer of an insurer cannot automatically upgrade to an insurer’s new enhanced product? Why must a customer paying a level premium on their insurances be forced to lose the benefit of having paid a level premium for all that time, and go through underwriting again, in order to avail themselves of their existing insurer’s upgraded product? Guarantee of upgrade doesn’t fit into the remuneration and bonus cycle of insurance company executives. If it did, surely it would be freely offered by all insurers.

Rather than each life insurer taking an insular view of their own pool, why don’t they take the approach to insured risks in the same way the insurers in the UK have shared the cost of acquisition of new business and effectively pooled the responsibility period? The UK model has a lot going for it, and shows far greater understanding of the need for change from the insurers themselves than the Financial Services Council (FSC) has in its submission to the Trowbridge report.

Imagine being able to transfer between insurers without having to be underwritten, where the remuneration is on the existing policy rates; that is, with no new upfront commission but complete portability between insurers. Of course, the regulator would need to take a fresh view of intercompany transfers to make this viable, but the long term gains to sustainability and profitability would be greatly enhanced. This would also cause a change to the way insurers manage their capital.

In each of these examples, the power for change lies not in the hands of advisers but in the hands of the insurers. How can it be that they aren’t being asked to contribute to change? Why are their margins being underwritten by advisers who are being asked to do more work for less pay?

Would there be such a focus on churn if advisers were focused on advising new lives not just recycling existing lives?

The regulator

ASIC has publicly stated its desire to simplify advice. Yet, in every one of their actions they cause increased complexity, forcing advisers to write more in their advice documents and not less. Rather than trying to regulate advice through the products advisers use, it’s time the regulator took a fresh approach.

The product that advisers have to sell is their advice; in other words, the strategies to achieve the clients’ desired outcomes. The insurance products used are not the advice, they are merely the tools used to achieve the outcome. Yet the regulator consistently judges the product outcomes and not the advice itself. There needs to be a separation in the eyes of the regulator between strategy and product.

ASIC must be clear about not just what it wants to see, but how that manifests itself. It is impossible for the advice industry to meet ASIC’s expectations when the goal posts keep moving.

Where the tension between ‘best interests’ and ‘best advice’ provides conflict, the regulator needs to provide clear guidance. That guidance to date has been anything but clear.

Education

Much has been said about education being the panacea for the industry’s woes. But it’s not education alone that needs to be addressed, it’s ethics. There is an existing ongoing professional development framework that can be used to introduce, and increase the focus on, ethical advice. The Trowbridge Report fails to acknowledge this.

All the noise about education will do nothing to resolve the question over the difference between advice and ethical advice. Nothing in the existing RG 146 regime defines ethics in a form that can be consistently applied to the advice process. If we want more ethical outcomes then the regulator needs to define what that is and how that can be implemented in the SoA.

Vertical integration

There are many examples of fully integrated models. We need to stop believing that advisers, working in vertically integrated practices, are truly able to be independent. It’s time their corporate ownership structures were acknowledged for what they truly are – distribution channels. We must look at advisers working for banks as agents, and not advisers. By making this distinction, aligned channels can stop trying to hide their true intentions in the guise of good advice.

This is not to say that there aren’t good advisers currently working within these channels. But if the industry is serious about regaining consumer trust, these advisers need to either join an independent licensee, set up on their own, or adopt the role of ‘agent’.

If a customer wants an AMP (for example) product, they should be able to go to an AMP agent and get what they are after. We need two channels, like we did before the Financial Services Reform Act: brokers and agents. Brokers represent the best interests of the customer, agents represent the insurer. Much easier for everyone and much more honest as well.

The way forward

There is no doubt that change is required, but the way forward is not the one outlined in the Trowbridge Report. We need a better vision of the future than that. A vision that provides for a long term sustainable and profitable industry. One where:

• Advisers and insurers are both able to sustain their businesses because they remain profitable
• Customers have mobility, choice and superior outcomes
• The burden of underinsurance is taken from the social security safety net and responsibility placed in the hands of the individuals who will benefit
• Regulation is clear, consistent and practical

It’s clear that the Life Insurance Advice Working Group (LIAWG) made a start, but it needs to be re-convened. The panel needs to work out, together, how to shape the industry for the future. This time its charter must be to provide customer centric solutions to sustainability. It needs to look at how the banks managed to share enough information to meet the requirements of the Federal Government’s Deposit Guarantee. Look at the outcomes that innovation has created in the insurance markets in UK, US and South Africa. Look at how the insurers have tackled various issues overseas and learn from those outcomes. Look at how the general insurance industry has managed to implement concepts like ‘knock for knock’.

However, there is one change that needs to be made to the LIAWG, made clear through the outcomes of its first attempt at reform. The panel is going to need to include not just representation from advice and manufacturing – it’s it’s going to need engagement from government to ensure that the changes are deep enough to be truly beneficial.

Let’s change, but let’s change for the better. It’s time we had the right conversation that leads to the right outcomes.

James McFarland Senior Insurance Adviser & Insurance Division Manager, Stanford Brown stanfordbrown.com.au

Addressing the Right Issues

Firstly, we acknowledge the work done by the LIAWG, and in particular the Association of Financial Advisers, to address the issues raised by ASIC’s report into retail life insurance advice. As an industry, we need to come to some resolution that shows concession by all parties. With this in mind, we felt it important to convey our thoughts and stance in relation to some of the key concerns…

Overview

We believe there are three critical issues that must be addressed:

1. The massive underinsurance of Australians
2. The broken economics of the life insurance industry
3. The unconscionable conduct by a minority, albeit a significant minority, of insurance advisers in ‘churning’ their clients from one product to the next, merely to receive large upfront commissions

The Trowbridge Report

There’s a lot to like here. Namely, the recommendations to establish:

1. A Code of Practice – to be led by the insurers
2. A task force to define culture – led by the licensees
3. A broad APL to include at least 7 of the 13 insurers
4. A payment to licensees representing 2% of in-force premiums
5. A 3 year transition to the new model
6. A 20% mandated maximum ongoing commission payment
7. A cap of the upfront commission at a percentage less than 100% of the total premium

Whilst we can quibble over whether the licensee payment should be 3% or 4% rather than 2%, and whether the ongoing adviser payment should be 30% rather than 20%, and whether the upfront cap should be 60% or 80%, all the above are sensible recommendations.

The only point which strikes us as deeply unfair and discriminatory is the $1,200 upfront payment and limitation of upfront commissions to just 20% of the first year premium.

Upfront commissions

Stanford Brown moved to a hybrid commission model several years ago. Our clients are fully aware of the work involved in establishing their business and they expect that we are paid for the services provided. In our Statement of Principles, which is clearly displayed in our office reception, we explain that: ‘Every business has the right to make a reasonable profit in line with the economic risk and capital employed in the business’. We are clear and transparent in the fees and commissions we charge.

We believe that a reduction of upfront fees, to represent no more than 100% of the premium (80% being the industry norm), is the most sustainable way to support our industry.

However, we vehemently oppose a 20% cap being implemented on the level of upfront commission payable as suggested by the Trowbridge Report. It is unreasonable for an adviser to be expected to run at a loss for several years to recoup onboarding costs. Yes, firms such as mobile phone companies and energy retailers have to fund customer acquisition costs, but these are huge multinationals that have the cash flow to do so. The vast majority of life insurance advisers have no cash flow to do this. Hence, the cap will disproportionately impact small advisers in favour of larger firms, such as Stanford Brown, that can subsidise customer acquisition costs by our other cash flows. This is grossly discriminatory.

Often our practice is involved in sophisticated and complex insurance issues. In no way does the Trowbridge Report appropriately recommend a commercially economic solution to this type of scenario.

let’s implement a remuneration model that supports the entire industry, not just the product providers

The upfront fees we receive also cross-subsidise our claims services, reviews and policy administration services. If upfront fees are capped, we will need to review our service offering and either limit the services provided or restrict these services to clientele who can afford to pay a direct fee for these.

Under the remuneration model proposed we would likely exit the ‘mum and dad market’ totally and focus exclusively on high end referrals. I would suggest advice quality across this industry would deteriorate dramatically and promptly if this reform proposal was implemented.

We believe that consumers are well protected through the best interests duty, in that no replacement business should be considered unless it would place the client in a better position. A change in upfront commission payments will not change this duty on advisers; if there is a concern that advisers are not working to their clients’ best interests then ASIC should take appropriate action.

Below are some of the consequences we see of limiting the upfront payment on the placement of new business:

1. Advisers are disincentivised to conduct reviews to provide existing clients the best policy or improved premium rates, because these are costly and involve time-consuming underwriting processes
2. There will be a greater divide between the less affluent clients who cannot afford to subsidise fees personally, and high net wealth clients. A capped fee is a regressive system, in that it disproportionately benefits wealthier clients with larger premiums.
3. A number of clients will want the option for the fee to be funded as part of the premium payable and not a separate cost – without this flexibility they may choose not to seek advice
4. In most instances, clients are in a better position when using commission payments as premiums can be tax deductible and in some instances they are funded from super. It is unclear if adviser fees can be treated the same way.
5. Small insurance advisers will be overly penalised because they do not have the financial means to fund the heavy upfront client acquisition costs
6. The advised part of the insurance market will diminish and be replaced by the direct channel – a terrible outcome for the consumer

Other considerations

The Trowbridge Report’s idealist attempt to eliminate all conflicts of interest is naïve and shows a lack of understanding of how business works. It is simply impossible to eliminate all conflicts of interest. The aim should be to reduce conflicts. For example, if I see surgeon about my dodgy knee, he has two choices to recommend to me – surgery or physiotherapy. He gets paid from the former but not from the latter. That is a conflict. They exist in all business.

Responsibility periods

The best way to reduce churn is through responsibility periods. We are not averse to extending responsibility periods as it is reasonable to expect our insurance providers to also be profitable, on the condition that:

1. They are calculated pro rata
2. They are calculated on a per month basis
3. The period should not be extended past three years

Insurer responsibility

We do not believe the Trowbridge Report sufficiently addressed the responsibilities of the insurer in relation to the following issues:

1. Fostering a ‘churn culture’ by encouraging advisers to transfer business from an opposing life office
2. Looking for ways to be more efficient in the placement and administration of business
3. Providing policies that are economically stable in the long term

Conclusion

The time for change is here and a solution has to be found that supports the industry as a whole: the insurer, the adviser and most of all the client. There are many aspects of the Trowbridge Report that should be supported, but I do not see how the proposed remuneration model will improve the end outcome for clients.

The FSC is preparing its response to the Trowbridge Report, and if this gains the support of its constituents (mainly the product providers), their solution may be enforced across the industry.

I strongly suggest all advisers express their views to their supported product providers and have their voices heard.

Let’s enforce the best interests duty through regulation, review and by developing a Life Insurance Code of Practice.

Let’s introduce fee for service models as an alternative for our clients, so that they can choose what model best suits them.

And lastly, let’s implement a remuneration model that supports the entire industry, not just the product providers.