FMA releases findings on QFE replacement insurance practices

Following the recent focus of the Financial Markets Authority (FMA) on conflicted conduct in replacement life insurance business undertaken by Authorised Financial Advisers and Registered Financial Advisers, the FMA has released a report on its review of QFE insurance providers’ processes for replacement insurance business practices in the life insurance industry.

A link to the report is available here.

Who needs to read it?

The report is relevant to participants in the life insurance industry, their advisors and to the wider insurance and financial advice sectors.

The report will also be of interest to QFEs more generally, as it indicates the FMA’s increased focus on conduct and good customer outcomes, consistent with the impending regulatory changes to be introduced by the Financial Services Legislation Amendment Bill (FSLAB).  The report also indicates the FMA’s willingness to take regulatory action if required.

Scope of the review

The report finds that conflicts of interest are inherent in QFEs that manufacture, distribute and advise on, their own products. The report also finds that, in the majority of cases, the processes used by the QFEs to manage replacement business are not adequate to protect the customer at the point of policy replacement.

The FMA is concerned about life insurance replacement business because of the potential for customers to be sold a policy with less favourable terms than their existing policy, affecting their ability to claim at a later date, or to be over-insured or under-insured. The FMA notes that consumers will not know that they have been mis-sold a policy until it is too late.

The review therefore considered how 11 QFE insurance providers’ replacement business practices were designed to ensure consumer protection (which is one of the standard conditions of QFE status).  In particular, the review considered four themes:

  • how QFEs define replacement business;
  • how QFEs identify and monitor replacement business;
  • what controls QFEs use; and
  • what actions QFEs take to remediate issues identified.

The FMA noted a wide range of approaches to life insurance replacement business and, although a few QFEs were currently addressing these issues appropriately, the majority had work to do in several areas.

Following the FMA’s review, it has made the following recommendations:

  • Definition of “replacement business”: The FMA found there is no consistent definition of “replacement business” used by the industry. The term may be used to refer to replacing a policy from a different provider or as a purely internal process relating to a provider’s own products.  The FMA recommends that QFE insurers consider whether their definition of “replacement business” provides adequate protection for consumers with an acknowledgement that this is a high-risk transaction for customers. Ultimately, the FMA expects to see a more consistent approach to measuring and managing the risks of replacement business.
  • Particular risks to consumers: The FMA recommends that QFE insurers ensure they have considered the particular risks to consumers posed by replacement business, in particular that processes are designed to ensure that consumers understand the risks and benefits of replacing insurance.
  • Effective internal processes: Most QFEs have no independent process to distinguish between new and replacement business, relying solely on advisers to identify replacement business.  The FMA recommends that QFE insurers have effective internal processes to identify and track conduct associated with replacement business transactions.  QFE insurers must also have processes in place which provide adequate protection to retail clients.
  • Replacement business forms: There is evidence that the replacement business forms for customers are used as a risk management tool for insurers, rather than to support customers in their decision-making.  The FMA considers that, if replacement business forms are to used, they should be designed to ensure good customer outcomes, and they should also be used in a consistent manner across the industry.

Our view

The FMA points out in the report that its continuing work[1] in the life insurance sector is aligned with its Strategic Risk Outlook 2017 and its priorities to focus on the risks and harms associated with conflicted conduct across all financial services. They also highlight that they are addressing recommendations made by the IMF that the FMA should focus more on insurance conduct. Accordingly, we think the sector should anticipate a continuing spotlight and potentially regulatory action in this sector.

The findings from the review indicate that the FMA has high expectations of QFE life insurers to ensure good customer outcomes, in particular where entities (or associated entities) both manufacture, and also distribute and advise on, the same product.  This highlights the inherent tension in vertically integrated businesses.  The FMA considers this is especially so in the case of replacement insurance business.

Arguably, the FMA’s expectations go beyond the strict letter of the current legislation, but reflect an underlying desire to see QFEs give priority to the customers’ interests in a manner that is a specific feature of the FSLAB reforms. Our view is QFEs should prepare for the future by reviewing their processes now to ensure they will meet that standard.

While the focus of the report is on the insurance sector, we anticipate that the FMA would see the same standards as being applicable to QFEs operating in other areas.

What next?

If you have any questions in relation to the review or require advice in relation to replacement insurance practices, please contact one of our experts.

[1] The report is the latest in a series by FMA reports in relation to life insurance see for example their publications: Replacing life insurance – who benefits?, Raising the standards of life insurance advisers and Conflicted Remuneration (soft commissions) in Life and Health Insurance.

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