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LOA welcomes new Regulations on Commission and Early Termination Values

10 September 2008 The Life Offices? Association (LOA)

The Life Offices’ Association (LOA) welcomes Friday’s gazetting of the new Regulations on Commission and Early Termination Values, which form part of the Long-term Insurance Act.

Gerhard Joubert (pictured), CEO of the LOA, says the new regulations will go a far in achieving a fair balance between upfront and as-and-when commission.

“We believe that the new commission model is fair to the intermediary while at the same time ensuring the sustainability of the life industry, and above all, ensuring that policyholders receive a fair deal.”

Joubert says the life insurance industry realised a number of years ago that the contractual savings environment had changed to one marked by increased job mobility, uncertainty of income and shorter-term investment time horizons. As a result early termination values started to matter more than ever before and the life industry was expected to come up with ways of improving these.

He says the LOA’s first attempt at finding a solution was the LOA Discussion Paper on Cost and Commission, released in June 2005. The paper set out proposals on how to ensure a balanced relationship between upfront costs and early termination values.

“This paper represented a watershed moment for the life industry as it indicated that product providers acknowledged that change was required. It stirred up extensive and often very heated debate and served as a basis for very constructive engagements with intermediary bodies, Government and other stakeholders.”

Joubert explains that the two sets of new regulations go hand in hand, as the biggest factors impacting on early termination values are upfront charges, which consist mainly of upfront commission and the up-front acquisition cost of insurers (including distribution, marketing, underwriting and issuing costs).

“The only way of reducing upfront charges was to change the upfront commission structure and for insurers to reduce the level of up-front acquisition costs.”

Regarding the regulations’ implementation date of 1 January next year, Joubert says while life companies will be working towards an incredibly tight deadline, he is confident that companies will deliver.

Overview of new Commission Regulations

Joubert explains that the new commission regulations only apply to savings policies like endowments and retirement annuities (RA) fund policies. For risk policies like life and disability policies, the current commission structure will continue to apply.

In terms of the new regulations, only half of the commission due to the intermediary will be paid upfront, while the other half will be paid over the term of the policy to encourage ongoing service. Currently all commission is paid to intermediaries at the beginning of the first and second policy years.

In terms of the new regulations, intermediaries will receive maximum commission of 5% on endowment and retirement annuity (RA) fund policy premiums, split into a 2.5% upfront component and a 2.5% ongoing service commission, payable monthly.

The upfront commission portion will be discounted at 6% per annum.

Example:

The table below illustrates the maximum allowable commission payable for a R500 a month retirement annuity (RA) fund policy with a 15 year term under the current legislation compared to the new framework that takes effect from 1 January 2009:

Year

Commission under current legislation

New Proposal

Total

Upfront

Ongoing

Total

1

R2 700 (paid upfront in the 1st year)

R1 504 (paid upfront in the 1st year)

R150 spread over 12 months

R1 654

2

R 900 (paid upfront in the 2nd year)

-

R150 spread over 12 months

R150

3 to 15

-

-

R150 payable every year, spread over 12 months

R1950

Regulations on Early Termination Values

Joubert says the regulations on Early Termination Values provide for a maximum reduction in fund values of 15% for both endowment policies that are made paid-up or surrendered and retirement annuity (RA) fund policies that are made paid-up or transferred to another fund.

In terms of the new regulations this percentage must be reduced with every year that the policy is in force until no early termination charge applies. The regulations state that in the case of policies with a term of five to 10 years, fund values may not be reduced once a policy has been in force for five years. Where a policy term is longer than 10 years, the fund values may only be reduced if an early termination takes place within the first 10 years.

The same maximum termination charge rules apply to term reductions. In the case of premium reductions, a proportion of the early termination charge may be applied (for example, if a policy's premium is reduced by a third, the maximum charge is a third of what would have been applied to a paid-up).

In addition to the termination charge, insurers may levy an administration charge of not more than R300.

This means that as from 1 January next year, policyholders will always receive at least 85% of their policy fund value on early termination or if other contractual changes are made, less the R300 administration charge. Currently, RA fund policies and endowments that are made paid-up (premiums are stopped) or where the premiums or term of the policy are reduced receive at least 70% of the fund value. An RA fund member who decides to retire early receives at least 70% of the fund value. Endowments that are surrendered receive at least 60% of the fund value.

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