Churning: Can brokers escape another “Poultney”?

The Poultney case is surely a benchmark court case. Mrs Poultney ceded a whole life reversionary bonus policy with Old Mutual to ABSA Bank Grahamstown

At the beginning of May 1997 it was mutually agreed that the policy would be sold. The bank broker sold the policy for just more than its surrender value of R463 000 to a policy trader. During the following week the policy was in turn sold twice, the second time for more than a million Rand...

Mrs Poultney’s view was that the difference between the amount she was paid originally and the final purchase price of just more than a million rand is in fact her money and subsequently issued summons against ABSA Brokers for damages due to bad advice, alleging that the bank broker failed her in his duty of care.

On 29 May 2002 Mr Justice Frank Kroon, sitting in the Grahamstown High Court, found that ABSA Brokers were indeed liable and instructed it to pay Mrs Poultney some R560 000.

The churning of policies has become a national pass-time and a great moneyspinner for many brokers. Overawed by the new product ranges, many brokers are reportedly telling clients to surrender all their existing policies and replace it with a risk only policy, further offering to invest the cash from surrendered policies in offshore and other investment products.

A year ago offshore investment was the rage when the Rand was weak, but now the Rand has strengthened; guaranteed and high risk money spinners are the new flavours of the day.

Some brokers use poor returns as a motivation for their clients to divest from their existing insurance products, such as endowments.

Yes, this might be true, but globally returns have been weak and closer inspection will reveal that the underlying investment structures of policies are merely a permutation of cash, shares, property and equity, exactly those things punted as alternatives investment vehicles whether it be a basket of shares, unit trusts or property focused investments.

Should this motivation stand one may as well not look to invest at all! It’s not a very convincing argument in favour of churning. The case in point is exactly the fall in the value of offshore investments the last few months - exactly the medium that many churning brokers used earlier when the churning craze started over a year ago.

When churning is advised
In his judgement Justice Kroon said that advisers should inform their clients of the intrinsic value, i.e. the true cash value of the policy. It is well known that brokers target cash laden whole-life policies, and the question thus offers itself: how can advisers establish the intrinsic value? And how can those funds be released.

Put somewhat differently - is the policy worth more than what is shown on the company print out, and if so how will one be able to extract the value indicated?

Perhaps of paramount importance is that the adviser applies his mind extensively at this stage before deciding whether he should extract and what are the associated implications for him and his clients that could result from such an action. Enter Poultney again?

The churning issue came under the spotlight again when Discovery Life recently announced that some 70% of its new business was from churned policies. The largest losers were Sanlam and Old Mutual, with Liberty, Momentum and Metropolitan suffering less.

Extent of policy surrenders
ZAFinance reports that the September 2002 issue of the Reserve Bank’s Quarterly Bulletin, indicated that the value pension fund and other life business policy surrenders increased to R24.4 billion in the last three months of 2001 from R16.2 billion in the third quarter and R16.0 billion in the second and 15.5 billion in the first quarters of that year.

More alarmingly, while these surrenders usually decline sharply during the first three months of the year, it did not happen in 2002 with pension fund and other life business policy surrenders to the total of R23.4 billion being paid out.

Some more Poultney cases?
It is quite clear that many brokers may soon have a “Poultney case” on their hands for not advising clients of the true cash values of the policies surrendered. It is exactly those brokers who advised clients to surrender reversionary bonus policies that will be the target of their client’s anger as the losses continue to increase.

Unfortunately, many brokers do not have access to either the skills or the toolset with which to successfully manage or protect himself or his client in such a case. Brokers must accept that the insurer in whose favour the policies were churned, will not come to his or her rescue in court.

In short, brokers must be wide-awake as ignorance is no defence as was declared in the Poultney case.

There is fortunately now a solution available that automatically takes care of the risk management function for advisers and policyholders and provides them with an in-depth divestment impact analysis report, which can successfully protect brokers from potential fallout.

The disappointing thing is that this solution had to be developed and brought to market by an independent company – when one could have been provided by the industry itself. The inability of both service and product providers to build successful risk management tools for advisers and policyholders remains a disturbing and unanswered question.

Brokers should visit and register on http://www.saipex.co.za/ and make sure all the available resources are used. This toolset has been exclusively developed to protect and empower brokers and their clients, with an improved operating environment. This will be of great assistance in complying with the requirements PPR and FAIS places upon brokers.