Space for low income intermediation

The new Treasury discussion paper on microinsurance seeks to balance the need for consumer protection with financial inclusion and reduce the cost impact of regulation on the market. This includes proposed changes to the manner in which market conduct and intermediaries are regulated in the low-income market.

Microinsurance refers to any insurance product that is targeted at or accessible to low-income households. If appropriately designed and intermediated such products can play an important role in reducing vulnerability of such households. It could also present opportunities for profit.

South Africa has seen the development of a significant voluntary market for insurance, though much of it is informal. In the FinScope 2007 survey 16% of adults in LSM 1-5 reported to have some form of formal funeral cover. This increases to 40% if membership of burials societies is included.

Challenges

FinMark research over the last six years have found that intermediation is a key challenge in extending insurance to low-income households and that regulation have not made it easier. Affordability and collecting premiums are also challenges and low premiums render traditional intermediary models too expensive. Low levels of knowledge, awareness and basic financial literacy pose problems too. Consumers are unable to make informed purchasing decisions or lodge claims.

While the FAIS Act may not require advice on all transactions, the rulings of the Ombud suggest that the requirement for advice should be determined by the need of the client. Non-advice models are, therefore, facing the risk that they will be found to in contravention of the FAIS Act as interpreted by the Ombud. Insurers and intermediaries may, therefore, be justified in taking a conservative view on what the FAIS Act requires in practice.

Actuaries research for FinMark Trust in 2004 estimated that reducing churn by 25% for life policies could reduce premiums by 18%. Ensuring informed purchases, therefore, is not only in the client interest, but also in the interest of the business model.

The current situation

*Regulation increased the cost of providing advice and bifurcated the market into low-income tick-box and high-income advice-based sales. The tick-box models are not guaranteed a regulatory space given the rulings of the Ombud and may not be in the interest of the client or the insurer if not combined with appropriate disclosure.

*Only tick-box for the poor. In the low-income models, insurers are not able to ensure that communications by their staff does not extend to advice and, therefore, discourage any verbal disclosure outside of what is contained in the policy document. As result, the middle ground of verbal disclosure (but non-advice) models do not exist in practice.

*Innovative models, but limited success. Innovative low-cost models have emerged, for example, utilising retailer and cell phone networks. These are mostly passive sales models (no active selling of the product to reduce cost and avoid the regulatory issues noted above) and have achieved little penetration beyond funeral insurance. We have, in fact, seen the withdrawal of some of the passive models from selling products other than funeral insurance.

*The need for market making. FinScope 2007 data suggests that there has been little if any growth in low-income formal insurance provision, particularly outside of funeral insurance. Given the low knowledge and awareness of non-funeral insurance products, this may reflect the inability of passive, tick-box models to be the market maker for new microinsurance products.

Impact of the discussion paper

The discussion paper contains bold suggestions that are proposed to go hand-in-hand with careful monitoring of all insurance business offered in the proposed microinsurance space. The paper also outlines initiatives on consumer education and emphasises the need to improve enforcement of regulation, which will contribute to the appropriate development of low-income insurance markets.

Advice is not required but desirable

Instead of insisting on advice as defined under FAIS, the paper emphasizes disclosure, product simplification and improved recourse as means of ensuring informed decisions. This aims to reduce the per transaction cost of current market conduct regulation which weighs heavily on low-income intermediary models.

Uncapping commissions

Advice-based and active sales models are encouraged by the suggestion to remove commission caps on microinsurance. Commission levels need to be considered in context. Ultimately cheap insurance is not necessarily in the best interest of the client. Paying R40 for a product that is sold with meaningful disclosure, where the client makes an informed decision and knows how to claim is ultimately better than paying R30 for a model, where the client has little understanding of the product and will never be able to lodge a successful claim. However, some reservations have to be raised about commissions paid under compulsory sales models given the evidence of abuse emerging from the recent SAIA/ILO credit life review.

The paper proposes as-and-when commissions to remove the incentive for churn. This may complicate the business model for the low-income agents who have to build up their portfolio over a period of time. Careful thought may have to be given to striking a balance between up-front and on-going commissions.

Easing entry requirements

The discussion paper recognises that current education requirements may be too onerous for low-income intermediaries. It is estimated that almost half of Category A intermediaries have not been able to meet the requisite education level. At the same time these requirements are difficult to enforce. The suggestion to move to a training requirement may, therefore, be more meaningful. It is easier to enforce and better targeted at ensuring the relevant skills that agents need to do their job. Training is also part of the normal business process of recruiting agents and should not add unnecessary costs.

Extending Category A

Currently Category A intermediaries are limited to funeral insurance. The Discussion paper proposes that they should be allowed to sell a wider portfolio (but specifically defined) of simplified low-income products, which will include both life and non-life products. This will support the viability of low-income intermediaries by allowing them to sell a wider variety of products. It also creates relief for other categories of insurance (beyond funeral insurance) who, until now, have faced significant challenges in developing the low-cost (but not tick-box) intermediary models required to sell their product.
If successfully implemented, the combination of these changes will improve the quality of intermediation in the low-income market, reduce the cost of intermediation and create the space for innovative models to explore this market.