An extract from the Financial Services Board report into the virtual collapse and dismemberment of Fedsure:
"Not unexpectedly, our interviews with certain policyholders and representatives of policyholders revealed a general dismay regarding the transparency of their life policies' operation, terms and conditions. It led us to conclude that standardisation of life insurance and competing products should be addressed by the industry."
In recent weeks I have written about the need for the financial services industry, in particular the all-important life assurance industry, to clean up its act in the wake of scandals, such as the virtual collapse of life assurer Fedsure and Saambou and Regal banks.
Consequently, I was asked by a member of the life assurance industry what I felt should be done. Here is my 10-point wish-list for the life assurance industry. The list is based on the hundreds of letters we have received from dissatisfied readers in recent months, as well as my own experience.
1. Do away with the Benefit Illustration Agreement
The Benefit Illustration Agreement (BIA) is a life assurance industry fiction by which life assurers try to paint a glowing picture of how well our investments will do, creating a totally false impression. Policyholders often regard these illustrations as guarantees, and to make matters worse, people selling life assurance products often hold out BIAs as promises.
The BIA is the biggest cause of dissatisfaction among policyholders at the moment. Due to poor market conditions and under-performing asset managers, very few policyholders - particularly those with market-linked policies - are seeing anywhere near the illustrated figures. If illustrations are to be used, downside risk (the risk of not getting your money back) should also be illustrated.
BIAs also disguise the full effect of costs on investments.
2. Change charging structures
The life assurance industry should change its charging structures to emulate those of the unit trust industry, deducting charges as and when premiums are paid, instead of assessing costs for the life of the policy and virtually deducting them upfront.
Although in most cases these charges are in effect smoothed over the life of the policy, if you surrender a policy before its maturity date, all costs (and in some cases additional profit) to maturity date are deducted from any accumulated value.
3. Clean up the language and be transparent
The continued deliberate use of ambiguous, misleading and often totally incomprehensible jargon to confound policyholders should be stopped. All documents should be in simple language, and should properly explain investment risks and exclusions (what claims will not be met).
The industry should standardise the terminology it uses. At present, the same words can mean vastly different things from one life assurance company to another. And in many cases, the words do not even accord with accepted dictionary definitions.
To put it simply, the life assurance companies are not sufficiently transparent. Take the capital guaranteed smoothed/stable bonus investment products as an example. Most financial advisers - let alone policy-holders - do not understand the intricacies of these products. The industry needs to do a lot more to adequately explain guaranteed products and their risks. Another significant area of concern is the way costs are not fully and properly disclosed.
4. Train advisers and agents properly
No agent or adviser should be permitted or licensed to sell a product without being properly trained in all aspects of that product. This applies particularly to independent advisers, because the life assurance companies refuse to accept responsibility for any mis-selling by independent advisers.
On this issue, all policy documents should carry in big bold red print that the life company accepts no responsibility for mis-selling or bad advice provided by an independent adviser.
5. Stop paying upfront commissions
The practice of paying upfront commissions is probably the single biggest cause of mis-selling and bad advice. The life assurance industry pays 85 percent of commission in the first year and the balance in the second year on policies that may stretch 20 or more years into the future.
The situation is exacerbated by commissions being based on the size of the premium multiplied by the number of years of the contract, and the fact that life companies wrap risk and investment assurance into single products. These factors create a hit-and-run opportunity for crooked financial advisers. They also encourage the widespread practice of what is called churning, where you are encouraged to (unnecessarily) cancel one policy and take out another, generating another set of commissions.
The life industry is looking at a new set of proposals to stop churning. If the industry's intentions are to be taken seriously, the payment of upfront commissions is the first thing that should be banned. Commissions should be paid on the same basis as the unit trust industry - as a percentage of each premium, when it is paid.
Another practice that should be banned is that of creating financial structures that allow any future commissions/fees to be paid by giving financial advisers "loans" upfront and then having the loans repaid from future commission/fee payments. This too creates a situation in which payment is made upfront.
6. Stop providing perverse incentives
Along with upfront commissions, the life assurers' provision of perverse incentives is a significant cause of mis-selling. These incentives include luxury trips to exotic foreign locations and the practice of what is called "softing", which includes giving items such as laptop computers, paying advisers' secretaries' salaries, and giving tickets to advisers and their clients to international sports events. These add-ons are all based on volume of sales achieved.
7. Make proper efforts to halt defrauding of policyholders
Judging from the letters we receive, large-scale fraud occurs when financial advisers name themselves as the beneficiaries of policies that they sell.
Many policyholders do not understand that a beneficiary is someone to whom the proceeds of a policy will be paid out. Unscrupulous advisers take advantage of policyholders' ignorance and make themselves the beneficiaries of their clients' policies, or they leave the relevant space blank when "helping" the client fill in the form. Allowing financial advisers to be the beneficiaries of the policies that they sell not only gives them an incentive to commit fraud, but, in at least one case, it motivated an adviser to murder a client.
Furthermore, policy documents, including the policy itself, are often not sent to the policyholder but rather to the salesperson.
Financial advisers and their relatives should not be allowed to be named as beneficiaries. All policy documents, including any regular statements, should state boldly the name of the beneficiary as well as the meaning of the term "beneficiary". Policy documents should be mailed directly to policyholders.
8. Stop abusing the intent of the law
Some life assurance companies are adept at finding ways to side-step the spirit of the law. There are numerous examples, but the worst was probably the way they side-stepped regulations on commission maximums by calling additional commissions "fees". Life assurance companies should change their corporate cultures to one of complying with the intent of the law.
9. Ensure proper corporate governance
The financial services industry should accept that it is the custodian of the savings of ordinary people and should manage its affairs accordingly. The investigation by the Financial Services Board into Fedsure revealed an alarming failure of corporate governance that allowed Fedsure to abuse policyholders' money to meet the business ambitions of the company. Policyholders' money was used to make "strategic" and high investments. Fedsure is not unique in this. Most life companies have in the past been guilty - and some remain guilty - of doing the same thing.
Good corporate governance covers everything from the proper management of investors' savings, to not effectively bribing retirement fund trustees with gifts, freebies and trips abroad, to guarding against executive greed, which in one case resulted in an executive retiring with pension capital of almost R90 million.
10. Give full and proper powers to the Ombudsman
The ombudsman for long-term insurance (and all other voluntarily ombudsmen) must be allowed to investigate all complaints, and his/her decisions must be made binding on the financial institution concerned. Although the powers of the voluntary financial services ombudsmen have improved dramatically in recent years, there are still too many restrictions on them. For example, the ombudsman for long-term insurance (life assurance) is not allowed to deal with complaints about investment performance. If this were not the case, Fedsure's abuse of policyholder money may have been avoided.