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Life systems

Now we have all had a couple of weeks to consider the content of the FSA discussion paper on the retail distribution review it must be time to think about what sort of systems might be needed to support the changes under discussion.

In devising their responses to RDR businesses, advisers will, I am sure, want to include the potential costs of any system changes necessary as a result of the proposal in order to assist the FSA in constructing the cost-benefit analysis it is obliged to produce when it finally publishes the new rules. There are many instances where the RDR could drive changes to advisers’ and providers’ systems. I am sure this will be a recurring theme in this column in the months ahead.

No commentary on RDR would be complete without addressing the issue of adviser remuneration, so here are a few of my thoughts on the subject.

It might just be in keeping with the current “leak the worst case up front then everyone will be relieved by what we are actually proposing” style of spin which seems so popular with government these days but to me what has been proposed for customer-agreed remuneration does not seem so vastly different from existing working practices. Indeed, something that might be defined as an agreed deduction from the amount of money being invested by the client – possibly as a percentage of premiums – and that might be factored by insurance companies so the adviser could be paid up front, sounds remarkably similar to the old Lautro commission scale-type charges.

It is certainly close to the structure that an increasing number of companies, such as Winterthur, Scottish Life and Skandia, have been offering as an advice fee for some time now.

This will probably only require relatively minor system adjustments in order to show separately on illustrations the effect of such deductions on the policy proceeds at maturity.

If changes to disclose the cost of advice will be relatively minor, providers costing the impact of RDR may also want to factor in another change that may be far more dramatic. The actual amount of systems work for this may also be minor but the impact on insurers will, I believe, be far more substantial.

If it is agreed that it is reasonable to outline to the client the impact of paying for advice as a deduction from the proceeds of their investment, it is almost inevitable that the next conclusion is that the cost of provider charges should be examined in the same way.

Such a form of disclosure is likely to result in some difficult questions for insurers.

You can already get a clear indication of what CAR disclosure might look like by running some cases through the O&M Pensions profiler software (see pensionsprofiler/index.asp). This enables advisers to compare the true effect of charges of products for money-purchase pension products from a full range of insurers on any given client.

By entering client inform-ation, the software will generate details of the client’s projected funds at retirement for each given insurer on a like-for-like basis, using standard industry assumptions except for charges which are calculated on the insurer’s actual deductions.

The service already has the ability to accommodate deducting the cost of CAR-type remuneration from the product and the answers make fascinating reading.

Working on a client investing £200 per month over a 40-year term, and allowing for an adviser CAR deduction of £480 at commencement, it projected a net fund for the client of £424,423. In creating this comparison I selected an insurer that already offers this type of deduction and has product charges at the lower scale.

For a comparison, I looked at the same case on a nil-cost basis. This generated a fund of £430,175, showing a long-term cost of paying for the advice out of the contributions as £5,752, a significant amount but one dwarfed by looking at the effect of all the life office charges.

If you use the system to identify how much the fund would be without any life office deductions it increases to £500,115. Therefore the life office is taking no less than £69,940 – which is just over 14 per cent – of the end proceeds of the contract.

I have deliberately not said which life company’s figures I am quoting, as I do not want to be distracted by arguments on the merits of the charging structures of different companies.

However, it is relevant to reiterate that this was a company with relatively low charges. The company with the highest level of charges left an end fund of only £348,963, meaning the insurer is taking just over 30 per cent of the end proceeds.

Even if in the short term, it is possible to argue that this form of disclosure is out of scope as the current review is one of distribution, not manufacture, once the concept of demonstrating the effect of one party’s charges on the proceeds of a contract is accepted, extending that to all parties must be a natural conclusion.

In its enthusiasm to undermine independent advisers, the ABI has opened the door to a discussion on disclosure that I expect most of their members will be far from keen to engage in.

This is frankly just a further example of its lack of industry experience. In contrast, I imagine there are many in the consumer lobby who will be delighted by the prospect of deduction of all charges in cash terms.

Even after the publication of the RDR papers, it would appear there is a dissenting element within the ABI that is pressing for pure fee-only advice with no ability to offset. I cannot help but ask is the tail wagging the dog here?

And how long do we have to wait for the insurers and their trade body, the Association of British Insurers, to show the culprits the door?

Given that the association has recently acquired staff with vast industry experience in Margaret Craig and Nick Kerwin, is it not time to cut out the dead wood from the ABI management that has a conspicuous record of undermining insurers’ interests?

I was delighted to hear that the FSA will be carrying out specific research to identify if the policy transfers are, in practice, churns where the interest of the adviser is being suited rather than the consumer. I have little doubt that the vast majority of such activity is in reality an arbitrage where advisers are correctly identifying opportunities for clients to achieve more advantageous terms.

I would certainly urge them to make a visit to O&M, which has a client list full of advisers who use technology to identify such opportunities and early port of call during their investigations.

If we are going to have a debate on provider disclosure, which given the ABI’s activity now looks inevitable, could we please make sure we address demonstrating the benefits to consumers, as well as costs.


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