Anecdotal evidence suggests advisers fear protection providers are tightening up on credit risk management, with some insurers requesting additional financial information such as business accounts before paying indemnity commission.
Given that indemnity commission – which is usually a percentage of the first year’s premiums paid as a lump sum – is effectively a loan, is it fair enough for providers to take a tougher stance? And does it matter? After all, even if indemnity commission terms are declined, there is still a non-indemnity option.
How it works
Non-indemnity commission is paid monthly, while indemnity commission is paid upfront to advisers on the basis that product premiums will continue to be paid for a specified term.
“Indemnity commission is effectively an interest-free, unsecured loan to an adviser, usually notionally repaid – so that the liability is reduced – every month when a policy holder pays their premium,” says Aegon UK protection director Stephen Crosbie.
“With us, after four years, the debt is cleared. If the policy goes off the book before the four years has elapsed, we will claw back the outstanding commission. If the policy lapses after four years, there is no outstanding liability, so there’s nothing to repay.”
Crosbie says Aegon has not made any changes to its credit risk management recently but adds: “There does appear to be a change happening in the market where certain providers who have historically taken a more liberal view on granting indemnity are now insisting on personal guarantees before an indemnity agency is granted. Many of these firms are also limiting the amount of indemnity liability a firm can accrue; a little bit like an overdraft limit.”
A scan of the market to find out in what circumstances credit checks are made and what they consist of reveals this is an area few insurers are prepared to discuss in great detail.
Scottish Widows says it sometimes requests director guarantees when putting new agencies in place but the circumstances under which it would request these and the details of what it would ask for are “commercially sensitive”.
Zurich says it completes both initial and ongoing due diligence, which includes checking information such as the FCA permissions of the firm and the firm’s financial strength. As part of this process it may request information or clarification from advice firms.
Providers willing to share a bit more insight say background credit checks are conducted when advisers apply to set up a new agency. Royal London senior product development manager Jennifer Gilchrist says it does not do personal credit checks because the agency is with the company, not the individual.
“We haven’t changed our process; we’re continuing with how we’ve always done it. We sign advisers up to our terms of business, where we say we may run relevant searches and checks as we see fit. We don’t do regular checks as such; we do filters and checks that look out for unusual activity around the whole application process. We monitor what business comes in and if anything looks unusual we would investigate further – we don’t want to ignore these things but we don’t want to be over the top either,” she says.
Financial implications for advisers
Highclere Financial Services senior partner and CIExpert director Alan Lakey can understand why insurers might be more cautious. However, he points out indemnity commission is used by some advisers as a cashflow tool and that, if declined or suspended, this could have financial implications for those firms.
“The FCA would probably expect firms to be fully capitalised and not rely on indemnity commission. However, it’s not easy to be fully capitalised. You need to set aside resources for complaints and bills, especially if you employ staff. If an insurer says you can have £65 commission a month, not £3,000 upfront, that’s great over four years as you’d earn more. But as an adviser, it doesn’t solve my bill problem. Some might say ‘well that’s your problem’ but we’re dealing with the realities of life.”
Lakey says his firm was nicely capitalised until it experienced a flooding problem last year. “We’d have been overdrawn if we’d had no indemnity commission,” he says.
West Riding Personal Financial Solutions managing director Neil Liversidge is not a fan of indemnity commission. “I don’t like owing money and if I had self-employed advisers in my firm I would not want to be chasing refunds for cases that have gone off the books,” he says.
Liversidge took indemnity commission for six months from the launch of West Riding in 2004 to build up some working capital and build in a bit of a safety cushion.
“After that I went 100 per cent non-indemnity. The mathematical argument for non-indemnity was irrefutable with 20-25 per cent more commission payable over the earnings period,” he says.
“If you’re a ‘one-man band’ that’s been up and running for a few years and you’re still on indemnity, there’s something seriously wrong with your business, your priorities, or both.”