Risk management: Brief insurance guide for Romanian managers – how your broker gets paid
Guest writer Gabriel Popescu covers the selection of the right insurance broker and how brokers earn their commissions, explaining how things work in Romania.
After having discussed in a previous article the general precautions wise managers should be aware of in the process of buying and maintaining insurance – the next step is selecting the insurance broker.
This is the natural step for a manager already endowed with adequate knowledge about how our insurance market works and the status of the insurance brokers on this market. Unfortunately, many managers that have neither the knowledge nor subordinates skilled in insurance rush to select their insurance broker based on beliefs and assumptions that do not always match the harsh reality, often working against their own interests.
A crucial aspect of successfully employing and using an insurance broker that should be clearly understood by managers striving for well balanced cost-benefit insurance is the way the broker gets paid for services. Controlling this aspect can make policy holders masters of their own insurance; ignoring it turns them into cash cows for brokers.
Let’s examine further this critical aspect of insurance brokers’ remuneration by firstly going back in time a bit. In September 2007, the EU Commission released the Business Insurance Sector Inquiry, in which it highlighted the potential for conflicts of interest as a result of the role and remuneration of the insurance brokers. The report showed that the remuneration based on commission included in the insurance premium causes conflicts between the interests of the brokers and the impartial nature of the advice provided to their clients. The report also stated that the practice of the insurance companies to compete based on the level of the remuneration paid to the insurance brokers does not promote fair competition.
This conflict of interests specific to brokers paid on commission included in the insurance premium also contributes to the ambiguity of the broker’s role. The broker can be either in situations in which it acts for the insured (e.g. obtaining insurance offers, explaining insurance terms, concluding insurance policies) or in situations in which it works for the insurer from which it receives payment (e.g. acting as a distribution channel for the insurer, collecting premiums). Furthermore, the role of the broker could be affected by uncertainty in case of strong collision between the interests of the insurer and the insured, as it is sometimes the case in large and unclear losses.
A revised draft of the Insurance Mediation Directive (IMD) released by the European Commission in 2012 has confirmed the brokers’ worst fears regarding the commission disclosure, which is intended to be made mandatory in EU starting with 2017. To easily understand their concern, just imagine that you are a broker with a client that pays hundreds of thousands or millions of euros as an insurance premium, your broking commission is 15-20 percent of the premium, you effectively work some tens of hours for that client each year, and you are not quite sure about your ability to justify considerable hourly rates.
The current practice in EU regarding the insurance broking commission is quite different. Some markets (e.g. Sweden, Norway and the UK) already require mandatory disclosure for some insurance policies. Other countries such as Finland and Denmark have legally prohibited intermediaries from receiving commissions from insurance companies, thus going much further than introducing simple transparency requirements. There might not be a simple coincidence that these countries are also among those with the lowest levels of corruption world-wide.
In Romania, the Insurance Supervisory Commission (ISC) – the Romanian regulatory authority for the insurance market – has made an attempt to limit the level of the brokerage commission related to the compulsory motor liability insurance, a coverage where the insurance brokers cannot add much value for the insured, as the insurance conditions are established by law. After years when the broking commission for this mandatory insurance amounted in Romania at an astonishing level of 40-50% of the insurance premium, in 2008 the ISC set its maximum level at 15 %, a rule that was withdrawn in 2011. According to current information, the broking commission for this type of mandatory insurance designed to respond to a social need has increased again, currently reaching an average level of around 20 percent of the insurance premium – a good starter for a discussion about corporate social responsibility on the insurance market.
However, the good news is that some brokers operating on the Romanian insurance market have already included remuneration transparency in their competitive edge, at least towards some their customers, thus either trying to gain new clients or keep existing clients from moving away to competitors. Nevertheless, there are no mandatory disclosure requirements on the local insurance market and there is no insurance broker in Romania working entirely on fees paid by the insured, at least not yet.
From what has been exposed above, in may be concluded that the Romanian insurance market might not be exactly the ideal friendly environment for the manager looking to get good insurance against fair price. Nevertheless, decisions regarding insurance have to be made. Here are some thoughts about what you can do to try to ensure a fair and transparent remuneration of the insurance broker when planning to employ an insurance provider or make adjustments if you already use one.
Have always in mind the inherent conflict of interest surrounding the brokers remunerated by insurance commission.
From an insured person's perspective, it is an irrefutable reality that an insurance broker remunerated by insurance commission is paid by the insurer, which is the other party of the insurance contract. That party is a partner when you conclude the contract, but may also become an opponent in case it delays or refuses to indemnify a loss occurrence.
Look for evidence of openness and honesty in the behavior of your broker.
You have the right to know how much revenue your broker makes from representing you on the insurance market. You are equally entitled to align its revenue (part of the insurance premium you pay) with the services you effectively receive, as you probably do with any other service provider.
For instance, you can ask your broker to provide evidence regarding the level of its remuneration in the insurance policy. If the broker denies your request for openness or tries to avoid the disclosure of its revenue whatever the reason (e.g. unwillingness of the insurers, confidentiality of the commission contract), you may be sure that as in Hamlet's Denmark, something is rotten.
Try to understand the cost structure of your insurance.
First, look behind the insurance price communicated by your broker. You may have heard stories about insurers that do not pay losses well, delay payments, and so on. You might have not previously known that, as a rule of thumb, the insurers with poor loss payment behavior are often among those that offer the highest commissions to the insurance intermediaries also. From the insured person’s point of view, the underlying mathematics is fairly simple: the cheaper the insurance and the higher the brokerage commission, the less money left to the insurance company to pay losses, and vice-versa.
Secondly, you may not want to tolerate different levels of insurance commission received by your broker from different insurers, for the same insurance line. Most probably, you may expect the same service from your broker, irrespective of who your insurer will be. A leveling of the remuneration of your broker when you order a market survey for an insurance line may increase the objectivity of the broker.
A little preparation for the next session
We have seen in the previous article and in this one the general precautions when contracting insurance and the importance of carefully understanding remuneration aspects of the value chain underlying the business of insurance mediation based on commission included in the insurance premium.
You are now armed with the necessary basic knowledge to perform a reliable and cost-conscious process of selecting an insurance broker. We will see how next time, check back on Romania-Insider.com for more in this series on insurance.
By Gabriel Popescu, Guest Writer
Gabriel Popescu is AMBCI (Associate Member of the Business Continuity Institute), management consultant and founder of Esentum Business Management SRL, a consulting firm dedicated to promoting the art and science of Risk Management and Business Continuity Management, based in Bucharest. Before starting his own consulting business, Gabriel worked for more than 20 years in industry (technological equipment and aircraft) and financial services (banking and insurance brokerage).
(photo source: sxc.hu)