Implementation of the Consumer Duty for Insurance Intermediaries

The introduction of the Consumer Duty is the biggest regulatory shift in financial services in recent years, with a very tight timescale for implementation set out in the Financial Conduct Authority's (FCA) policy statement of 28 July 2022 (PS 22/9).

We have scrutinised each of the FCA's consultations leading up to its final rules and engaged with clients on the key issues, advising them on their implementation plans and how to put plans in place. Drawing on this experience, we have set out in this article guidance on implementing the Consumer Duty for insurance intermediaries and brokers. Firms should note that the FCA has been clear that there is no 'one size fits all' approach and that implementation plans should be tailored to each firm. Therefore, we recommend firms receive advice on their specific implementation plans and needs.As a reminder, firms currently have a deadline of 31 October 2022 to agree their implementation plans.

What is the Consumer Duty

Understanding the structure of the Consumer Duty is crucial to then being able to implement it properly. The Consumer Duty has the following structure:

The principle

The Consumer Duty amends the FCA's existing Principles for Business (PRIN) introducing a new Principle 12, the Consumer Principle, which is intended to set higher standards for firms than the existing Principles. This is shown at the top of the triangle. In particular, when Principle 12 applies, the existing Principle 6 (treating customers fairly) and Principle 7 (clear, fair and not misleading communications) are disapplied. Principle 12 is outcome-focused - so your implementation plan should be as well. The new Consumer Duty requires a more proactive approach.The FCA has provided some comfort that the Consumer Duty is not a duty of care, is not a fiduciary duty, and does not require firms to provide advice where they would not otherwise do so.

The cross-cutting rules

Underpinning the new principle are three cross-cutting rules.

• Acting in good faith

The FCA has provided examples where a firm would not be acting in good faith. Insurance brokers and intermediaries will particularly want to consider:

• • Taking into account retail customers' interests and ensuring the product (i.e. a policy of insurance) is suitable for the target customer. This would include ensuring that a policy provides the level of cover which the policyholder requires and does not exclude types of claims for which they are intending to insure against.
  • Not exploiting retail customers' behavioural biases. In an insurance context, this could include not seeking to rely on or exploiting a customer's inherent bias towards allowing their policy to automatically renew annually without reviewing the details of any revised terms and endorsements, as well as any changes to their excesses or premiums, or of any changes in commissions or fees deducted from the premium by any intermediaries.

• • Not taking advantage of a retail customer or their circumstances, such as a policyholder in financial difficulty and/or one who is also likely to be deemed a vulnerable customer.

• • Not carrying out the same activity to a higher standard or more quickly when it benefits the firm than when it benefits the retail customer. For example, by offering one customer - whose policy may bring in higher commissions or fees for the broker - a more detailed or thorough discussion about any renewal terms or other insurance options compared to another customer whose policy brings in a lower fee.
• Avoid causing foreseeable harm

This cross-cutting rule was amended from “avoiding foreseeable harm” to “avoid causing foreseeable harm” to underline that firms are not required prevent harm where a properly informed retail customer has made the decision to proceed.

A firm must avoid causing foreseeable harm to retail customers, whether by act or omission, and whether in a firm's direct relationship with the retail customer or through its role in the distribution chain even where another firm in that chain also contributes to the harm.

In the context of an insurance intermediary, acts which may cause foreseeable harm may include situations such as not suitably discussing with a customer any amendments to cover upon renewal, or failing to explain the implications of any requirements in a policy which may otherwise affect or deny cover in the event of a claim. Another instance may include a broker not suitably explaining to a customer the claims process and how this is expected to work, meaning that a customer may face financial harm by not following the correct processes. For example, in the event of a claim following damage to their home, a customer may initially proceed to pay for repair works themselves and then seek to subsequently claim on their policy to recoup the costs. The policy, however, may have a requirement for all works to be approved by the insurer before being carried out, and specify that any repairs which are carried out in advance will not be covered by the policy. This therefore leaves the customer at risk of possible financial harm. As brokers and intermediaries are typically familiar with the claims processes, it is incumbent on them to ensure customers are made aware of such    matters at the point the policy is sold, as well as during the course of the lifespan of the policy.

Whether harm is foreseeable will depend on whether a prudent firm acting reasonably would be able to predict or expect the ultimately harmful result of the firm's act or omission. The Consumer Duty is “underpinned by the concept of reasonableness” so firms are only responsible for addressing the risk of harm that is reasonably foreseeable at the time. Where harm was not foreseeable at the outset of an arrangement but becomes apparent later, firms must take steps to take appropriate action at that stage to mitigate the risk of harm, whether actual or foreseeable.

• Enable and support retail customers to achieve their financial objectives

The implementation of this cross-cutting rule will depend on the nature of the policy and insurance being offered, as well as the target customer base identified by the firm. A common objective of customers in purchasing insurance is to provide protection in the event of a claim arising and to reduce the financial risk to themselves. In motor insurance, for example, this would mean having   cover to pay the costs of repair to a vehicle following a collision, and thus saving the customer from having to pay this directly. Brokers and intermediaries should, therefore, ensure that they are considering such objectives when approaching the insurance market on behalf of a customer.

The four outcomes

The Consumer Duty is described as an outcomes-based approach to regulation. The four outcomes should therefore be central to firms' practices at every stage. We have set out further analysis on the impact of these outcomes for brokers and intermediaries below.

Implementation timeline

Firms should focus on the implementation timeline to ensure implementation is feasible within the regulatory timescales.

Implementation for Insurance Intermediaries

The Consumer Duty extends not only to firms which develop and underwrite insurance products and policies, but to “all firms in the distribution chain that can influence material aspects of the design, target market or performance of a retail financial services product or service, even where they did not have a direct relationship with the retail customer.”The Duty will, therefore, also extend to insurance intermediaries in equal measure to how it applies to insurers.For intermediaries, when assessing the Duty and preparing their implementation plans, they should focus on the four outcomes identified above:

• Products and services

Given their role in obtaining and selling policies to customers, brokers and other intermediaries will need to work closely with insurers and other parties in the distribution chain to obtain information about the customers they already distribute to and obtain other relevant information that assists firms with identifying their target customers and their characteristics. Firms should also map the customer journey from start to finish, i.e. from the initial discussions with underwriters, through to the sale of the policy and the subsequent lifespan of the policy itself, taking into account any claims which may arise, along with any mid-term adjustments to the policy itself. Firms should also be thinking about what outcomes there could be for customers and when these may occur during the customer journey. When mapping the customer journey, firms should identify all other parties in its distribution chain, so that all of the parties likely to fall within the remit of the Consumer Duty are known.

• Price and value

The FCA has stated that this outcome is “about more than just price, and we want firms to assess their products and services in the round to ensure there is a reasonable relationship between the price paid for a product or service and the overall benefit a consumer receives from it.”

Owing to the nature of their role and relationships with insurers, in particular where customers may be grouped together under a “block” or “scheme” policy arrangement with a specific insurer, brokers and intermediaries are often in a powerful position with regards to being able to help negotiate and agree the costs of policies. Firms will therefore need to closely consider their obligations under this section of the Duty and ensure that they are monitoring the relationship between the prices customers are paying for their policies, as well as the costs of any claims services, and the overall benefit being received.

Brokers will need to consider the cost of insurance premiums for the policies they sell and whether these reflect fair value for customers. The terms of a policy itself may be of particular assistance in determining this point. A policy which has a high premium but also contains numerous exclusions or endorsements, as well as any prescriptive terms about requirements that must be met in order for a claim to be covered, may prove to be of less value to a customer than a similarly priced policy which contains fewer exclusions or limitations on cover.

Firms will also need to carefully consider their commission and fee structures, since any arrangements which result in a deduction from the premium will need to be carefully analysed to ensure that the overall price of the policy remains fair and represents value for customers.

Linked to this, firms will also need to consider the question of policy excesses, as these may factor into a customer's assessment of the overall price of the policy, since the excess will fall payable by them in the event of a claim. A policy with a high annual premium along with a high excess for each individual claim may prove to be of lesser value to a customer than a policy with a high premium but lower excess (or conversely, a policy with a high excess but comparatively lower annual premium).

• Consumer understanding

As the direct point of contact between customers and insurers, intermediaries are again in a powerful position with regards to facilitating their customers' understanding of policies.

Firms will need to consider their existing processes with regards to communicating with customers and the level of discussions which take place. Firms will need to give particular thought as to the ability of customers to fully understand the nature of the policies they are purchasing and what cover their policy provides, along with details of any exclusions or endorsements which may limit or remove cover.

Such information should be made clear to customers before the purchase of any policy, but should also be made available during the lifespan of the policy as well as during the course of any renewal discussions. Any proposed changes to cover at the point of renewal should be particularly made clear so as to ensure that customers are aware of any changes to their policy and scope of cover from one year to the next.

Additionally, by virtue of their role as agents of a customer, it will be incumbent on intermediaries to ensure that they are communicating with insurers effectively and that any discussions they conduct suitably reflects what the customer understands and expects from their policy, and that sufficient information and clarification is obtained from insurers to enable the intermediary to effectively communicate this back to customers in a way that they can suitably understand.

• Consumer support

Firms should identify all channels of communication and support that customers might access and consider how each of these channels will meet the new standards. For instance, it may be proportionate for some intermediaries, e.g. those who operate largely online, to offer only online and telephone support to consumers. However, if the sales process does or can take place face-to-face, then it may be inappropriate to exclude face-to-face communication as an option for future communications.

Presently, many brokers issue renewal invitations to policyholders via electronic means but also via physical mail. In such cases, it may be appropriate for firms to enable customers to correspond with them via mail or telephone as well as via electronic means, so as to ensure a consistent level of communication and support.

Firms should also identify any 'friction points' that could benefit the firm to the detriment of the customers. This may include circumstances such as long telephone hold times, or the length of time between the scheduled expiration of a policy and the point when a broker contacts the policyholder to begin renewal discussions, with a view to ensuring a smooth transition between coverage periods without any break in cover.

Claims processes should also be carefully scrutinised, such as the length of time taken to acknowledge claim notifications, along with the timescales for subsequently reporting claims onwards to the end insurers and any subsequent service standards.

Firms should particularly consider vulnerable customers, including those in financial difficulty, during the course of any sale and/or renewal discussions so as to support and assist the customer in making good decisions in respect of their policies (e.g. when they are assessing the affordability of the proposed premiums or of any proposed policy excesses) without facing undue pressure.

The scope of Consumer Duty for insurance intermediaries

The Duty is wide-reaching and will apply to firms across the whole financial services industry. Firms operating within the insurance market will be particularly affected by the new rules and will need to consider how these changes will impact their business practices going forwards, both in terms of how policies and supporting literature are presented to customers, as well as how the customer is supported during the lifespan of the policy.At this point, it is important to remember that the Duty only applies to 'retail customers'. For the purposes of the insurance industry, the supporting guidance document issued by the FCA clarifies the scope as follows:“For insurance, the scope follows the position in the Insurance Conduct of Business Sourcebook (ICOBS). The Duty does not apply to reinsurance, contracts of large risk sold to commercial customers or other contracts of large risk where the risk is located outside the UK. Nor does it apply to activities connected to the distribution of group insurance policies or the extension of these policies to new members.”The ICOBS broadly splits customers into two categories - consumers and commercial customers. A 'consumer' for these purposes is defined as any natural person acting for purposes outside his trade, business or profession.The rules will therefore apply mainly to individual customers such as those acquiring cover such as home and car insurance, as well as more specialised cover such as for art collections, jewellery, and other such types of personal insurance. The Duty can also extent to individuals who are acting in certain other capacities such as the trustee of a family trust and who may in such circumstances wish to acquire trustee and individual liability insurance, as such individuals are deemed 'consumers' for the purposes of ICOBS.

Specific issues for insurance intermediaries

The Duty brings with it a number of challenges and issues for the insurance industry to address. Given the length of time before implementation is due, it is expected that further guidance and clarification will be provided by the FCA in due course. The Policy Statement of 28 July 2022 (PS 22/9), however, provides plenty for firms to consider in the meantime. We have set out below some of the immediate issues which the Duty and the supporting rules may present to insurance intermediaries.Scheme policiesIn many cases, brokers will operate a number of 'scheme' policies, whereby a bespoke policy wording is agreed with and underwritten by an insurer and is then made available to customers exclusively via that broker. These will often contain terms which are wider in cover than a standard 'off-the-shelf' policy and will often be prepared with a specific target market in mind, so as to provide a more bespoke insurance solution. For example, a broker may operate a scheme which is targeted at art collectors or private owners of classic motor vehicles. The brokers are then able to market these policies to target customers, emphasising the bespoke nature of the wording and how this will be of benefit to their particular needs. As these schemes potentially allow for a large number of customers to be placed with a single insurer, they can also allow brokers room to negotiate preferential premiums and excess arrangements, as well as different commission and/or fee structures.Whilst these policies can be advantageous for all the parties involved, the fact that the broker will be more closely involved in the arranging and drafting of the terms of the policy wordings means that they will need to pay careful attention to the new Duty and ensure that they are mindful of the expected outcomes when working with insurers to prepare these products. This will include ensuring that the policies are drafted in a way which customer can understand and which are suitable for their needs and financial objectives.Placing and Producing Brokers - Does the Duty Differ?It is not uncommon that, for particular types of insurance products and/or customer bases, policies may be arranged through the use of two brokers - a producing broker (who introduces a customer to the market and the next broker in the chain), and a placing broker (who then works to secure the policy from insurers). Whilst such arrangements are often more common when dealing with commercial policies, it remains an arrangement which can apply to retail customers as well. The question therefore arises as to what extent the Duty applies when there is such an arrangement in place. In particular, is the burden of the Duty on each intermediary reduced proportionately when multiple firms are involved? Alternatively, does the Duty primarily apply only to the producing broker, given that they are the ones primarily dealing with the customers?As outlined above, the Duty applies to “all firms in the distribution chain that can influence material aspects of the design, target market or performance of a retail financial services product or service, even where they did not have a direct relationship with the retail customer.”From this, it is clear that the new rules will apply to “all firms” who exist in the distribution chain, and who can materially influence the product or service. In the above scenario, it is likely that both the producing broker and the placing broker will be able to influence material aspects of a policy - the producing broker will be the one initially taking the customer's instructions and identifying the types of cover that will be needed, and then the placing broker will have the responsibility for liaising with the insurers with regards to these requirements and seeking to achieve a policy quotation which meets those needs. Both brokers have a clear and material involvement in the process, along with the ability to influence the end policy that is eventually obtained. Given this, the Duty will appear to apply to each firm in equal measure.Brokers dealing primarily on the 'placing' side of any arrangements with a retail customer should therefore still continue with their preparations for implementing the new Consumer Duty, and should ensure that communication is established with their partners on the producing side to make sure that each firm is acting in accordance with the new rules.Claims processesIt is an oft-quoted saying that, when it comes to insurance, the value of a policy is only measured once a claim is made.Brokers will commonly act as the main point of contact between insurers and policyholders during the course of a claim. The policyholder will notify a claim to their broker, who will in turn notify the insurer and from there will liaise further with the policyholder to obtain any further information the insurer may need, as well as advising on matters of policy coverage and assisting with any disputes which may arise. Brokers therefore play a key role in the claims process, and this often goes significantly beyond simply seeking confirmation of whether a claim is covered. For claims involving third parties (for example, a motor collision claim), the broker may take an active part in any settlement negotiations between the insurer and the third party's representatives, as well as assist with issuing correspondence and providing general information on behalf of the policyholder.In carrying out this role, brokers will need to be particularly mindful of the expectations in the Duty with regards to consumer understanding and consumer support - for example, with regards to advising them on the claim process generally and providing strategy advice (which is again particularly pertinent in claims involving third parties). The cross-cutting rule to avoid foreseeable harm is also pertinent here, as brokers may need to ensure that customers are aware of the potential impact of a claim on any future insurance premiums, which may be of particular concern to vulnerable customers and those who may already be struggling to pay their present rate of premiums.

How can our Financial Services team help?

We at Freeths LLP are experienced in advising firms on complying with their regulatory obligations and how to adapt to incoming changes. Our expert team is able to assist you with considering how the Consumer Duty regime will impact your firm and what changes and reviews will be needed so as to ensure that you can be confident in your ability to evidence compliance once the new rules take effect.

For further information, do not hesitate to contact Adam Edwards, Daniel Seely or Daniel Meyer for a confidential, no-obligation discussion to review what support we can give you.