9 September 2004
Speech by Sarah Wilson

My agenda today is as follows:

  • first - the FSA's strategic approach to general insurance regulation – our focus as we see the final rules implemented; and the outcome that we expect for the industry and for consumers;
  • second - the FSA’s perception of market readiness;
  • third - to note outstanding issues as we see them;
  • finally, and as we are just four months away from the start of the new regime, to say something about our supervisory approach.

Let me start, if I may, with our general approach to introducing a new regime. At one level of course, our strategy has had to be about implementing two European directives (the Insurance Mediation and Distance Marketing Directives) and doing so within the legislative framework set for us by Government. And that has, of course, imposed constraints. At another level though, and within this framework, we have throughout concerned ourselves with two issues in particular – the need to focus on the risk to consumers, and the need to accommodate market diversity.


First, risks to consumers. In fact of course, as we have often observed, those risks are quite diverse - as the products in the general insurance market cover everything from motor insurance where consumers shop around heavily already, through to creditor insurance which is sold simultaneously with other goods and services and on which consumers do not currently focus sufficiently at time of sale, to private medical insurance where the terminology is typically complex and the consequences of buying inappropriately can be particularly severe. However, as we have said throughout our consultation process and as will continue to be our attitude of mind as rules are implemented, general insurance products pose on average less risk to consumers than either investments or mortgages – they are easier to understand and switching is usually more straightforward. I hope you will agree that this difference is reflected in the rules that we have introduced.


And, although we have been constrained in many areas by the European Directives mentioned earlier, as a result of a risk based approach, the costs of regulation are – we believe – also proportionate. These are of course of two kinds – fees paid directly to us, the ombudsman and the compensation scheme; and your compliance costs in introducing and continuing to comply with the new regime.


On the first, we previously said that – for the lowest fee band – we expected the annual fee payable to the FSA to be around £500 or £750 depending on the type of activity undertaken. The ombudsman will not charge an annual fee until the next financial year and has consulted on the proposition that the initial two cases for any firm should not attract a case fee. On compensation, firms will be charged for the costs of the compensation scheme next financial year and this will cover the costs from the commencement of regulation. We are aware that, amongst some in the industry, there is considerable strength of feeling about extension of the compensation scheme and a fear that this will lead to very sizeable claims. Our analysis to date does not suggest that such fears are justified – we have a set of regulatory requirements in place (namely capital, PII and client money segregation) designed to ensure that the compensation scheme is a last resort; and are satisfied – based on the data currently available to us - that the proposed maximum claim on the industry in any one year would not lead to unsustainable claims at an individual firm level. Our final conclusions on the ombudsman and compensation scheme fee structures, taking account of representations made during consultation, will be published in a month or so.


On your compliance costs, we have previously estimated that – taking all our requirements together - a firm from either the mortgage or general insurance sector with 1-2 sales staff will incur costs in the range £1,900 - £3,700 one-off and £3,800 - £5,700 annually. The ranges reflect the wide range of circumstances for firms – including the number of markets that they operate in, the nature of their business in those markets, and whether a firm is already authorized by the FSA. We also expect these costs to be significantly lower for small secondary market intermediaries – of which, more in a moment.


The second key aspect of the FSA's strategic approach has been creation of a regime that accommodates the diversity of the general insurance market – in terms of product type, consumer type (including the international market), and variety of delivery channel. Again, I hope you will agree that we have found an appropriate balance between the extreme complexity that would be created by tailored requirements for every eventuality and the dangers of designing a ‘one size fits all’ approach. In particular, it was the need to create a (sufficiently) level playing field that explains two of the few areas of super-equivalence when you compare our new rules with the European Directives – we generally extended requirements to insurers' direct sales as well as intermediaries even though the Insurance Intermediation Directive only covers the latter; and we generally extended requirements to face-to-face sales as well as distance sales despite the Distance Marketing Directive only covering the second. Both these decisions have – we understand - been welcomed by the industry.


What will all this mean for consumers? In summary, we believe that the regime which will come into force on 14 January next year will deliver:

  • new higher standards for service provision and consumer information;
  • (consequently) the means by which consumers can better compare products, shop around and understand what they buy; and
  • protection through the ombudsman and compensation scheme when things go wrong.

But it is important to note that this will happen only if the industry engages not just with the letter of our detailed rules but also with the spirit of our principles for businesses. In particular, in retail markets in the UK, we are concerned that all firms should adopt a consumer focus in product design, marketing, selling, and after sales care – so that products are sold which reflect consumers' real needs, and competition is based on the quality of the total service provided to consumers as well as on price. It is this standard which lies behind our Principle that firms must 'pay due regard to the interests of customers and treat them fairly', and which we continue to work on with both industry and consumers in our Treating Customers Fairly initiative. Clearly what is necessary will vary across retail markets as products and consumer circumstances vary, but the principle remains.


There is also a strong connection between this attitude of mind and the CII's decision to launch at this conference its Faculty of Insurance Broking – where the focus is on setting standards of conduct for members that reflect good or best practice; and on professional qualifications, training and support for members wishing to improve their skill base. We therefore support this initiative and wish it every success.


So how ready do we think the market is? Here, I would like to divide my remarks and talk first about applications for authorization and then about being compliant with FSA principles and rules as from 14 January.


There continues to be lots of evidence that firms in the general insurance market are making decisions about the future and acting on them.


The latest data published by the FSA (as of 3 September) show that:

  • 13,141 firms from the mortgage and general insurance sectors have applied to the FSA for authorisation – with 5044 from the primary general insurance market; and 4147 who sell general insurance products alongside other goods and services;
  • (of course, within the remaining 3950 mortgage sector firms, many are also applying for permission to conduct general insurance business – as they sell buildings and contents insurance if not other products);
  • meanwhile, 4150 firms that are already authorised by the FSA have applied to vary their permission to carry on either mortgage or general insurance business – it is important to note in passing that all general insurers actively underwriting in January need to apply to vary their permission;
  • and, in all parts of the market, many other firms will be within the new regime by virtue of becoming appointed representatives of authorised firms.

Overall these statistics (and our impression from discussions with market participants) lead us to conclude that the primary general insurance market is very well aware of the advent of statutory regulation, and that the vast majority of participants have made decisions about how they wish to react – with very many choosing direct authorization.


In the secondary general insurance market, we however remain concerned – while the number of applications continues to rise, and other firms may well be choosing to alter their business model to avoid regulation or to become appointed representatives, we continue to see a mixture of poor levels of awareness and indecisiveness amongst many such firms. This is undoubtedly a commercial problem for insurers: and we wrote to the CEOs of general insurance companies at the beginning of the summer to stress the need to think – from a commercial perspective – about the preparedness of your entire distribution chain. It may also be a problem for consumers if they find it less easy to acquire the insurance that they need at the right time.


So, we are continuing to ask all parts of the market to re-double their efforts in this regard. For our own part, we will continue to be in touch with a very wide range of trade associations (over seventy at the last count), and we plan further advertising in the national press this autumn. Although the deadline for guaranteed turn-around of applications has passed, we will also continue to do our best to process them within the time allowed – and certainly for straightforward applications we still have plenty of capacity to do so. It is however notable that, for firms in the secondary market, our data tells us that information from product providers was the most significant prompt to cause them to register for authorisation. To this extent, the industry’s future is – it appears – in its own hands.


Finally on authorisation, there are those who are still trying to decide whether to become principal on the one-hand, or appointed representative on the other. Some applications for principal status have revealed to us that firms have not understood the responsibilities inherent in this role – the accuracy and completeness of information on appointed representatives notified to the FSA is, for example, the responsibility of the principal; as more generally, is their on-going compliance with all relevant FSA rules. For appointed representatives, it is important to note that the FSA needs time to process the notification and, where relevant, to approve any people proposed for Approved Person status. Early decisions are therefore recommended.


Beyond the position on applying for authorisation, there is the question of achieving compliance. In short, receiving a ‘minded to authorise letter’ is not the end of the story. While much is going on, many firms still have a lot to do to ensure that they are compliant by 14 January.


As you will know, we place great emphasis on the role of senior management in firms – be they large or small. Our third principle requires each authorised firm to 'take reasonable care to organise and control its affairs responsibly and effectively', and this is further elaborated elsewhere in our Handbook to require firms to 'apportion responsibilities amongst its directors and senior managers' and to 'ensure the business and affairs of the firm can be adequately monitored' and also to 'take reasonable care to create and maintain such systems and controls as are appropriate to the business'. All of this means that we would expect the senior management to be taking a particular interest at present in the state of firms' preparation.


And the rules in which senior management should be focusing can be grouped into four types:

First, those that require you to treat your customers fairly – how far have you got in preparing policy summaries that provide a clear statement of the product in plain language, and which point out any unusual or important exclusions?; have you made the system changes and set up the legal arrangements necessary to protect client funds appropriately?; are you ready to handle complaints in line with the FSA’s rules?; and are you maximizing your chances of success in all this by ensuring that staff are competent for their task?


Second, there are rules that require intermediaries to hold the right resources – is the right capital already in place?; do you have a PII policy lined up that will be compliant with the new European minimum?


Third, there are requirements on the organisation of the firm: have you allocated all relevant responsibilities amongst staff?; is new documentation in place where necessary?; and are record keeping procedures adequate?

And finally, have you started planning for regular submission of information to the FSA?


As I said a moment to go, there are signs of much progress in introducing the new regime. If I was to emphasise one area today it would be the need for proper documentation. This is necessary so that firms (intermediaries and insurers) understand their obligations, and so that clients understand the basis on which insurance is offered and/or their funds are held. It seems to us that there is often at present at inappropriate degree of reliance on unwritten or implied terms and arrangements, and that the market is being slow to make change. Senior management need to consider whether our documentation requirements – most obviously in the areas of client money and of risk transfer - are met at present and, if not, to make changes as a matter of urgency.


While, as I have already stressed, we have taken great care to ensure that we have a proportionate regime (reflecting the risks in general insurance), we do of course also recognise that getting to grips with the FSA's requirements is not an easy task, and that this applies in particular to the senior management of smaller firms. It is important however to keep a sense of perspective. Many of the FSA’s rules reflect good business practice; those that have in the past volunteered for regulation will also find that they have a head-start. Furthermore, depending on the nature of your business, sections of the rules may not be directly applicable (insurers and not intermediaries, for example, are responsible for the content of policy summaries); and particularly in the secondary general insurance market, it may be that an identical policy is sold by staff in identical circumstances repeatedly – in which case after an initial investment in new processes and paperwork much of the work may be done.


Help is – as I hope you are aware – also readily available: on a special section of the FSA website; through a dedicated contact centre; and through the publication of a special Guide to the relevant parts of the FSA Handbook. This is designed to make accessing and understanding the contents of the Handbook considerably easier – it covers all aspects of the rules that typically apply to smaller firms; is written in question and answer style; and contains worked examples in key areas such as capital and client money requirements. More recently, we have also produced a specially tailored on-line version of the Handbook for insurance intermediaries that cuts out all the rules that are not relevant to you.


Beyond the authorisation task and the need for preparation by firms, what then are the outstanding issues as general insurance regulation approaches?


My list has four things:

  • the scope of regulation
  • client money rules
  • mixed use policies
  • outsourcing and disclosure

Scope of regulation is actually on my list primarily because I thought it would be on yours. We are all aware that the scope of the insurance mediation directive is very wide and, because of the huge diversity of distribution for general insurance in this country, it captures a remarkably wide range of businesses. We continue to receive a wide range of enquires from particular sectors and from individual firms about the impact on them. We will continue to answer these. Our approach is to point out the guidance that we published in January this year (which, now updated to cover the position of group risk managers, provides a complete statement of our general interpretation of the law); to remind people of the exemptions in the legislation which might be applicable (including if they altered their business model); but also to point out that we have designed a proportionate regime and that it is imperative that firms now act rather than engaging in protracted debate where that is not capturing new points and is instead simply reducing the chance of timely authorisation and smooth transition.


On client money, you will be aware that – following the receipt of persuasive cost information from the industry – we are now consulting on a rule change which would allow the co-mingling of insurer and client funds in a client account. (With my earlier comments on documentation in mind, it is important to note that the industry will still need to clarify its documentation - intermediaries will in other words still need to understand for each insurer / type of business whether they have client or insurer money.)


Very late in the day, insurers have also advised us that implementation of the rules on mixed use policies – whereby a policy sold for both private and business use must be treated as a retail transaction – are much more costly than we had previously been led to believe. We have agreed to consult on a transitional provision in this case – allowing more time for firms to make the necessary system changes.


And finally, we have had increasing discussions with both the mortgage and the general insurance industries on outsourcing. It is important to note that, as a general proposition, firms cannot outsource regulated activities to unauthorised entities – this is a general point that applied to all financial sectors regulated under the Financial Services and Markets Act, and applies unless there is a specific exemption. We have recently agreed however, that for the mortgage and the general insurance sectors, we will consult on rule changes that allow the firm carrying on an activity on an outsourced basis to hide its identity from the consumer (ie to represent itself as the outsourcing firm) – where this change would be conditional on the outsourcing firm taking full responsibility for any complaints arising or compensation due.


The next twelve months takes us into a period when firms’ conduct of general insurance business will start to be supervised – either by the FSA directly (or, if an appointed representative route is chosen, by their Principal). In the former case, general insurance brokers will be supervised in one of three categories – the London market brokers, underwriting agents and some brokers specializing in commercial business will be supervised by our Wholesale Markets Area; while the other categories (medium and smaller firms) will be regulated in the Retail Markets Area. In all cases you should expect us to be making every effort to be easy to do business with; and to adopt a risk-based approach – our emphasis is on preventing consumer detriment.


More particularly, in the former case we are installing new systems for handling firms’ queries (conscious of the much increased number of firms who will want to use our authorized firm contact centre), and we are developing on-line solutions for routine communications (waiver applications, change of approved person, change of address etc), and for reporting of regular data. We also plan to build on the Guide to the Handbook and newsletters etc developed as regulation has been introduced, so that there are more tailored publications.


On data reporting specifically, we have already published guidance to explain how to complete the new return for retail intermediation activities. We will shortly be publishing more information on the collection of product sales data (which applies to pure protection contracts), and contacting relevant firms individually about this. In the New Year we plan further materials to assist firms – including industry training and publication of frequently asked questions on our website.


Our risk based approach will involve the proactive identification of issues and problem solving. We want in doing this to: work with you to ensure rules are understood and to raise standards; and find use-friendly ways of communicating our findings so that best practice is shared and to help rapid learning from mistakes. We view accurate and timely data as a key input to this work: along with market intelligence of other kinds, it will help us to spot trends and to identify individual firms where specific action is required.


Of course, you can also expect us to take enforcement action if we believe it necessary – which would be especially the case if there is wilful non-compliance and consumer protection suffers. In particular, we will focus early on the perimeter – to identify and resolve the position of firms that continue to conduct regulated activities after 14 January without appropriate authorisation.

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