Commissions could cost you thousands on financial products
Most consumers of financial products – or even of retail goods they buy in a high street shop – are blissfully unaware that the salesperson may be receiving a commission.
Does it really matter in the case of a winter coat or a flat screen television? Probably not: the quality of the product isn't compromised and it's easy to ensure you get the best price by shopping around in person or on the internet.
Not so if you're in the market for insurance protection, investment funds or pensions.
These are complex, expensive and very unfamiliar products for most people. They are hard to arrange without assistance, and if you get the price of a 30 or 40-year duration pension contract wrong – it could be the most expensive mistake you ever make.
Commission remuneration on the sale of investments has been abolished in many countries, including Britain, since 2012. In the Netherlands it cannot be paid on investment or general insurance products.
Here, no such ban exists and commissions of up to 90 per cent of the first year's premium for a life insurance contract is commonplace. An annual retention commission is added if the policy is kept for five to seven years.
More controversial are the override bonuses given for volume business to a provider and the growth of upfront commissions ranging from 100 per cent, 140 per cent, even 180 per cent of the initial premium, called 'indemnity' commission. These are paid if the business is retained for a period of years.
Regular and lump sum investments and pensions can also generate substantial commissions (5 per cent upfront is not uncommon) plus an annual 'trail' commission of up to 0.5 per cent of the investment value.
Over the course of many years, this can amount to tens of thousands and can have a huge negative impact on final fund values. "Unfortunately, too many brokers collect annual trail commission, but they would be hard pressed to show how they earned it," said Mark Bradley, a fee-based financial adviser with Goldcore Wealth Management. "Few of these brokers actively keep in touch with customers," says Bradley. "Some never see them again and won't want to, if a query doesn't result in a new sale."
Under the Consumer Code of Conduct, commission has to be disclosed in writing (there is no such obligation for general insurance) but after an inspection in February into the selling of pensions, the Central Bank reported it was unhappy with levels of disclosure, transparency and compliance regarding remuneration and other obligations.
Many of the 113 customer files that the Central Bank regulator inspected failed to show obligatory written explanations as to why the adviser was recommending a particular pension. Many failed to meet compliance obligations regarding potential conflicts of interest between the intermediary and the life assurance and investment companies.
These inevitably arise because of commission, said financial adviser and consumer advocate Eddie Hobbs.
"By providing 140 per cent or 180 per cent of the value of the first year's premium for a life insurance contract, on condition that the policy is retained for two, three or five years, the shrinking pool of insurers are providing the commission broker with what is nothing more than an up-front overdraft facility," said Hobbs.
"The only way the broker can effectively 'repay' this overdraft is to keep giving the insurer new business and that compromises their ability to claim to give independent advice to their clients." It should be abolished, he said.
'Churning' old contracts, whereby the client is advised to cancel and switch their policy in order to generate a new round of commissions for the intermediary, is acknowledged as a bad practice by the industry, and it is discouraged, but it still happens "because brokers are rewarded with big commissions", said Hobbs.
From 2016, 'soft' commissions like controversial 'over-ride' payments for volume business or insurers paying for broker 'training' courses ("at five-star golf resorts," according to one source) will be abolished under EU-wide regulations.
Meanwhile, the UK's decision in 2012 to abolish investment-related commission is still criticised by Irish broker organisations on the grounds that only the better off in Britain are receiving independent financial advice.
Brokers and those financial advisers who accept them defend commission so long as they are fully disclosed and transparent, as required under our Code of Conduct.
But that doesn't wash with detractors who point out that consumers always paid the commission as a portion of their quoted premium or from their investment or pension fund value, even if it was the product provider who handed over the money.
In practice, lip service is paid to disclosure requirements, as a recent Q&A guidance note sent to brokers from their professional body, the Irish Broker's Association showed: "The actual commission does not need to be on the [product] recommendation letter but it does need to be given to the client in some format. Some insurers provide it in a generic format on the customer terms and conditions or information notice, or on the brochure. As an intermediary you must also be able to clearly demonstrate that you gave it to the client which can be as simple as a check box on the fact find that the client signs."
If you want to purchase – or revise – a life insurance, mortgage protection, investment policy or pension, always ask the adviser to answer these questions in writing:
- What qualifications do you have? What range of services can you offer under your Central Bank registration? (From July 1, 2014 all advisers will be classified as Investment Intermediaries, Insurance Intermediaries or both.)
- Do you accept commission or do you charge fees? How much commission or fee applies to this product/investment?
- Why are you recommending this product or policy instead of other another?
- If I pay you commission instead of a fee what impact will it have on the value of my cover or investment fund?
Remember, your best policy is always 'buyer beware'.
Sunday Indo Business