Clifford Chance

In the race to innovate, insurers will need to balance the desire to bring new products to market and operate through new distribution channels with their regulatory conduct of business obligations, particularly the fair treatment of customers. This Insurtech Taster looks at some of the matters that may affect insurers and intermediaries in the context of these regulatory obligations when designing new products and distribution models.

Treating Customers Fairly

The FCA’s conduct of business regulations need to be taken into account when designing insurtech products and using new distribution channels. At the heart of the FCA’s conduct of business regulations is the principle that a firm must consistently pay due regard to the interests of its customers and treat them fairly (the TCF requirement). Senior management bear chief responsibility for delivering TCF outcomes and getting this wrong can lead to regulatory scrutiny and potentially result in fines, sanctions, restrictions on activities, public censure and even removal of authorisations to conduct regulated activities.

The FCA has emphasised the need for firms to demonstrate that they are focused on customers’ interests throughout the product design lifecycle. There are six customer outcomes that the FCA expects firms to try and achieve to ensure the fair treatment of customers, all of which are relevant to product design and distribution. TCF obligations are principles based and coupled with other conduct of business rules means there is a significant regulatory burden on firms in designing and distributing products. There is therefore a tension between the desire to quickly bring new products and distribution models to market and the ability to easily apply the existing regulatory rules and guidance to innovative business models and products. This tension is particularly relevant where the products are sold through smartphones or apps where information provided at point of sale is intended to be kept as simple as possible, but with the potential increased risk of mis-selling.

The FCA’s sandbox provides an opportunity for a limited number of companies to test the design of new products and distribution models that do not easily fit into the existing regulatory framework. There is also an FCA safe space for helping firms design and support the testing of techniques for communicating with customers, such as disclosing product information and the process for delivering information to customers. The sandbox is also available to technology firms wishing to provide services to insurers. Such FCA initiatives are not available to all firms though and insurers and technology companies therefore need to work with the current rules and guidance (including the RPPD Regulatory Guide and industry guidance) on TCF when designing new products or distribution channels. To assist with this process, it is useful to analyse the past activities and publications of the FCA, such as thematic reviews and calls for input, as these can give clues to the kind of models and activities that may concern the FCA

Product Design and Distribution

An assessment of customer outcomes should form a key part of an insurer’s strategy and governance framework when designing new products and distribution channels, but TCF is a broad topic and we have highlighted below just some of the matters that might be relevant to firms and intermediaries in this context:

• Outsourcing – The TCF principles apply to firms that do not have direct contact with retail customers as well as those that do and outsourcing of product design does not absolve an insurer from its regulatory duties. In fact, the FCA is concerned about the increased risk of poor customer outcomes arising from the division of knowledge and responsibility that occurs when outsourcing is involved. Firms need to be clear who designed and who ‘owns’ the product and where the relevant responsibilities lie as between the underwriter and intermediary and intermediaries that design insurance products need to understand the product provider responsibilities that they may acquire by virtue of designing an insurance product. Insurers that underwrite new products designed by third parties that are not similar to their core products must embed suitable TCF governance protocols and think about how to meet TCF obligations in respect of products that have no performance history.
• Suitability – Outcome 2 of the FCA’s consumer outcomes requires firms to ensure that products and services marketed and sold in the retail market are designed to meet the needs of identified consumer groups and are targeted accordingly through the chosen distribution channel. New technology should help insurers to tailor products and to target sales to suitable customers, but product designers also need to consider whether a product can deliver against the reasonable expectations of different types of customers. The PPI scandal was based on an issue that customers were being sold products that they were unlikely to be able to claim against and compliance with contractual terms of a policy will not absolve an insurer if it has failed to consider whether a product will continue to meet the needs of its customers. Firms need to build-in product review processes as part of their governance frameworks and be able to impose changes on intermediaries as a result of such reviews.
• Distribution Channel – The FCA expects firms to consider the distribution channel when designing a new product. For example, it is an important aspect of fair communications with consumers to consider if and how the features of a complex product can be clearly explained using the proposed sales channel. The FCA’s publications on smarter consumer communications give examples of innovative ways that other financial services firms are communicating with customers and can assist insurers to evaluate what the FCA’s expectations are in this area.
• Policy Renewal – The FCA recently introduced changes to its rules and guidance on renewals of policies that are aimed at addressing concerns about the level of customer engagement and the treatment of customers at renewal. These rules and guidance will need to be complied with for certain general insurance policies, even if the original sale was not through a digital medium. Linked to the above point, firms need to take into account how the distribution channel will affect the ability to comply with these rules and guidance (for example the requirement to inform consumers using a “durable medium” where SMS or Apps are used for renewal purposes).
• Mobility – Customer mobility is important to the FCA. Products with onerous requirements that in practice create barriers to a consumer exercising choice and switching a policy to one that is more appropriate to their needs, will not meet expectations.
• Price Comparison – Linked to both mobility and the form of distribution channel used, the FCA has determined that consumers may find it difficult to understand and compare information on products and price as a result of the use of Big Data to design new pricing models and offer more tailored products. Firms are under an obligation to ensure that customers are given appropriate information about a policy in a comprehensible form so that the customer can make an informed decision about the product. This raises questions about the ability of firms to meet this obligation when they wish to provide information to customers mainly via mediums such as SMS and Apps.

Looking ahead

Investigations by the FCA into unfair practices in the insurance industry might have relevance to insurtech projects. Findings from the FCA’s calls for input and their corresponding feedback statements such as the FCA’s Feedback Statement on the Call for Input on barriers to innovation in digital and mobile solutions can be applied to the design and distribution of insurtech products. These publications serve as forewarning of the possible issues the FCA may have with insurtech distribution models or new insurance products.

In EIOPA’s Consumer Trends Report from December 2016, EIOPA identified some major trends reshaping the European insurance sector and impacting business models of insurers. EIOPA intends to closely monitor the threats to consumers from digital innovation, in particular the risk that the increased development of personalised insurance products triggered by Big Data and consumer analytics is making insurance unavailable for some consumers. While such innovation increases price transparency for consumers it may also result in a reduced ability to compare alternatives and to access affordable cover altogether. The FCA has also investigated the extent to which the use of “Big Data” might affect risk segmentation practices and the impact on consumers of increased risk segmentation by insurers. The FCA has said that to the extent certain consumers are not able to obtain insurance, or face very high premiums, social policy interventions may be required to address any socially undesirable outcomes. Designing products based on risk segmentation practices may therefore ultimately result in regulatory intervention that forces insurers to behave in a different way.