Cash conundrum

Brokers and insurers are lobbying the FSA. Their aim is to persuade the regulator to re-consult on the thorny issue of risk transfer. But the clocking is ticking. The industry will need to present a strong and unified argument if the regulator is to begin a new consultation period so close to January 2005. The FSA has said it will make a decision on whether to consult by the summer. It will only agree to re-consult if it is certain that the proposals will be accepted quickly, and that will require a unified response from the industry. But, at the moment, there appears to be no consensus in the industry on the handling of risk transfer money.Some also say that the FSA has tired of the risk transfer debate and has no appetite to begin a hurried consultation. The concern that brokers have with the current rules is the additional administrative and cost burdens of separating client and insurer (risk transfer) monies and maintaining multiple accounts. Broker Network chief executive Grant Ellis says: "We will face increased bank charges from running a plethora of different accounts; remittances from a single customer covering more than one policy may often have to be split to accommodate the rules, and customers will inevitably be confused. And all this is supposed to be in the interests of consumer protection?"There is also concern from both insurers and brokers over the fact that the rules are silent on the question of insurer monies. While the FSA's rules require client money to be placed in a protected client account, no such stipulations have been made in relation to insurer money. There is nothing in the rules to prevent insurer monies being placed in the broker's office account. Where is the client protection in that, many ask?

Hybrid accountThe FSA takes the view is that it for the individual insurer to determine how risk transfer money is to be handled. Not surprisingly, brokers and insurers take different views as to how to tackle the problem. Brokers favour a hybrid account for both insurer and client monies. "A voluntary non-statutory trust account - essentially a better protected IBA account," as one senior broker describes it. This approach would reduce the administrative burden on brokers and maintain client protection, he says.Insurers are less unified, with a number of different suggestions being put forward. Royal & SunAlliance favours brokers holding a separate trust account for insurer monies. And Norwich Union would prefer to collect monies directly from the policyholder, removing the need for brokers to hold insurer monies at all. Others are less clear on the matter. AXA head of broker development Colin Calder says: "We need to approach the problem from a different perspective, looking at it differently from just trust accounts."The ABI's view is that there should be consultation on whether client and insurer monies should be held in the same account. "Some insurers would have some concerns if there was no split," says a spokesman. So is consensus likely? It would appear not given the diversity of views. Separate trusts account would not overcome brokers' problems with the current rules, namely the cost and administrative burden of running a large number of separate accounts. Equally, NU's suggestion of collecting monies directly is also unlikely to find many supporters. Brokers are likely to see direct collection as a further blow to the independent broker - another instance of an insurer essentially pushing the broker to one side. They will also be less than happy to rely on the insurer to release commission rather than collect it directly from the client. Many insurers also have reservations about collecting money directly. The administrative burden would be huge, with only the largest being capable of handling the task. Even larger insures are likely to baulk at this prospect. Royal & SunAlliance FSMA programme director Blyth Morris says: "I don't like the concept. It would put all the account handling on us."But it is not just lack of consensus that may hinder the industry's efforts to get further consultation. Sources say that the FSA appears to have tired of the risk transfer debate and has no desire to re-consult quickly on the matter. "The FSA's view is that the final rules are out and that the industry should now concentrate on what it has to do to comply," says one insider. "By the end of 2004, the FSA will want insurers to have finalised their agency agreements in line with the new rules to clarify their respective positions on risk transfer and insurer monies - this will see the removal risk transfer in many cases. After that, the FSA will leave it to insurers to decide what to do with insurer monies."

Prudential requirementsIf this is the case, then brokers are likely to face a number of different approaches from insurers in the way risk transfer monies are to be handled. A major influence on how insurers choose to deal with risk transfer monies will be the FSA's forthcoming prudential requirements. Under the new integrated prudential source book (PSB), which comes into effect this year, insurers will be required to reflect credit risk in their solvency calculations: the greater the credit risk, the more capital that must be held to balance that risk. Collecting monies directly from the customer presents the lowest credit risk; allowing the monies to be placed in an unprotected account the highest. A separate trust account sits somewhere in between. A senior insurance executive says: "The credit risk issue bothers us. We would prefer to collect direct, but we don't have the systems to do this."Insurers will be keen to keep their overall credit risk exposure to a minimum. RW Associates director of compliance Alex Peterkin says: "A separate trust account is the most practical way for insurers to be 'business as usual', although a credit risk will be created. But insurers are unlikely to be able to offer this solution to everyone because of the level of capital required."The length of the credit period that an insurer gives to a broker also affects credit risk: the longer the period of credit, the greater the credit risk. Insurers will therefore be looking to reduce the credit periods offered to brokers as a way of controlling risk. It is therefore vital for brokers to begin address these issues with their insurers over the coming months. If the FSA decides not to re-consult, it will be left to the insurance industry to resolve the issue. Insurers are beginning to say what they wish to happen and if brokers are not happy with that, they will need to persuade them to adopt a different approach. At the very least brokers need to be negotiating with insurers to ensure their terms of credit remain favourable one agency agreements are revised. Insurers, on the other hand, should be giving serious consideration to the credit risk issues arising from the handling of risk transfer monies. "It is a very serious issue, particularly for the smaller insurers," says Peterkin. "Many have not attempted to fully quantify their potential credit risk exposure. They are waiting until the risk transfer debate is concluded or the FSA gives further guidance."