The Great Shift - Insurance costs are spiraling.
Insurance premiums are on the rise, and some. Premiums have always increased but this year has been far outside the norm. We take a special interest in Insurance as this is often our clients primary need, we try our best to predict how we can design a protection strategy that will stand the test of time. This is proving difficult this year and we have written about this on a few occasions in the past, if you check previous articles such as this. As always this is not personal financial advice and is written using general information purely for education purposes. So why is this happening and what is the right course of action?
The Background
Since the Banking Royal Commission into banking misconduct many if not all banks have distanced themselves from insurance and investment products and also the financial advice process that distributes these financial Products. CommInsure (one of Australia largest and oldest insurers) has recently been sold to AIA. AMP have sold to Resolution life and no longer offer new polices. Onepath sold to Zurich and Asteron to TAL after TAL itself was purchased by Dai -Ichi life. MLC has moved away from NAB and has been purchased by Nippon life.
During this time we have actually had some new entrants with PPS Mutual and NEOS each offering their own unique solutions based on the long standing direct insurer Nobleoak’s offering. We also had MetLife, a large US based firm, enter the Australian market along with Integrity Life. While there are significant headwinds right now these new companies also have significant advantages. These new insurers have comparatively few clients and therefore can spend more time working on giving new clients a good experience and also, if warranted, can undertake system and process changes that improve efficiency and costs for them and their insured members. Couple that with the fact that clients who have recently joined will have undergone health checks and are unlikely to claim, these younger players are starting from a low base and the only way from here is up.
I do recall an insurance executive saying almost a decade ago that Income protection did not make any money and this was cross subsidized by life cover. The primary goal was to grow market share and insurers jostled for new business each year with better features etc but ultimately low premiums were the primary drivers and first year discounts were more than common.
Enough is enough - APRA calls it
After taking losses of over $3 billion in Income Protection over the last 5 years APRA stepped in to cancel Agreed value contracts from the end of March 2020. This was just the beginning with further changes in Jan 2021 to mean that insurers need to use industry wide statistics to base their premiums on, not the current stats that they have on their own client books as they do now. This is probably not a huge impact as some will win some will lose but this will go a long way to more uniform pricing which in turn helps to slow down the previous jostling for market share.
The big unknown happens in July 2021. These are still under consultation, but the proposals essentially say that no contracts can be issued that guarantee terms for longer than 5 years and must be re underwritten for occupation and income at that time and reissued with current benefits. They also say that any benefit paid must be offset against any sick or long service leave etc and cannot exceed more than 90% of the previous 12 months income (eg no more agreed value or indemnity 3 year definitions). They will also be basic contracts only so no “plus” or extras contracts that offer free flights home or day 1 payouts for broken bones or sick family members etc etc.
My premiums were going up well before this year!
This didn’t come out of nowhere. As we mentioned before life and TPD etc often subsidized IP cover. Plus, new business has significantly reduced in the last 2 years due to reduced commissions and increased compliance reducing the incentive for advisers to sell insurance to clients and bring in new money. On top of all of this insurers are required to ensure that they have adequate funds to cover claims in what is called a “statutory fund” which is invested very conservatively as they cannot afford a dip in value and would face a penalty if they became too aggressive in their investment. I am sure anyone with a cash account realises they heady days of a 6% Fixed term deposit are far behind us with the cash rate now at 0.25%. So even before high rates of claims there was less new business and less investment income to contend with.
Overall, premiums this year have increased across the board and much of this is actually driven by reinsurers. Companies such as Swiss Re, Pacific Re, SCOR and RGA etc ultimately dictate what premiums will be in bulk and this is handed down to both retail and group insurers.
There is also a misconception around level premiums that have often been misunderstood or even misrepresented as “locked in”. The reality is that a true level premium means you pay a premium based on your age at the start of the policy rather than your current age every year. So, if you take out a policy at age 28 and hold it for 20 years you will still be paying the premium of a 28 year old when you are 48 and far more likely to claim. Insurers can and do of course increase premiums for 28 year olds from time to time and recent times have been extreme where it may have been a decade since the last significant rerate.
I have compiled a few notes but overall premiums on both level and stepped policies have increased by at least 20% in recent years and by all accounts it’s likely that there is more to come.
Click here for a few notes on specific insurers increases in recent times.
Enter the Legacy book
Once the above changes take place next year insurers will in all likelihood cordon off these old-style products and move ahead with the next generation of insurance products. This creates what is know as a “legacy product”. An insurance contract that is still active but can no longer accept new entrants.
Over time the policy holders in the legacy book get old and/or sicker and more likely to claim. It is not refreshed by new entrants as they are all entering the current products. The legacy products are “guaranteed renewable” which means that by law contracts cannot be altered to the detriment of the policy holders. The only choice is to increase premiums as more and more claim in this segregated book, these pricing increases then fuel the healthy members who are still able to switch to new products to seek new cover and this whole book snowballs into massive premium increases.
What is the right call?
Put simply, IP insurance contracts will get weaker after this year, you will be less sure that you are well protected. If you are happy to pay more to have a great contract its worthwhile doing it now as even if it’s not agreed value it’s still guaranteed renewable. If you want to be cautious you can take out a policy now and look to replace it with the new generation of policy in a few years once pricing has settled down. It may be that the new policies are still appropriate for you at a fraction of the cost.
If you already have a guaranteed renewable agreed value contract in place it might be worth a little patience as hopping from one provider to the next may mean the premium increases just follow you the following year or 2 (most insurers wont increase for first 2 years on new policies).
As always, it is hard if not impossible to access any financial products without a professional determining whether it is appropriate for your specific needs and circumstances. Speak with a knowledgeable and unconflicted adviser that you trust to give you all the information you need to make an informed decision.
While care has been taken this is not to be relied upon as personalized advice and Shaun Clements and NOR Financial as an authorized representative of Dirigere Advisory has provided this only for education purposes.
Update: If you would really like a deep dive check out this report from Actuaries Institute released last month.