Nobody and everybody wants to talk about compensation at the workplace. All employees and independent business professionals inevitably evaluate their income at various points in their lives and wonder if the money they make equals the amount of hard work and skill they put into their jobs. At the same time, many people feel uncomfortable addressing their true feelings about the size of their salaries, wages or commissions and their desire to take home dollars that match what they deserve. Employees do not want to fall into a trap of revealing their displeasure about the numbers on their paychecks and risk being thought of as ungrateful, greedy or uncommitted to their work-related obligations.
Insurance producers, as well as anyone else with a sales position, can have an especially tough time actively addressing their compensation concerns because they need to worry about more than just how employers and peers will judge them. They must also deal directly with the public and face consumers who will question�sometimes out loud�if the seller cares more about earning a commission than treating them fairly.
The reader might assume that a course like this will chastise agents and brokers for accepting large commissions, but that is not nearly the case here. Insurance agents and brokers work just as hard as people in other businesses and deserve proper compensation from their clients and employers.
However, because the industry can sometimes overemphasize the need for agents to �make the sale,� and because commissions can serve practically as the only source of income for some insurance producers, even the ethical agent or broker can feel pressured to bring in new customers at any cost. Ideally, insurance companies would probably like their agents to focus on long-term, profitable careers in sales and service, but it is understandably difficult to think about the future when competition, inexperience or other factors make sales elusive in the present. The nerve-wracking grind of meeting, greeting and trying to make deals with potential customers, coupled with minimal success, can push some agents into situations where a particular sale, or even any sale for that matter, can be the difference between them having a future in the insurance industry and dropping out of the profession altogether.
Many agents deal with their frustrations by doing the latter. Others who struggle decide to give themselves more time to learn more about the business, develop more relationships with customers and perhaps rely on a little luck without giving up on their insurance careers. A third group, though, might reason that financial stability and eventual success should overrule an insurance producer�s obligation to treat consumers in an ethically upright manner.
Despite the fact that such behavior gives the public an excellent reason to take its business elsewhere, these producers deceptively sell unnecessary policies with high premiums merely so they can pocket commissions. The agents and brokers who engage in this activity, though proportionately small in number, give the insurance industry a bad reputation when they coerce people into unnecessarily switching to a new policy so that the agent can claim a large first-year commission. They ignore honest customer service when they set people up with expensive or excessive coverage solely to collect a larger amount of paid premiums. They exhibit trickery when they falsely advertise their products and make a client believe that he or she has invested in retirement accounts when the money has really gone toward a life insurance policy or vice versa.
There are many good agents and brokers in this world. These insurance producers are honest, productive people who insurance companies should want to work with. But, in some cases, these professionals are struggling regardless of their character and experience and are working more for less pay.
Over the years, insurers have discovered that cutting commissions is an easy way to temporarily save money when business is bad or when insured losses are larger than expected. This seemed to have occurred in Florida following Hurricane Andrew and the big hit insurers took from that disaster, the most costly American catastrophe until the September 11 terrorist attacks. According to one insurance producer quoted in the Wall Street Journal, some companies in the state reduced commissions to such a low level that if an agent had to travel a long distance to close a sale, the resulting compensation would not have been enough to cover gas.
With the incentive for an agent to sell policies in parts of Florida so small, it became difficult for even the fairest insurance producer to offer coverage to local residents.
Florida eventually tackled the problem by enacting laws and establishing a special insurance system to accommodate coastal businesses and homeowners, but that temporary crisis provides us with an example of how unreasonable compensation can hurt agents, insurers and consumers and create the potential for questionable ethical practices. In cases such as Florida�s, insurance producers have only a few choices: They can wait out the tough times and accept extremely low commissions in the hope that business will improve. They can look for jobs with insurers who will pay them higher commissions. Or, in a worst-case scenario, they can give into the temptations of the �make the sale at any cost� philosophy and manipulate the consumer into buying insurance products at prices that will at least help agents and brokers get the most out of those small financial rewards.
Particularly over the past 15 years or so, insurers have experimented with various forms of compensation in order to rightly reward agents for their work, protect the parent companies� interests and play fairly with the buying public. The most traditional form of compensation for an insurance producer pays the agent or broker a large percentage of paid premiums during the first year of a policy and a very small percentage of paid premiums upon renewal.
This classic rewards plan allows agents and brokers to receive payment in as uncomplicated a fashion as possible. There is almost never any need to negotiate with the customer because the producer�s assorted services all come included within that set percentage.
Many agents like the traditional first-year commission system because it is what they know and because it compensates them quickly for their labors. Most agents do the bulk of their work during the initial sale stage and can often spend weeks or months lining up a new account. So, logic suggests they should get paid near that time instead of over a period of several years. Relatively new agents often prefer the first-year commission system because it allows them to earn significant money with a few big sales as they try to build up their small and new client base.
On the downside, compensation via commission seems to always get the blame whenever unethical insurance salespeople take advantage of buyers. More than any other compensation method, the first-year system discourages long-term service to the customer and emphasizes the sale.
Because the commissions arrive in the policy�s first year, there is also a smaller window of opportunity for insureds to realize they have been victimized by an unethical person and to cancel the policy before the unethical agent receives significant compensation. In a disturbing study conducted in the United Kingdom (where insurance compensation issues have often preceded those in the United States), the Consumers� Association found that among a sample of financial planners (which included insurance agents and brokers), one in five gave detrimental advice to people. That detrimental advice would have almost always led to higher commissions for the planners than they would have received by giving more beneficial advice, the association said.
In a mild compromise between the traditional commission system and consumer protection, some insurance companies now pay their agents a first-year commission based on an agent�s total business in a given time frame instead of rewarding the employee for each individual sale. It has not yet been determined if this has made a difference in producers� dealings with consumers.
Due in part to unethical conduct by some insurance producers and the resulting bad publicity, many companies have at least considered changing their compensation systems to one involving �levelized commissions.� Under this form of compensation, an agent who might have normally received a 50 percent first-year commission and little else afterward would instead possibly receive a 15 percent commission for the first five years of a policy and a smaller commission in later years.
Because the levelized commission spreads itself out over several years, the producer-consumer relationship can differ greatly compared to the relationship in the first-year system. Whereas first-year commissions can tempt an agent to snag a client, make a sale and then concentrate on finding another fresh buyer, levelized commissions inevitably emphasize service to existing clients. The agent�s continued commission is tied on a long-term basis to the individual consumer, and the agent does not want to lose the client to a competitor.
In some ways, the levelized commission system is like an annuity, giving the agent a dependable, small income each year. That dependability can serve an agent well during dry spells when industry-wide sales slump or when an experienced seller simply suffers through some bad professional luck.
Still, it may seem silly or even unacceptable to some agents when they have devoted a large portion of their energy to a recent sale and are paid for that work in yearly installments, as if their employer were buying a car or paying off a loan. New agents, in particular, might find themselves struggling with levelized commissions because they have not worked with enough clients to keep the money coming in.
Under these circumstances, one hopes that insurance companies find ways to take care of promising young agents who might consider leaving the industry if they believe they will have to wait too long before they start making good money. Some companies who favor levelized commissions have addressed this issue by increasing base salaries for new agents or by providing them with allowances to cover various expenses.
The rookie independent agent, who does not receive a salary and is not affiliated with a particular company, is probably the person least likely to endorse levelized commissions, since compensation from the first year might hardly constitute much of an income.
With levelized commissions encouraging agents to devote more of their time to helping existing clients, one may wonder if this compensation method hurts insurers by sacrificing sales for service. Agents should keep in mind, however, that ethical customer service to existing clients can serve as a great sales tool. The customer who trusts the agent who sold him a homeowners policy and who knows he will receive excellent service from that agent is more likely to go to the same agent when he wants to purchase a life insurance policy or some other form of coverage.
Consumers who come to trust an agent or broker are also likely to recommend that agent or broker to friends and colleagues. Meanwhile, the added service element of levelized commissions ideally benefits the insurance company by minimizing cancellations and not forcing the organization to replace an old account with a new one. Insurance companies undoubtedly want to increase overall sales, but it is still cheaper for the company to process a renewed policy than to process a new one.
The fear surrounding levelized commissions and new agents� aversion to them contrasts with the reality at Acacia Mutual Life Insurance Co., where, beginning in the mid-1990s, all agents were compensated through some form of a levelized commission. A year after implementing the new compensation system, the company suffered no significant, permanent loss of agents, as reported by National Underwriter.
Some insurers have packed additional incentives into their levelized commission plans in order to make them more attractive to hesitant agents. The Wall Street Journal reported John Hancock was prepared in January 1997 to offer agents the option of receiving commissions of up to 12.5 percent during a policy�s first five years, at least 4.5 percent in additional years, plus sales bonuses, renewal bonuses and allowances.
But the acceptance of levelized commissions among insurers has been lukewarm and slow overall, partially due to legal issues. A long-standing New York regulation defined agent compensation strictly enough to initially prevent insurers from trying levelized commissions in that state. In time, New York granted insurers more leeway in regard to compensation, but even after the occasional state-level challenge, levelized commissions are still not nearly as prevalent in the United States as they are in other countries, such as Canada.
Many financial planners have a long history of charging fees for their services instead of commissions, but it has taken longer for fees to become popular in the insurance industry. Perhaps best-suited to the broker-consumer dynamic, fee compensation tends to involve a greater understanding between parties that the professional is receiving compensation in part for his or her specialized knowledge and experience.
A professional who charges a fee is also likely to focus on providing specific services to customers. This might mean that consumers are charged a certain amount if the insurance producer handles a claim for them and a separate amount if the producer handles a renewal. Or it might mean that the professional has itemized all the services he or she will perform for clients, totaled the prices for all of those individual services and arrived at a flat fee for consumers to pay.
From an ethical standpoint, fees lessen the potential for real or perceived conflicts of interest. Because the insurance producer does not receive a commission, consumers need not worry so much about being sold policies that they do not need or want. The compensatory fee is known to all parties from the beginning of service and will generally not change no matter how much a person ultimately spends on insurance policies.
Like agents who work for levelized commissions, insurance producers who make their livings through fees will struggle to survive without conducting business in an ethical, service-oriented style. They still must use sales skills, but instead of selling policies, they are ultimately selling themselves and trying to make the case that they are worthy of advising the public in policy decisions.
Some consumers like the fee system because fees can be less mysterious than commissions. When someone�s money goes toward a commission, that person is almost never aware of exactly what services are being paid for with those dollars. A consumer might wonder what the agent actually did or will do to earn an 80 percent commission during the first year of a life insurance policy. When a commission does not seem to add up to the amount of service provided by the agent, the policyholder might feel cheated. Fees, on the other hand, can allow consumers to see exactly what they are paying for: Service X at a set price and Service Y at another.
Detailed disclosure, perhaps the most beneficial aspect of the fee compensation system for the public, also represents a major reason why many insurance producers dislike charging fees. Unless the fee is derived from some sort of hourly rate, the insurance producer must face the difficult task of assigning some sort of price to every service provided.
Among the many tough questions for these professionals are the following:
� How much is advice really worth in dollars and cents?
� How much should a person charge for handling a claim or for making a phone call on a client�s behalf?
An astute businessperson takes the time to figure out how much services really cost, but for the insurance professional with nothing but an agent�s background at a huge company, making those price determinations can be very difficult. That difficulty only grows worse when the producer deals with consumers who wonder why they have to pay a set amount of dollars for a service that would have been included in a traditional commission-based transaction.
Even though producers display excellent ethical character whenever they disclose costs to consumers, they must always prepare themselves for disagreements about the price and value of those services.
Insurance producers have utilized other compensation systems besides traditional first-year commissions, levelized commissions and fees.
Though a rarity in the insurance business, a few companies discourage most kinds of sales bonuses and instead pay their employees primarily on a salary basis. For the agent, under these circumstances, there is little opportunity to supplement one�s income with sales commissions, but the ethical concerns of consumers are bound to be at a near low as a result. Salaried employees have few reasons to manipulate or trick potential customers into buying insufficient, excessive, needless, deceptive, or outrageously priced policies, and the public is smart enough to realize that.
Norwich Union, the largest insurer in the United Kingdom, said in 1994 that it would stop paying its sales staff solely through commissions.
�We�ve carried out market research that shows that customers have more confidence in sales consultants on salaries than in commission-only salespeople,� a spokeswoman told National Underwriter at the time. �Rather than pursuing new business, we want to develop our existing, warm customer base and good, quality business, which stays with us.�
One insurer, Life USA, has compensated independent insurance agents with stock every time they make a sale for the company. An independent agent confronted with such compensation must consider the ethical questions involved with accepting that reward. In this case, is the agent obligated to tell consumers about any financial interest he or she has with an insurance company? Does the agent�s �independent� title become meaningless? Will consumers assume the agent is intentionally steering them toward the insurer who is offering the stock regardless of what they need, want or can afford?
Some agents and brokers will have opportunities to choose their form of compensation. These professionals should consider all of these mentioned compensation systems and weigh their strengths and weaknesses on both personal and societal scales.
Other professionals will always have their payment method chosen for them by employers, but that is no reason to ignore the ethical issues involved with compensation. Whenever possible, professionals should gravitate toward an employer who clearly upholds ethical principles that are similar to their own. When that is not possible, a professional should at least call attention to compensation systems that might prevent him or her from earning the public�s trust.
No one wants to feel ashamed of making money, and as long as insurance producers receive compensation that ethically befits their service, they can enjoy the fruits of their labor with a clear conscience.
There is obviously more of a personal incentive for agents to sell a policy that would net them a large commission instead of a small one, and although most insurance producers do their jobs independent of personal motives, enough selfish agents and brokers have forced the public to sometimes grow suspicions of a producer�s solicitations.
Many people within the insurance industry believe sellers of policies should disclose the commissions they earn, either during the sales presentation or upon the buyer�s request. It is felt that this would serve to protect consumers and put their minds at ease. Some people say this disclosure helps insurance customers evaluate the information and advice that an agent or broker gives them.
In most cases, a producer�s commission does not expose overwhelming personal bias. It is likely that even an agent who made a 90 percent first-year commission on a high-priced life insurance policy treated the corresponding customer fairly. But commission disclosure helps insureds evaluate the potential for personal bias on their own and gives them at least one more tool to use as they attempt to make an informed decision.
The Case Against Commission Disclosure
Many insurance professionals have no qualms about disclosing their commissions, but just as many seem reluctant to do so, citing matters of practicality and principle.
Some agents and brokers believe commission disclosure can confuse the consumer and detract attention from more important issues. Once they know an agent�s commission, consumers might focus too much of their attention on that figure and ignore other important elements of the agent�s sales presentation, including a policy�s depth of coverage and other features that could benefit buyers.
Also, if commissions become public knowledge, competitors might use compensation as part of their sales pitches. One agent might try to convince a customer that another agent�s commission is too high and ethically questionable.
Some producers have even wondered if the push for disclosure is, in fact, part of an attempt by insurance companies to lower agent commissions. Allegedly, if consumers learn how much an agent makes from a sale and enough of them respond unfavorably, parent companies will have an excuse to pay agents less and increase corporate profits.
Particularly when regulatory bodies or trade associations debate mandatory commission disclosure, some insurance producers who oppose such measures point toward fairness. To them, forcing agents and brokers to disclose commissions seems unfair while professionals in the banking industry, who sometimes sell insurance products, do not need to follow the same rule.
Similar logic applies in a more general sense as well. If the law does not require carpet salespersons or telemarketers for publishing houses to reveal their commissions, why should insurance producers be treated differently?
Unethical market conduct in the United Kingdom and Australia resulted in disclosure requirements for many producers in those parts of the world, and some observers linked lower sales figures and decreases in the agent population to the changes. (According to National Underwriter, though, U.K. sales had fallen before the disclosure requirements went into effect.) Perhaps those observers made a valid connection between disclosure and sagging sales, but the ethical insurance producer must consider more than the financial bottom line when forming opinions and making decisions.
The Case for Commission Disclosure
Our culture seems to teach us that it is rude to ask people how much money they make, but one can argue that an agent or broker is ethically obligated to reveal commissions to consumers. It is the consumers, after all, who fund commissions in the first place through their premiums. Though lower commissions do not necessarily mean cheaper policies for the buying public, a person who inquires about commissions is probably acting like a smart shopper.
Agents and brokers should consider their own buying histories and think about the times when they seriously wondered how the money they gave to a business, charity or other entity was actually being spent. Whether or not they ultimately choose to reveal their commission rates, professionals should realize the information indeed relates to the consumer in some way and is therefore not as personal as many producers might like to think.
Dealing With a Consumer�s Response
For those agents who view disclosure as a matter of ethical responsibility, the practical challenge of dealing with a customer�s reaction still exists. No agent wants to argue about commissions or lose business over the issue. No one wants a customer to conclude a meeting by saying something like, �With that kind of commission, I�m better off buying my insurance on the internet.�
Even before questionable market conduct sparked the disclosure debate in this country, some agents did not have a problem with discussing their commissions with prospective customers, and many of those agents have said they can count the number of times they have been asked about compensation on either one hand or none.
On those occasions when a consumer does express displeasure after learning about a commission, the agent or broker might find it helpful to emphasize his or her special qualifications and expertise. Many consumers do not take the time to interview agents about their credentials, individual strengths or moral character, opting instead to initially go with whichever agent answers their phone call. If a commission seems like a barrier to a sale, the agent has an opportunity to fill in the positive information that the customer never bothered to investigate. At this point, if agents can accurately present themselves as ethical professionals, they may be able to turn their compensation into a meaningless point.
Most consumers probably do not realize they can sometimes negotiate with insurance agents and get them to accept lower commissions. �Rebating� is perhaps the most controversial practice in the insurance world that involves decreased agent compensation.
Agents who rebate will usually return anywhere between 50 percent and 90 percent of their first-year commissions to customers in exchange for doing business with them. In most cases, agents reserve rebating for big groups who purchase disability or life insurance policies, which tend to have high commission rates attached to them.
All states outlawed rebating during early parts of the 20th century, mainly to prevent large insurance companies from killing off smaller insurers who could not afford to offer returns on commissions. The practice remained illegal throughout the country until the late 1980s, when California actively changed its related laws and when multiple courts ruled that Florida regulations that prohibited rebating were unconstitutional. The remaining 48 states have not followed suit, and, in some cases, have taken even stronger stances against rebating since the developments in the two coastal states.
When Florida and California balked at tradition, insurers elsewhere began worrying that their local customers might purchase insurance through agents in those states and wait for their rebate checks to arrive in the mail. In response, Illinois, for example, made it illegal not only for insurers to rebate in the state but also for residents to accept rebates from agents in other parts of the country.
Even in those few places where rebating is legal, most agents who offer the discounts keep quiet about them and will not offer to return a portion of their commission to a client unless they are either asked directly about a discount or are competing against another person for the business.
Insurance companies get an obvious benefit from rebating when the clients they desire come their way because of an agent�s agreement to accept a smaller commission. Consumers get benefits, too, when rebating saves them money and nurtures enough competition to prevent price fixing. So why do so many people, including executives at some of the world�s biggest insurers, think rebating is such a bad thing?
One argument has remained the same since those initial anti-rebating regulations went into effect all those years ago. Depending upon one�s perspective, rebating might prevent price fixing and enhance a free market, or it might do just the opposite.
To understand this point, consider, for a moment, the heated debate in this country about large discount retailers. A person on one side of the argument might say that Wal-Mart and similar stores help the market and consumers by offering products at a low price and challenging other businesses to lower their prices in the spirit of healthy competition. Another person with an opposing point of view might say those retailers actually endanger a free market and could ultimately hurt consumers by driving other stores out of business, limiting consumer choices and slowly but surely gaining the power to fix prices as each competitor fades away.
Another ethical factor brought up by people who oppose rebating is the practice�s alleged potential to create discrimination. Unless an insurance company or an agent gives rebates to all customers, some people obviously end up paying more for coverage than others.
Carriers who offer rebates should consider a popular principle that guides many ethical insurers: Whether consumers are black, white, male, female, young, old, married, single, employed by a small company or part of a big corporation, the prices they pay for insurance should be determined by their risk potential and nothing else.
Despite the alleged problems with rebating, some high-ranking members of the insurance and legal worlds have viewed the practice differently. In Dade County Consumer Advocate�s Office v. Department of Insurance and Bill Gunter (the 1984 case that has served as the legal precedent for rebating in Florida), the Court of Appeals of Florida, 1st District said rebates did not jeopardize insurers� solvency, that rebating is �fair� and that it �does not constitute undesirable discrimination in a free market economy.�
No matter how an insurer feels about rebating, the competing legal views on the subject�with Florida and California at one end of the issue, and the rest of the country at the other�present the insurance professional with many important ethical choices.
Some producers will conclude that even if they disagree with the rebating regulations in their state, the law must be followed without question or deviation. Some people living in places where rebating is permissible might still not engage in it, believing that ethical issues like potential discrimination, as well as the possibility of negative market disruption, should take priority over the benefits of selling more insurance.
Other producers in those states might conclude nearly the opposite, that an ethical obligation to serve consumers by getting them the best prices possible should guide their conduct and that the rules in Florida and California make the insurance world a safer place for the public.
Some people in Florida and California might feel ethically obligated to work toward changing their state�s laws to be more like the rest of the country. Conversely, many professionals in the other states might feel ethically obligated to work toward changing their laws to be more like those in Florida and California.
It�s not surprising that insurance professionals have uniformly passionate, yet ultimately wide-ranging views on this issue. Ethical insurance professionals are not pre-programmed robots. They question their own actions, as well as those of their employers and peers, while also thinking about consequences for themselves, consumers and their industry.
Contingent commissions. Kickbacks. Market service agreements. Placement service agreements. Double dipping. No matter what you call them or how you characterize them, commissions paid by insurance companies to brokers have created a tremendous stir over the past decade, raising questions about ethics and the law. Once considered prevalent mainly in commercial lines of insurance, these commissions have caught the attention of insurance regulators in several states and are now known to be common in various other lines as well.
This controversial compensation method, which we will refer to as the �contingent commission� method, tends to take on two forms. In the case of �volume override commissions,� insurance companies give a broker a bonus if premiums received from the broker�s collective group of clients exceed a set amount. In the other common contingent commission arrangement, insurers pay a broker �profitability-based commissions� if the broker�s clients prove to be low enough risks for the company to make a particular profit from their premiums. Volume override commissions tend to be most popular at big brokerage firms, while profitability-based commissions are generally more common among small brokerages.
When brokers� commissions became a major ethical issue, some longtime professionals had trouble making sense of all the fuss. Contingent commissions had been a part of life for insurers and brokers from as far back as they could remember. But based on subsequent surveys and even the stunned reactions of high-ranking government officials, it seems clear that people within the insurance industry had either explained the commissions to consumers poorly or had grossly misunderstood the public�s preexisting knowledge of them.
In an attempt to educate consumers, some brokers defend themselves by pointing out that commissions or other types of compensation (some known to the customer and some not) are common in many sales positions and professions, be it the video store clerk, the telemarketer or the insurance agent. But explaining and justifying contingent commissions solely in this way is probably not the best idea for brokers. This defense can potentially sound like an adult�s take on the childlike justification, �But everyone else is doing it.� This statement usually lacks enough substance to win many arguments.
More importantly, this way of thinking ignores the central ethical issue involved with contingent commissions for brokers. Based on the concept of agency, an insurance producer acting as broker for the insured is obligated to ultimately serve the insured�s interests and not those of an insurance company. Whether or not a conflict of interest actually exists, there is absolutely the potential for one whenever brokers accept compensation from insurers. Most consumers believe the broker they are working with should be representing only the consumer�s interest, and they become concerned when they realize the broker is being compensated by the insurance company.
When brokers receive volume override commissions, many consumers are forced to wonder if the insurance they buy through an intermediary is, in fact, the best available coverage, or if brokers are steering them toward certain insurance companies� products in order to reap personal rewards.
Similar logic holds true for any broker who accepts profitability-based commissions. Would a broker confirm the fears of the Consumer Federation of America and discourage clients from filing claims, all in the name of protecting a low-risk portfolio with a particular insurer?
Brokers who have accepted contingent commissions from insurers might not be guilty of wrongdoing, but they must understand that their actions have, at the very least, given the public reason to become suspicious.
They should also realize that if they demand commissions from insurance companies, they might perform an unnecessary disservice to the overall insurance market. Big insurance companies can probably afford to reward brokers for bringing business their way, but many small insurers presumably cannot offer quite as much.
Some brokers turn down contingent commissions, but those who take them say they deserve the compensation because their work and reputation help insurers fend off �adverse selection.� Adverse selection occurs whenever an insurance company lacks enough information about people�s risk potential to properly price coverage for them. If a company�s underwriting staff cannot paint a reasonably clear picture of a consumer�s risk potential, that person ends up paying either too much for insurance or not enough.
According to a study conducted by the University of Pennsylvania and sponsored by the American Insurance Association, a producer who knows the customer can sometimes notice levels of risk that an underwriter cannot detect. Also, to the benefit of both insurers and consumers, insurance companies sometimes trust a broker�s judgment enough to make more aggressive bids on policies for potential insureds who would otherwise pay more for coverage.
Among those people who recognize the potential for conflicts of interest when brokers representing consumers accept contingent commissions, some do not consider the compensation to be totally unethical. Taking a moderate stance in the debate, they have no problem with brokers who take the commissions, as long as the brokers disclose them to clients.
Yet, even within that group of people, arguments persist over what constitutes proper disclosure. One faction believes brokers should only need to disclose contingent commissions when their clients ask about them. This position corresponds to the way brokers must operate in the United Kingdom, where agents and consumers have long debated disclosure issues.
Other consumer-conscious individuals have wondered how well a �don�t ask, don�t tell� policy on contingent commissions protects the general public. In 2006, the International Underwriting Association of London discovered that 80 percent of corporate insurance buyers (the section of the population which first raised the issue) did not know brokers could accept contingent commissions. In 1999, the Risk and Insurance Management Society said it favored commission disclosure upon the customer�s request, but as state governments and regulators exposed more and more unethical market conduct that involved broker compensation, the association changed its position and now favors disclosure to all consumers.
Some producers say it is difficult to calculate the amount of contingent commission made from an individual transaction because many of the rewards involve cumulative sales over a long stretch of time, but some brokers have figured out how to do the math and how to explain it to their clients. Either through regulatory pressure or their own desire for disclosure, brokerages reveal contingent commissions on websites, in contracts and in other places.
Calculating contingent commissions for customers might require additional spending and more-detailed recordkeeping, but those might be small prices to pay in exchange for the public�s increased confidence in the insurance industry.
Though it is possible that contingent commissions were always fated to become an ethical concern for insurance producers no matter the personalities involved, New York�s former Attorney General Eliot Spitzer was probably most responsible for making the issue a highly publicized matter in the early 21st century. Influenced in part by strong lobbying from the Washington Legal Foundation, Spitzer instigated investigations of contingent commissions in multiple insurance lines, and regulators and politicians in several other states followed suit. Spitzer, in particular, was aggressively successful in getting major brokerage firms and insurance companies to cooperate with investigations and to acknowledge poor market conduct as it related to sales compensation.
Marsh and McLennan, one of the largest U.S. insurance brokerage firms at the time of Spitzer�s probes, received $845 million in contingent commission fees in 2003, proving that allegedly small rewards can add up to an indisputably significant amount of money. According to the Los Angeles Times, employees at one Marsh office said their employers discouraged them from setting clients up with coverage from a particular insurer because Marsh was in danger of reaching an agreed-upon cap on contingency payments from that company.
Spitzer also accused Marsh of �bid rigging,� a major ethical and legal violation in which a firm gives phony bids to consumers in order to mislead buyers into believing that the broker�s favored insurer has made the best offer of coverage.
Sometimes insurers cooperate with brokers in the bid-rigging process because they believe that if they give an erroneous bid in the present, brokers will obligingly send business their way in the future. Sometimes the insurer-broker relationship is tenser, with firms allegedly threatening to boycott a broker if he or she does not agree to rig bids.
In connection to the Spitzer investigation, one Marsh broker pleaded guilty to asking for rigged bids, and multiple producers pleaded guilty to providing them. Probes into Marsh�s U.K. division revealed no bid rigging, but, according to the Wall Street Journal, contingent commissions had some influence on the way producers performed their duties.
In the United States, investigations caused Marsh�s stock to plummet. Perhaps dreading the worst, the company stopped taking contingent commissions on new business, put expected commissions from old and existing business into a settlement fund and laid off approximately 3,000 employees. Marsh finally settled with Spitzer by agreeing to pay $850 million over a four-year period to customers who agreed not to sue the company.
In a separate matter related to bid rigging, Zurich Financial Services made an initial insurance bid and was told by an Aon broker that the bid could be increased and still represent the lowest bid for the consumer. Zurich eventually settled with three states for $153 million and for $172 million in a second suit filed by nine states. Aon settled with Spitzer for $190 million.
Other outcomes of the various probes into commissions and big rigging included an $80 million settlement with ACE, a $27 million settlement with Arthur J. Gallagher & Co. and guilty pleas from workers at AIG American General, who Spitzer charged with scheming to defraud.
In the aftermath of the Spitzer investigations, some brokers and agents endured suspensions, and some longtime employees lost their jobs. In the heat of the bad press and the lawsuits, some insurance companies and brokerages either put an end to contingent commissions at their places of business or agreed to phase them out.
Regulators and politicians in some states have proposed greater disclosure of contingent commissions and stiffer penalties for lawbreakers in the insurance community. California, for example, has proposed a $10,000 fine and loss of license for brokers and independent insurance agents who put their own interests ahead of a consumer�s needs and do not actively pursue the �best available� coverage for clients.
Even after all the media attention and the industry shakeups that Spitzer and state regulators have produced, there are no guarantees that contingent commissions will become things of the past.
Insurance consumers, assuming they know about the commissions in the first place, do not like these rewards to brokers, but some of them worry about the negative consequences that might materialize if the payments end. In the absence of commissions from insurance companies, brokers might raise their rates in order to keep making consistent profits. Insurance companies, too, might raise their prices because, if contingent commission arrangements end, the companies might lose business that would have normally been steered in their direction by favored brokers.
These are worthy concerns for the insurance producer, ones that can call for tough decisions about how professionals should conduct themselves. But that should not come as a surprise to the reader. After all, making a decision about ethics is rarely easy.
Sometimes the ethical thing to do is obvious, yet it asks us to sacrifice some of what we value, including greater financial success. At other times, the ethical choice is less obvious to us, and we struggle to decide on a course of action despite our good intentions. But with time, experience, continued study and constant thought, we can gradually become more confident that the hard decisions and sacrifices we make are professionally and personally the right ones.
All hardworking people deserve to make money, but true professionals understand that the quest for fair financial treatment for themselves must be balanced with their commitment to fair financial treatment of consumers.