Expert view: Premium finance commissions – the FCA is asking questions

Call me boring, but I have stated on a number of occasions that the commissions that some brokers earn from their premium finance business are unsustainable.

I have stated that it’s simply unfair for a broker’s customer to pay a hugely inflated APR, simply because his broker has decided to add a completely arbitrary flat rate commission on top of the lender’s flat rate.

To use a bit of Latin for the cultured insurance broker market that will be reading this – this produces a reductio ad absurdum, as the broker’s flat rate commission becomes many multiples (yes that’s 100s of % more) than the lender’s flat rate.

Not only is it unfair to the broker’s customer, it is also unfair to the lender. The vast majority of the income from the lending activity is actually paid out in flat rate commission to the broker. The lender takes the capital risk, liquidity risk, regulatory risk and operational risk for the lending, but the broker makes all the return. It makes no commercial sense.

So broker’s flat rate commissions for insurance premium finance are not fair to the broker’s customer and not fair to the lender providing the insurance premium finance. I have stated on a number of occasions that this state of affairs is not sustainable in a fair, open and transparent market.

Enter stage left the FCA. 

The FCA don’t seem to be fans of broker’s charging excessive commissions. A recent FCA paper dated March 2018 states the following and will make interesting reading for all those involved in the financing of insurance premiums:

“Some types of commission arrangements can provide incentives for brokers to arrange finance at higher interest rates for their customers. We are assessing whether the risks are adequately controlled by lenders, to minimise the potential for harm to consumers … We are also testing whether commission structures have led to higher finance costs for consumers, because of the incentives they create for brokers.”

The FCA’s remit appears clear and they will complete their review by September 2018.

I think it is quite simple isn’t it. All premium finance commissions are calculated on the basis of an additional flat rate on to the lender’s flat rate. There is a clear and undisputable incentive for brokers to arrange finance at higher interest rates. Further again, to keep this as simple as possible, the addition of commissions to the flat rate of a customer has led to higher finance costs for consumers. Therefore this is unfair to consumers. QED.

Take away the incentive and the finance rate to customers will be reduced and this will be fairer to consumers. Insurance premium finance is an add on product that earns commission for a broker in addition to the commission the broker earns from providing insurance. 

At the moment the balance is too far weighted in favour of the broker. 

The FCA have started work on redressing the balance. 

The main income received from premium finance should be to the lender, who is taking all the risk of the lending. If a broker wants to earn income from premium finance they should be a lender, not a broker – it’s as simple as that.