FSCS changes: another kick in the teeth for brokers?

At first glance, the FSA’s consultation document on the future of the Financial Services Compensation Scheme (FSCS) is a mixed bag for brokers.

At 141 pages, the document will take the industry and Biba some time to sift through and digest, but early analysis suggests that while there are positives, parts of the document will feel like a kick in the teeth for insurance brokers.

First the good news. A current bugbear for brokers is that the FSCS budgets on an annual basis, meaning they only have a year’s notice if the organisation decides it needs to hike levies. The consultation document proposes a three-year budgeting process where the FSCS will determine the funds it needs in advance and charge brokers a third of this amount for each of the three years.

However, there are some parts of the proposals that brokers may find unpalatable. The FSCS works on a cross-subsidy principle, whereby if claims in one sub-class of financial services breach a certain threshold, other sub-classes face increased levies. This is one reason why insurance brokers ended up paying higher levies for banks’ mis-selling of payment protection insurance.

This cross-subsidy will continue under the proposed new regime. But general insurance brokers will no longer be cross-subsidising banks, insurance providers and life and pensions providers. Instead they will be in a pool of other companies regulated by the Financial Conduct Authority (FCA) along with investment providers, investment intermediaries and life and pensions intermediaries. But they will not be immune to problems in other intermediation classes.

Furthermore, the FSA has proposed raising the threshold cap on the insurance intermediation sub-class by 50% to £300m from £195m. Brokers might find this troublesome for two reasons.

Firstly, it fails to recognise the fact that insurance brokers have not been causing the problems that the FSCS is designed to pay for. They have never come close to breaching the current £195m threshold. Yet their threshold is being raised.

Perhaps more importantly, a higher threshold means general insurance brokers would have to pay more in the event of failures at other types of intermediary. Under the proposals, if one sub-class’s threshold is breached, the contribution from the others in the group is determined by the size of their threshold. At £300m, general insurance brokers have the highest threshold in the new retail pool, and so would have to pay more than their fellow pool members if something when wrong.

For example, the FSA document says, where a breach in the investment intermediation sub-class prompts the need for a £500m levy, investment intermediaries would have to pay £150m, with the remaining £350m coming from others in the retail pool. Insurance brokers would be on the hook for £164m, or 46.9% of the £350m.

By contrast, investment providers would pay 31.2%, life and pensions intermediaries 15.6% and home finance intermediaries 6.3%.

Brokers could be forgiven for being annoyed at this.

It should be remembered that the document has only just been issued, and many more observations, good and bad, are likely to emerge in the coming days. As a result, it is difficult to say whether the overall effect on general insurance brokers is positive or negative.

The good thing is that, as this is a consultation paper, brokers have until 25 October to assess the impact on them and express their feelings. Brokers would be unwise to waste this opportunity to finally create an FSCS system that does not unduly penalise them.