Hot on the heels of the mis-selling scandals involving pensions and endowments comes the issue of payment protection insurance - a bubble waiting to burst, says Simon Burgess
The mis-selling of payment protection insurance (PPI) is a subject that many in the insurance industry are no doubt tired of hearing about. We know it's a big issue, we recognise the blame sits squarely at the door of the banks and building societies who sell over 80% of the policies and we are frustrated that their actions are tarnishing our image.
A tarnished image is one thing, but if there was a torrent of mis-selling claims it could also impact upon our industry financially. I predict that around half of the 20 million PPI policies in the UK have been mis-sold and if claims are upheld, it could cost the PPI sector around £10bn.
With the OFT, FSA and the plethora of consumer groups all expressing concerns around low claims ratios, high commission rates, price differentiations and product variations, it won't be long before consumers realise they should be following in the footsteps of those who were mis-sold pensions or suffered endowment shortfalls.
At the height of the endowment scandal, the FSA handled 1.5 million complaints and took enforcement action against 10 firms. Over £2.3bn was paid in compensation and more than 32 million endowment factsheets were distributed to consumers.
The big issue
While the FSA would never put PPI mis-sales in the same category as pensions or endowments, it does concede it is a big issue and agrees that to sell a policy that cannot be claimed upon is unacceptable.
In August, the OFT cited low claims ratios as a cause for concern (the median claims ratio for PPI is 17%, compared to 74% for motor and 55% household) and claims management firms were quick to point out that PPI policies were not devised to be claimed upon.
The main PPI policy exclusions, stress and backache, are the main reasons for work absence in the UK and, back in 2001, media reports suggested that 50% of all illness may be due to mental causes. You can understand why claims management firms conclude very few people would ever be able to claim on their PPI.
Now let's add selling by stealth and exorbitant pricing into the equation and it is clear this simmering pot of discontent is likely to boil over. OFT research confirms that 87% of unsecured loan providers automatically include PPI in their quote and 90% of consumers buy PPI at point of sale from their credit provider. It comes as no surprise to find banks and building societies have sales point scoring systems with loan PPI as one of their best earners.
According to Moneyfacts, loan PPI is around three times more expensive than other products. Lenders will argue it's because life assurance is included, or there's a greater exposure to risk as it covers the lifetime of the loan instead of the standard 12 months, but at the end of the day, there isn't a bona fide reason for these premium hikes.
Defaqto calculated the cost of borrowing £5,000 over four years and added the average PPI premiums onto the lifetime of the loan (reflecting a common business practice).
Feedback suggests that consumers would end up paying between £670 & £2,500 in premiums (including interest) on top of their original loan and in many cases, to recoup this extra cost, a claimant would need to be unemployed or sick for at least one and a half years out of a five year period.
No wonder claims management firms are moving their marketing campaigns up a gear to raise consumer awareness of the gross profit and poor value issues raised by the OFT and other bodies. And once consumers do begin to put their PPI policies under closer scrutiny, they might find they have indeed fallen victim to mis-selling, are paying over the odds for their cover or have not been made aware of certain medical or employment exclusions.
Greater consumer awareness, says the Financial Ombudsman Service, will be the catalyst for making a claim. It believes consumers will undoubtedly react to the swell of evidence before them.
Although the number of PPI cases handled by the FOS is low compared to other general insurance products, the numbers are creeping up. In 2004/2005 the FOS handled 836 PPI complaints, which rose to 1,315 in 05/06. While this figure does not equate to travel (1,800), buildings (1,900) or motor (3,400), it does represent an increase of around 60% in a year.
Biba and Defaqto agree that there is potential for a high volume of claims and the FOS is already voicing concerns about the high incidence of inappropriate sales among the PPI cases it handles.
It upholds more than is the norm - one third of cases are generally upheld, but with PPI the figure rises to around half. In 2001, the FOS warned: "Complaints reaching us show that sufficient care is not always taken to ensure the suitability of policies for prospective policyholders. Restrictions which significantly limit the cover available are not always made clear before purchase and the exclusion of claims for mental illness is something that causes us particular concerns."
Defaqto, some five years later, is sadly reporting a similar experience: "The definition of pre-existing medical conditions is not being explained and in some cases, consumers are not able to check policy conditions unless they take out the cover first."
If consumers are encouraged to seek redress, either because of increased media coverage or high profile claims management marketing campaigns, those selling the policies only have themselves to blame. However, those with robust paper trails who demonstrate they treat customers fairly have nothing to fear.
The FOS says PPI mis-selling is "always on its radar" - shouldn't it be on yours?
Simon Burgess is managing director of British Insurance