Indemnity commission

[Trevor]

Hi, I am trying to understand the concept of indemnity commission.

I am using the 2019 CMP
Under chapter 8, section 3.1, it says it is a lump sum payment from the insurer
The next paragraph (core reading) then describes it as "commission in respect of premiums that the insurer has yet to receive"
However in the ActEd text, it then describe it as:
"Indemnity commission involves the payment of the initial commission immediately when the policy is sold"

Am I right to interpret the ActEd text as, indemnity commission is an initial commission (IE) payment paid in advance, assuming they will actually sell policies in the future? (calculated as a discounted value of IE).

If so, what happens if the advisor fails to sell enough policies implied by the indemnity commission?
Clawback happens only for policies lapsing after sold, it doesn't mention for failing to meet sales target.

 

[Mark Willder]

Hi, I am trying to understand the concept of indemnity commission.

I am using the 2019 CMP
Under chapter 8, section 3.1, it says it is a lump sum payment from the insurer
The next paragraph (core reading) then describes it as "commission in respect of premiums that the insurer has yet to receive"
However in the ActEd text, it then describe it as:
"Indemnity commission involves the payment of the initial commission immediately when the policy is sold"

Am I right to interpret the ActEd text as, indemnity commission is an initial commission (IE) payment paid in advance, assuming they will actually sell policies in the future? (calculated as a discounted value of IE).

If so, what happens if the advisor fails to sell enough policies implied by the indemnity commission?
Clawback happens only for policies lapsing after sold, it doesn't mention for failing to meet sales target.

Hi Trevor

Indemnity commission is paid on policies that have already been sold. It is not paid in respect of expected future sales. The key thing to note is that without indemnity commission, the initial commission is not normally paid all in one go.

An example might help. We'll use the numbers in the question on clawback arrangements (I think this is page 10 in your version of the notes) and add some extra detail to this.

Let's assume that the term is ten years and the premium is 50 per month, ie 600 per year. The insurer pays a high rate of initial commission for the first two years of 5% and then a lower rate of renewal commission of 1% thereafter (so note that the initial commission is not paid all in one go). So if there were no indemnity commission, the commission paid would be 5% of 50 = 2.5 for the first 24 months, and then 1% of 50 = 0.5 each month for the rest of the term.

As 2.5 is a very small amount of day 1 commission, the insurer agrees to pay the initial commission as indemnity commission. So on day 1 it pays 2.5 x 24 = 60. Then if the policy lapses before the end of the 24 months, commission clawback is calculated as in the question in the notes.

I hope the example helps to clarify what is going on.

Best wishes

Mark

 

[Trevor]

Ah, I see. I think I understand it now:
Initial commission doesn’t necessarily mean an one-off full commission, it is only part of the whole commission payable early.
An indemnity insurance is only this part of the total commission paid in advanced, the remainder of renewal commission gets paid using the usual method.
Do I understand it right?

Also another further question is indemnity commission usually paid for life insurances? I studied SP2 and SA2 but haven’t come across this before. Shouldn’t brokers in both life insurance and health insurance incur costs to market their products?

 

[Mark Willder]

Ah, I see. I think I understand it now:
Initial commission doesn’t necessarily mean an one-off full commission, it is only part of the whole commission payable early.
An indemnity insurance is only this part of the total commission paid in advanced, the remainder of renewal commission gets paid using the usual method.
Do I understand it right?

Also another further question is indemnity commission usually paid for life insurances? I studied SP2 and SA2 but haven’t come across this before. Shouldn’t brokers in both life insurance and health insurance incur costs to market their products?

Hi Trevor

Yes, you've understood it right.

Yes indemnity commission could be used for both life and healthcare contracts. It isn't mentioned in SP2, but the SA2 glossary says:

"The payment of initial commission (particularly on regular premium products) to intermediaries, and occasionally other types of salesperson, is sometimes spread over a period of months, with the aim of encouraging the intermediary to ensure that contracts do not lapse shortly after entry. Many life insurance companies will, however, permit an intermediary to receive all the initial commission as a commuted amount at the start of a contract. In exchange, the intermediary agrees to indemnify the life company if the contract lapses before all the initial commission has been earned. This is known as indemnity commission. Due to the default risk involved, the life company should only pay indemnity commission if it is satisfied about the financial standing of the intermediary. "

Best wishes

Mark