The Insurance Regulatory & Development Board of India (IRDAI) has removed the limit on commission payments to be made to agents, brokers, and other intermediaries of both; life and non-life insurance. This move provides insurers with greater flexibility in managing their expenses by replacing the previous cap on commission payments with a board-approved cap. These regulatory changes were announced on March 28, 2023, and they will be effective from April 1, 2023.
Nonetheless, insurers must ensure that they stay within the Expense of Management (EoM) limit that they are obligated to follow. EoM is determined as a portion of the premiums received and comprises commissions as well as other expenses such as employee costs, technology expenditures, administrative expenses, and similar costs.
IRDAI has increased the management expenses for insurers, which will allow them to pay commissions of up to 100% of the total premium. For life insurance, the EoM limits are based on product categories. As per the new regulations, under the pure risk product category, such as regular premium term insurance policies with tenures of over ten years, the EoM limit will be 100% of the first-year premium. The expenses on renewal premiums can go up to 25%. For traditional policies such as whole life, money back, and endowment policies, the maximum limit is 80% of the first-year regular premiums and 17.5% during renewals. For single premium policies and annuity products, the maximum limit for life insurers is 5% of the total premium with additional expenses based on criteria such as allowance for head office expenses and Insurtech and insurance awareness.
Similarly, the EoM ceiling for general insurers is 30% of the annual premium and for standalone health insurers it is 35% of the annual premium with additional expenses subject to certain conditions. However, this does not include expenses related to the rural sector, Pradhan Mantri Suraksha Bima Yojana, Pradhan Mantri Fasal Bima Yojana, and costs associated with Insurtech and insurance awareness initiatives. Insurers must also follow a commission structure approved by the board from April 1, 2023, meaning that they must receive approval from their board on the commission structure of intermediaries within 45 days of each financial year.
While currently the agents, brokers, and other intermediaries have lower limits on the EoM, life insurance companies come up with methods to provide extra incentives to their agents through competitions, gifts, foreign vacations, and other similar rewards. However, now the regulator has notified that there will be no additional incentives for agents/brokers. IRDAI has clarified that it will cease payment of rewards after the implementation of these policies.
The IRDAI states that these changes are likely to bring about greater flexibility in product innovation and help increase insurance penetration across the country. The insurance industry is looking forward to a significant reform by IRDAI. This is indeed good news for insurance agents and brokers, and they expect it to have a favourable impact on the sector.
Since the regulator has directed insurance companies to pay the commission to their agents/brokers from their management expenses and they cannot charge the policyholders for the additional expenses separately, there will not be a direct impact on the cost to policyholders. However, insurance companies may indirectly pass on the cost of agent/broker commissions to policyholders through increased premiums in the future. This means that customers may end up paying more for their insurance policies due to higher expenses incurred by the insurance company.
The regulator and insurers believe that increasing the commission paid to insurance agents and brokers can help in increasing insurance penetration in the country as the agents will be motivated to sell more policies in order to earn a higher commission.
However, there is a potential downside to this approach. If agents and brokers are too focused on earning a higher commission, they may resort to unethical practices such as mis-selling policies to customers. Mis-selling can involve persuading customers to purchase policies that are not suitable for their needs or providing misleading information about the terms and conditions of a policy. The life insurance sector has a lengthy record of grievances relating to agents and bank relationship managers promoting unsuitable insurance products to individuals. For instance, senior citizens are often sold Unit Linked Insurance Policies (ULIPs) and long-term traditional endowment policies, despite the fact that higher mortality charges associated with older age groups can significantly reduce potential returns and ultimately impact the final pay-out. This highlights the need for effective regulation and oversight by the IRDAI to ensure that insurance agents act ethically and in the best interests of their customers.
Furthermore, the purpose of imposing limitations on commission and management expenses in the insurance industry is to ensure that insurance companies prioritise their primary responsibility of managing policyholders’ funds effectively and efficiently without incurring high expenses. The IRDAI is the regulatory body responsible for overseeing the insurance industry in India and ensuring that companies comply with these regulations.
However, these new regulations suggest that the IRDAI is playing a more developmental role rather than that of a regulator by actively working on increasing insurance penetration across the country. This could be a concern if the regulator prioritises the interests of the insurance industry over those of consumers or the general public, which could lead to a situation where the insurance industry is developing but without actually benefiting the people it is meant to serve.