FCA second consultation (CP17/23) on IDD implementation – (2)

Scope and Overview

This consultation applies to re/insurance firms and intermediaries. Certain aspects of the consultation will be of interest to ancillary insurance intermediaries.

This consultation covers:

1. Changes to the Handbook regarding life insurance business, which includes information provision requirements and additional requirements related to the distribution of insurance-based investment products (“IBIPs”):

• firms' general obligations;
• information disclosure to customers;
• inducements;
• suitability; and
• appropriateness.

2. Changes to the Handbook to implement requirements applicable to life and non-life insurance business, which includes:

• conflicts of interest;
• product oversight and governance (“POG”);
• organisational requirements relating to the protection of customers' money; and
• professional requirements relating to the good repute of employees of insurance distributors.

3. Other Handbook changes relating only to non-investment insurance business (including product information).

4. Consequential amendments to other parts of the Handbook.

Conflicts of interest

The IDD provisions on conflicts of interest are set out in full in our separate Annex. Articles 27 and 28 require insurance undertakings and intermediaries to have effective organisational and administrative arrangements in place to avoid conflicts leading to consumer detriment in relation to IBIPs distribution.

The FCA intends to maintain the current ‘gold-plated’ approach, i.e. by applying conflict of interest requirements to distributors of all types of insurance (including all life and general insurance business) rather than limiting the application to IBIPs business.

The FCA also intends to apply relevant existing rules (as amended following MIFID II implementation) to firms carrying on insurance distribution.

The FCA proposes to add new rules:

• SYSC 10 – arrangements put in place to prevent conflicts of interest should be proportionate to the activities performed, the insurance products sold and the type of distributor: <br/>Where a firm carries on insurance distribution activities, the arrangements in SYSC 10.1.7R must be proportionate to the activities performed, the policies sold and the type of insurance distributor the firm is or uses.<br/>[1]
• SYSC 3 – a new section (3.3) will be added to cover conflicts of interest requirements for insurers: <br/>A firm must take all appropriate steps to identify conflicts of interest that arise between: (1) the firm, including its managers, employees and appointed representatives (or where applicable, tied agents), or any person directly or indirectly linked to them by control, and a client of the firm; or (2) one client of the firm and another client.<br/> <br/>A firm must maintain and operate effective organisational and administrative arrangements with a view to taking all reasonable steps designed to prevent conflicts of interest identified under SYSC 3.3.2R from adversely affecting the interests of its clients.<br/>The arrangements in SYSC 3.3.3R must be proportionate to the activities performed, the policies sold and the type of insurance distributor the firm is or uses.<br/>If arrangements made under SYSC 3.3.3R are not sufficient to ensure, with reasonable confidence, that risks of damage to the interests of a client will be prevented, the firm must: (a) clearly disclose to the client the general nature or sources of the conflicts of interest (or both); and (b) include sufficient detail in the disclosure, taking into account the nature of the client, to enable that client to take an informed decision with respect to the insurance distribution activities in the context of which the conflict of interest arises. The disclosure must be made: (a) in a durable medium; and (b) in good time before the conclusion of the contract of insurance.

Product Oversight & Governance

The IDD provisions on product oversight and guidance (“POG”) are outlined in the Annex. As a high-level summary, the IDD provisions require firms to:

• maintain, operate and review a product approval process for new products, and existing products to which significant adaptations have been made, before such products are marketed or distributed;
• specify a target market for each product;
• ensure all relevant risks to the target market are assessed;
• develop a distribution strategy consistent with the target market;
• take reasonable steps to ensure the product is distributed to the target market;
• regularly review products, at least to ensure the product remains consistent with the needs of the target market and the distribution strategy remains appropriate; and
• make available all appropriate information on products and the product approval process to distributors.

The FCA proposes to apply all POG requirements:

"to all insurers and insurance intermediaries where those firms manufacture or distribute insurance products. This will include applying the requirements to all insurers, whether they distribute products directly or via intermediaries. We will also apply these requirements to firms which may not be within scope of the directive. We consider that these new requirements should apply to all firms involved in insurance product manufacture and distribution to create a level playing field of consumer protections, and to promote effective competition in the interests of consumers by avoiding competitive distortions”.

The FCA, in the course of implementing MiFID II, created a new sourcebook ‘Product Intervention and Product Governance sourcebook’ (“PROD”). The MiFID II requirements[2] go beyond those in IDD. The FCA proposes to add a new chapter (PROD 4) to implement the high-level principles in Article 25 IDD for insurance business. PROD 4 is set out in full in the Annex. This will replace existing Responsibilities of Providers and Distributors for the Fair Treatment of Customers (“RPPD”) guidance for firms within the scope of PROD.

The FCA will also use the MiFID II definitions of ‘manufacturer’ and ‘distributor’ with any necessary adjustments to give effect to the scope of IDD.

Further alignment with MiFID II

The FCA will compare the IDD Level 2/2.5 requirements with MiFID II requirements, and identify where MiFID II imposes additional requirements. The FCA will consider whether to apply these extra provisions in the form of guidance for firms conducting insurance business (they will be tailored if necessary for the insurance sector).

Organisational requirements relating to client money

Key IDD provisions regarding organisational requirements are set out in the Annex. Member States must protect customers against the inability of the insurance, reinsurance or ancillary insurance intermediary to transfer the premium to the insurance undertaking or to transfer the amount of claim or return premium to the insured.

The FCA intends to retain the existing CASS 5 regime:

“We do not propose to amend the current capital regime for insurance intermediaries or require a guarantee fund to be set up. Our view is that the existing… capital requirement (based on 5% of commission income rather than 4% of premiums) that applies to both insurance and mortgage intermediaries is sufficient to provide adequate protection to customers.”

The FCA proposes to make the CASS 5 regime mandatory for reinsurance mediation.

Professional requirements relating to good repute

IDD, like IMD, requires that staff working in a re/insurance undertaking or re/insurance intermediary are of good repute. This includes having a clean criminal record, and no history of bankruptcy among other requirements (see the Annex for the key IDD provisions). IDD also requires the insurance undertaking/intermediary to keep records in order to demonstrate compliance with the professional requirements.

The FCA intends to apply the professional requirements to all firms with Part 4A FSMA 2000 permissions that carry on insurance mediation activity, other than connected travel providers (this is a pre-existing carve out).

The FCA proposes to:

• Modify the existing good repute rules to implement the IDD requirements
• Move the rules from the MIPRU sourcebook to SYSC, in order to have all professional requirement provisions together in one sourcebook
• Introduce good repute requirements to all in-scope ancillary insurance intermediaries (“AIIs”) in relation to all natural persons responsible for ancillary insurance distribution
• Add the IDD record-keeping requirements to SYSC 23. This would apply to all firms to which the IDD good repute requirement apply.

Additional changes for GI business

Further to the proposals in CP17/7, the FCA outlined a number of additional changes required to ICOBS:

Product information disclosure requirements

Before concluding an insurance contract, IDD requires that firms provide the customer with information about the product in a comprehensible form to allow the customer to make an informed decision.

There are existing rules in ICOBS 6 regarding appropriate information to be provided to customers in order to make an informed decision.

The FCA proposes to:

• Keep the appropriate information rule in ICOBS 6.1.5R with minor adjustments to reflect IDD product information requirements. This rule will continue to apply to sales of non-investment insurance contracts to all customers.
• Rules regarding the responsibilities of insurers and intermediaries - Producing and Providing Product Information section – will be moved to ICOBS 6.1A. The IDD obligation that the IPID must be drawn up by the product manufacturer will be added to this section. In addition, there is a new requirement that product information be provided in a durable format, in accordance with the new means of communication rules in ICOBS 4.1A.
• Handbook Guidance will be provided to reiterate that information should be given to customers at a time when this will be most useful, and firms ought to consider the merits of providing a summary of the policy (including information set out in the IPID) for commercial customers (even where this is not required under IDD).

The FCA reiterated that firms should also develop product information in line with the Smarter Customer Communications initiative.

IPID

IDD introduces the requirement to provide an IPID, i.e. a short summary of the policy in a standardised format. See the Annex for the relevant IDD articles. An IPID is required for each new insurance policy, including renewals and those distributed as part of a package sale.

Similar policy summary document requirements are set out in ICOBS 6.

The FCA proposes to:

• Introduce a new rule in ICOBS 6.1.10A that IPID is provided to consumers in relation to general insurance contracts
• Retain the current requirement that, regarding payment protection contracts, firms must provide information on complaints processes and access to compensation schemes
• Retain the current requirement that a policy summary statement must be provided in relation to pure protection contracts
• Exclude large risks[3] contracts from the IPID requirements
• Transpose IDD requirements in Article 20(7) and (8) regarding IPID content. The FCA will replicate the Level 2/2.5 materials on IPID format/template requirements and apply this to firms, including those outside the scope of the IPID Implementing Regulation.
• Introduce Handbook Guidance regarding IPID. Other pre-contractual disclosures may be required, in addition to the IPID, such as ‘demands and needs statements’ and the FCA’s existing requirements regarding guaranteed asset protection products.

Use of third-party processors

Currently, ICOBS 1 provides that where a third-party processor provides services to customers, the information provided by the third-party is treated as though it were from the firm.

The FCA proposes to amend ICOBS 1 to apply this principle to IDD disclosures concerning remuneration. A third-party processor acting for an insurer would be subject to the disclosure regime required of the insurer.

Consequential changes to the Handbook

These are mainly consequential changes needed to cross-reference IDD provisions, rather than any substantive policy changes.

The FCA proposes to amend:

• Principles for Business (PRIN)
• Threshold Conditions (COND)
• Senior Management Arrangements, Systems and Controls (SYSC)
• The Fit and Proper test for Approved Persons and significant-harm functions (FIT)
• Interim Prudential Sourcebook for Investment Businesses (IPRU-INV)
• Prudential sourcebook for Mortgage and Home Finance Firms, and Insurance Intermediaries (MIPRU)
• Conduct of Business Sourcebook (COBS)
• Supervision Manual (SUP)
• Credit Unions sourcebook (CREDS)

Next steps

The deadline for responses is 20 October 2017. An FCA policy statement is expected to follow in December 2017.

The FCA intends to publish a third consultation paper in September 2017 (this will cover the approach to the Level 2 delegated materials).

[1] FCA CP17/23 Annex C, draft Handbook Instrument, SYSC 10.1.7A.

[2] They cover considerations for firms in assessing product charging structure and value for money, development of the target market and distribution strategy, multi-firm product development and information that manufacturers provide to distributors.

[3] FCA CP17/23 Annex A defines ‘large risks’ as “contracts of insurance covering risks…in accordance with article 13(27) of the Solvency II Directive”.