AFRM Referral Partner Newsletter - 4 November 2020
As noted at the end of last month’s newsletter, on 30 September 2020, APRA released its Final individual disability income insurance sustainability measures, in a letter to insurers. These final measures were the culmination of feedback from the industry and consultation with interested parties. It included a delay to the implementation of several of the measures to 1 October 2021 and modification to previously proposed requirements. While insurers are currently working to determine what their new product offerings will be, one thing is certain ‒ Income Protection contracts (IP or IDII) will be significantly different from 1 October 2021. At AFRM, we pride ourselves on the claims management service we provide our clients and in our view the upcoming changes will have a detrimental effect at claim time for new IP policies post-1 October 2021 (At this stage, we believe the terms of any existing policies will remain unaffected). That said, as we have previously reported, the economic sustainability issues in the IP market are real and must be addressed to preserve the IP market into the future. Post 1 October 2021, we will essentially see a two-tiered market with one tier comprising existing IP policies that will (all things being equal) pay more on average at claim time than the second tier which will be the new IP products introduced to the market. Pricing differences between these two tiers will reflect the difference in claims payouts (with existing products likely having a higher cost than the new products). On 30 September, APRA announced it had modified its requirement for income at risk for new Income Protection contracts to be based on the 12 months annual earnings immediately prior to a claim. On this issue, APRA’s 30 September letter to insurers now states:
“…APRA recognises that income may vary considerably from one year to the next for certain segments of the workforce. Where income is subject to such variability, APRA considers it appropriate for the income at risk to be based on the average earnings over periods longer than the 12-month period prior to the time of claim event.”
However, for policyholders with “a predominantly stable income” the income at risk for new Income Protection contracts will – as the original proposal stated - be based on annual earnings for the 12 months immediately prior to the claim event.
So, we count that decision as something of a “win” for common sense. Although it must be noted, this final ruling by APRA is stricter than the better policies currently in the market that allow for a much wider array of earning periods, thus allowing claimants to maximise benefit payments upon claim.
APRA also modified its original approach to caps on income replacement benefits.
Under its original proposal, from 1 July 2021, insurance benefits, and other earned income, would not exceed 100 per cent of the policyholder’s income for the first six months of benefit payments. And insurance benefits, and other earned income, would not exceed 75 per cent of the policyholder’s income for benefit payments that are longer than six months.
In the 30 September letter, APRA announced changes to Income Protection policy benefits as follows:
“With effect from 1 October 2021, APRA expects that, for all new IDII (IP) policies issued by life companies:
“2.1 insurance benefits, taking account of all benefits paid under the IDII product, do not exceed 90 per cent of earnings at time of claim for the first six months of the claim and do not exceed 70 per cent of earnings thereafter;
“2.2 indexation of benefit payments (before income offsets are taken into account) to the claimant throughout the claim duration should be limited to a suitable inflation index;
“2.3 payments to third parties to support return to work initiatives focused on rehabilitation and retraining (to the extent that it is possible under current legislation) may be made in addition to the above income replacement limits; and
“2.4 where superannuation contributions are excluded from income at risk, any insurance benefits related to these contributions can be paid in addition to the above income replacement limits. In all instances, insurance benefits related to superannuation contributions should be paid into a superannuation fund and not to the claimant.”
AFRM believes the inclusion of the exemption of a cap on benefits where those funds are being paid to a third party “to support return to work initiatives focused on rehabilitation and retraining;” is also an improvement on the original proposal.
After-all, if someone can return to work (as long as that is the right choice for that individual) with additional support, the social and mental health benefits for claimants is critically important.
Therefore, we are particularly heartened by this remark:
“APRA acknowledges the value of benefits that support rehabilitation and/or, where appropriate, retraining of a claimant to facilitate a return to employment. Provided such benefits are targeted to support areas of rehabilitation and retraining, and are paid directly to third party providers, they need not be constrained by income replacement limits.”
We also believe the stated intent behind the five-year contract term has merit:
“APRA wants to ensure that there is an appropriate mechanism to keep products in step with changing circumstances, both in respect of changes in the circumstances of individual policyholders and broader societal and economic changes.”
However, the devil will be in the detail of how this will practically work upon implementation.
The potential for a reduction in the percentage of income replacement for long-term claims certainly creates an incentive to use the initial stages of the claim benefits to return to wellness as soon as possible/practicable – again a desirable outcome from a health and wellbeing perspective.
Such a scenario ‒ and the added complexity in claims management it brings ‒ will make it even more critical to work with an experienced claims manager, such as AFRM, with the scope of expertise to provide personal support and guidance to the claimant through the entire claim process, thus helping to protect the claimant’s mental and emotional wellbeing as much as possible.
Interestingly, APRA acknowledged that it received submissions suggesting the implementation of five-year contract terms would lead to “lack of certainty on the terms of coverage over the long term.”
Here’s its final word on Income Protection policy five-year contract terms:
“With effect from 1 October 2021, APRA expects that life companies only offer new IDII (IP) contracts where:
“3.1 the policy contract is for a term not exceeding five years;
“3.2 the policy contract may allow the policyholder the right to enter into new policy contracts upon the expiry of the existing contract for further periods (not exceeding five years), without a medical review, on the terms and conditions applicable to new contracts then on offer by the life company. Changes to the policyholder’s occupation, financial circumstances and dangerous pastimes should be updated on renewal and reflected in the new policy terms and conditions; and
“3.3 if and when the terms and conditions of IDII products are changed, such changes need to be endorsed by the board after consideration of advice from the appointed actuary. The advice should assess, among other factors, the impact of the IDII product changes on the sustainability of the product and fairness to existing policyholders with a renewal option (if applicable).”
So, as we have said in past newsletters, while a policyholder may have a policy offering benefits payable until the successful claimant turns 65-years-of-age, the term of the contract itself will only be five years ‒ renewable every five years.
Accordingly, APRA’s final determination is:
“With effect from 1 October 2021, APRA expects that life companies:
“4.1 have effective controls in place to manage the risks associated with long benefit periods, including specific product design features; and
“4.2 set internal benchmarks for new IDII products with long benefit periods which reflect their risk appetite and the effectiveness of their controls.”
Cause for concern is that no mention is made in the 30 September letter of the perceived conflict between:
APRA’s new requirement that after the initial five years, the terms and conditions issued on the new policy must be based “on the terms and conditions applicable to new contracts then on offer by the life company at the time of renewal” and;
the fact that this permission to allow insurers to remove or modify features and benefits under the policy is currently prohibited under The Life Insurance Act 1995.
In closing, we note that APRA also acknowledged submissions received:
“...highlighted a number of practical considerations, including the potential impact on the advice process, the persistency of policies over the longer term, implications for advisor commissions and level premium contracts, as well as the potential implications of pending legislation on unfair contract terms.”
What is concerning is APRA’s stated view that; “these matters are best dealt with by the industry, particularly those related to the management of distribution channels.”
One has to wonder what that actually means on a practical everyday business level?
We, at AFRM, would appreciate any insights our esteemed referral partners may be able to provide.
Sincerely, Rob Vitnell Acting Managing Director AFRM
"Chris is very knowledgeable in his field of expertise which ensured we covered off every known element to tailor the advice and select the most suited policy for me.
"Additional elements of covering my children was also a nice touch, as this was not something like I had ever considered going into this.
"...after establishing what my needs were Chris was able to provide me with solutions suiting my current situation, lifestyle and goals."
AFRM’s case studies over the past couple of years have focussed on client claims outcomes.
However, this time, we are focussing on the advice process itself.
We are providing an AFRM client’s review of the quality of advice and level of service provided by our Melbourne-based adviser, Chris Wlodarczyk.
This case study also highlights the importance of reviewing your financial risk management plan anytime your life circumstances change significantly.
Such was the case recently for Jason [name changed to protect client privacy]. A well-paid executive, with two children living at home, who had just finalised his divorce.
Jason had significant levels of Life and Total and Permanent Disability (TPD) cover through one of his two superannuation funds: each policy potentially paying benefits in excess of $2m. He also had Income Protection (IP) insurance through the same fund.
With his divorce finalised and all of the related financial matters settled, Jason wanted to start afresh on a new financial risk management strategy that reflected his current financial position and his desire to secure the financial future of his two children.
AFRM’s Chris Wlodarczyk was faced with an interesting brief. The issues Jason wanted analysed and addressed are summarised below:
All of Jason’s current insurance through superannuation was held within a fund with a relatively small balance that was being eroded by premiums of more than $5,500 per annum. Essentially, he had only kept the fund account active because of the Life and TPD cover it held.
Jason wanted to know how his current insurance through superannuation compared with other products in the personal life insurance market. Was it competitive? What would be some alternative recommendations?
Given he was now not married, Jason was wondering if he was now over-insured?
If Jason was over-insured, what are his options for reducing the annual cost of insurance premiums while still maximising the potential benefits? What are the trade-offs to be considered?
Given the limitations of his personal cash flow now being a single parent, would it be possible to have better and more cost-effective cover but have the premiums still paid out of a superannuation fund account?
What would the tax implications be on TPD benefits funded from superannuation?
Given his income had increased in recent years, Jason wanted advice as to whether the current level of IP cover was still adequate or relevant?
How much money does Jason need to set each of his children up with sufficient funds to put a deposit on a house or buy their first car?
He would need sufficient protection to cover the remainder of his mortgage (just under $500,000)
Now that he is divorced, could he structure his estate in such a way that, in the event of death or disability, the house would be directly inherited by his children?
Could AFRM quantify how much the medical costs might be in the event of suffering a permanent disability?
And finally, when considering the level of protection to be put in place, there had to be sufficient cover to fund the additional $100,000 that would be required to pay the private school fees required until both of his children finished school.
The issues listed above are a fairly typical set of considerations that AFRM advisers go through with our clients when undertaking discovery in order to develop a comprehensive financial risk management plan.
All of Jason’s needs were ultimately met. His existing policies under his minor superannuation fund were cancelled and new Life, TPD and IP policies were established through a new insurer.
However, he was able to split the payment of his premiums between his primary superannuation fund and his personal income in order to reduce the impact of premiums on his personal cash flow.
Thanks to AFRM’s adviser, Chris Wlodarczyk, the new protections put in place also offered extras through the new IP cover that allowed Jason to put in place financial protections for his children in case they suffered a significant trauma, became terminally ill and included a life insurance benefit for them also.
The resulting lump sum benefit is designed to cover the costs of looking after a very sick child, accessing the required medical treatment, any modifications to the family home or if the parent needed to stop work to be with their child.
So, after months of discovery and planning, Jason was happy with the outcome of AFRM’s advice.
How do we know? Because Chris asked Jason if he would be willing to answer six simple questions.
Jason’s responses to the questions are below:
How did you find the overall process of reviewing your insurance needs from beginning to end?
Excellent. Chris is very knowledgeable in his field of expertise which ensured we covered off every known element to tailor the advice and select the most suited policy for me.
Additional elements of covering my children was also a nice touch, as this was not something I had ever considered going into this.
Did you feel the advice provided reflected the needs of you and your family?
Yes, after establishing what my needs were Chris was able to provide me with solutions suiting my current situation, lifestyle and goals.
There was some back and forth with the underwriters on elements of my policy that Chris managed to have included when, early on, may have otherwise been rejected.
Did you feel there was sufficient communication with you during advice and implementation?
Yes. Absolutely, l was kept up to date every step of the way via Chris and everything was followed through via (AFRM Client Services Administrator) Estelle in a timely manner.
Would you like to see us do anything differently to improve the experience?
No, the experience was great for me, one that kept me engaged in something that can otherwise be deemed too difficult, not understood, or put in the too hard basket.
Based on the experience of dealing with AFRM and the quality of advice provided, would you feel comfortable recommending us to your friends or family?
Definitely recommend. I would have no hesitation in recommending Chris and AFRM in future, a very professional service being offered.
What was the most important benefit to you of receiving our advice? Peace of mind, Having the best cover for me/my family, Good value protection, Having it all taken care of by professionals, Knowing AFRM will assist at claim time, Other?
Peace of mind. All of the above most definitely, however peace of mind above all else to know the policy is in place now and is tailored to my needs.