PSAs under scrutiny
The opaque, but growing, practice of brokers charging payments from insurers to place business with them has been attacked by an influential US think tank as “potentially damaging”.
The Washington Legal Foundation (WLF) urged senior industry regulators, including the New York attorney general Eliot Spitzer, to investigate “conflicts of interest” which arise from Placement Service Agreements (PSAs), often called overriders.
Despite the relatively tough pricing environment of recent years, PSAs have become increasingly popular with (re)insurers prepared to pay fees to brokers in exchange for the provision of certain services, such as claims administration. But despite the ostensible justifications, it is evident that (re)insurers are paying sums in exchange for ensuring desirable business is placed with them. Opponents argue that these payments, which are off-slip and therefore not always disclosed to the client, lack transparency and can create conflicts of interest.
On 10 February, 2004, WLF chairman and general counsel Daniel J Popeo said the use of PSAs compromises a broker’s duty to the client’s best interests by encouraging brokers to refer business only to companies that pay them handsome contingency fees. “This is a troubling trend in the insurance brokerage industry,” remarked Popeo. “Insurance brokers are paid to advocate for their customers, not themselves.”
And although some argue that full disclosure is sufficient, Popeo is not convinced. He argued that even “open disclosure of PSAs may not entirely solve the conflict of interest because clients would have to question whether the brokers’ recommendations were prompted by integrity or influence”.
This is not the first time PSAs have been criticised. Earlier this year, analysts at JP Morgan warned that PSAs “can create the appearance of factors other than the best interests of the insured being contemplated”. Indeed, there are even fears that regulators - and plaintiff attorneys - may see similarities with the practices in the mutual fund industry which are currently being examined by the US Securities and Exchange Commission.
The practice is prevalent among larger insurance brokers where their buying power is most intense. However, five years ago Aon – the world’s second largest insurance broking group – won plaudits after acknowledging client concerns by drawing up service agreements and promising greater transparency. In its 2001 Client Services agreement, it draws a distinction between legitimate, disclosed PSAs and overriders: "To avoid conflicts of interest we do not accept incentives from insurers to place business with them – these incentives are sometimes called 'overriding commissions' or simply 'overriders'," the Charter explains. It continues: “Insurers may also pay Insurer Services Brokerage or other remuneration for the work we do for them. The standard level of this brokerage is 2.5 percent of premium but depending on the services provided, higher levels of brokerage, or fees, could apply."
In its complaint - which in addition to Spitzer was addressed to the New York Superintendent of Insurance Gregory V Serio, California Attorney General Bill Lockyer and the California Insurance Commissioner John Garamendi - the Washington Legal Foundation also expressed concerns about the similar practice of “leveraging”.
Also called “tying”, leveraging describes the practice of insurance companies being coerced into handing over their reinsurance needs in exchange for accessing desirable business. According to the WLF, the National Consumers League called for an investigation into leveraging last month and, with increased scrutiny of PSA, it is “ripe for abuse, if not carefully watched”.