The Financial Conduct Authority (FCA) has published a consultation paper on insurance commission levels and the practice of brokers sharing commissions with landlords and/or property managers when arranging building insurance. The focus is on buildings with a residential element or with small and medium-sized occupants (although not exclusively). It follows Michael Gove, Secretary of State for Upgrading, Housing and Communities, who expressed “outrage” at the payment of hefty commissions and called for the practice to be “outlawed”. Here, we outline the key propositions that will impact real estate investors and highlight the risk that real estate commissions may soon be in trouble.
Back in September 2022, the FCA published a report outlining trends they identified in the multi-dwelling insurance market following the Grenfell tragedy in 2017. The review was carried out as a result of the marked increase in the cost of building insurance to residential tenants. The FCA’s key findings include:
- Increases in absolute commissions earned by brokers, freeholders and property management agents may be disproportionate to increases in service costs.
- Tenants are not customers under FCA rules or insurance contracts – so they are not automatically entitled to the same protections.
- There is a continued lack of transparency and disclosure of information about lessees from both the insurance and property sectors.
The FCA decided to carry out further analysis of the issues highlighted; consult on any necessary policy changes to address identified harms; and reviewing the activities of brokers receiving higher commissions. On 21 April 2023, the FCA published its further findings in a second report and at the same time published Consultation Paper CP23/8 on the insurance of multi-unit buildings.
What does the consultation cover?
The consultation seeks views on new obligations, including stricter disclosure rules, particularly in relation to distribution chains and commission sharing. This is because the April 2023 report found: “It is common for significant amounts of brokerage commissions to be shared with these parties, particularly property management agents and freeholders. The commission amounts shared with these parties increased during the review period in line with increases in the broker’s fee and commission.”
The direction is quite clear: the government opposes the continued practice of paying small and unjustified commissions from insurers, which are shared with landlords and property managers, where no obvious benefit is passed on to occupiers. The FCA needs to introduce new rules to address this concern, especially given that the amount of commissions can be significant and appears to be increasing.
By changing the rules, the FCA wants to ensure that:
- The interests of lessees are taken into account when insurers design their insurance products.
- Insurance rates represent fair value for lessees as well as freeholders.
- The remuneration of all parties involved in the distribution of insurance, including any commission payment, shall be in fair relation to the benefits provided to the lessees.
- Tenants have enough information to challenge bad practices and unfair costs passed on to them.
Who is affected by the consultation?
The new rules will potentially affect every party in the insurance chain regulated by the FCA. In real estate, this will be relevant to all regulated investors and landlords, as well as managing agents who are required to obtain or participate in the arrangement of multi-occupancy insurance. If you currently receive any portion of insurance commissions, you will be particularly affected by these proposed changes.
What are the key dates?
- Responses to the consultation are expected by 9 June 2023.
- The FCA intends to publish a policy statement in the third quarter of 2023 alongside its final rules.
- Implementation of the rules is expected to be three months after they were drawn up, so the new regime should come into force by January 2024.
How can we help?
We can advise you on your response to the consultation; the potential impact of the proposals on your business; and any necessary restructuring of your existing insurance arrangements to ensure they comply with the new rules.
Watch this space for further developments in this area. We will provide further updates on the responses to the consultation and the publication of the FCA’s policy statement later this year.