FCA launches a market study into the pure protection market

Having committed to reviewing the pure protection market in August 2024, the FCA has now launched its market study alongside updated terms of reference. The focus is on fair value and commissions which is notable given that by the time the FCA publishes its findings we are likely to have both the Supreme Court decision in the MotoNovo Finance case and the Court of Appeal's decision in a judicial review of a FOS decision in the motor vehicle finance sector and the operation of discretionary commission arrangements. The market study will also be the FCA's first deep dive into the distribution aspects of the Consumer Duty in relation to in-scope products.

The pure protection market

In 2023 the pure protection market paid out around £4.85bn in claims under individual policies.  In 2022 it was estimated that 2.5 million new individual pure protection policies were sold in the UK, generating around £928m in premium for insurers.  It’s a large market but concentrated – in 2022 the top 5 insurers accounted for 70-80% of the market for critical illness cover, term assurance and income protection, and 90% in guaranteed acceptance over 50s plans.  The FCA notes positive indicators in the pure protection market including the relatively low level of FOS complaints and that over 95% of new consumer claims are paid out on some products.  Further, many medical conditions and/or additional services are included in the cover and the FCA notes favourable pricing compared to other developed countries.

Despite the FCA's acknowledgment of positive indicators in the market, it notes that the distribution of pure protection products "may not be fully effective" as a result of commission structures, competitive constraints and influence of other market participants on distribution. 

Terms of reference for the market study

The updated terms of reference set out the rationale and scope of the market study.  The products included in the review are term assurance, critical illness cover, income protection insurance and whole of life insurance (which includes guaranteed acceptance over 50s plans).  The market study will focus on these products and include an assessment of whether consumer outcomes align with those expected under the Consumer Duty and/or relevant FCA Handbook provisions under PROD. 

The FCA will look at the design and distribution arrangements and commissions for such products, fair value, impact of recent insurer exits, protection gaps and access to necessary cover, and barriers to investment and innovation.  Key areas of focus include:

Design of distribution arrangements and commissions

In 2023 92% of income protection and 83% of critical illness premiums for new sales were generated through intermediaries and so one area of focus for the FCA is the commission arrangements in place with such intermediaries.  In particular, the FCA will look at the size and structure of commissions, the incentives they create and the effectiveness of the FCA rules in mitigating incentives and conflicts of interest.

The FCA recognises that distributing through intermediaries is cost-effective for consumers and allows consumers to benefit from intermediaries' expertise and better market access.  However, the FCA has concerns around:

• Unnecessary re-broking – intermediaries seeking to earn repeat commission by encouraging customers to switch policies unnecessarily;
• Unsuitable product sales – selling products with insufficient or excessive coverage which are unsuitable for a customer's circumstances or failing to ensure consumers understand the importance of accurate declarations;
• 'Low quality' entry – whilst insurers paying commission upfront may encourage intermediary entry, it may also result in lower quality intermediaries entering the market;
• 'Low quality' leads – intermediaries buying low-quality leads (i.e. customers not genuinely interested in purchasing pure protection products) to get sales and commission as quickly as possible.

Fair value of some pure protection products

Here the FCA is concerned with high premiums compared to pay outs in relation to guaranteed acceptance over 50s insurance, noting examples where the total premium paid over a lifetime exceeded payouts by at least 50%.  The FCA is concerned that these products may not provide fair value for all consumers and notes that, for some, other products (e.g. underwritten whole of life insurance or funeral plans) may offer better value.  The FCA will look at the quality of the products/services provided to consumers and the overall price they pay and will examine this alongside the other outcomes and cross-cutting obligations under the Consumer Duty.

Protection gap and access to necessary cover

The FCA is concerned that individuals who fall outside the "healthy lives" definition, e.g. those with medical conditions, may find it more difficult to access affordable insurance.  The number of policy exclusions has also increased over time, which the FCA says has increased the pool of people who struggle to access suitable cover at an affordable price.  The FCA will also look at how vulnerable consumers are served and, if they are not, the reasons why.

What's next?

The FCA intends to publish an interim report and proposed next steps by the end of 2025.  As noted, this will likely follow the Supreme Court MotoNovo Finance decision and the Court of Appeal's judicial review of the FOS motor finance decision and it will be interesting to see whether these judgments have a bearing on the FCA's approach in the market study.  The interim report will also provide some useful insights into the FCA's thinking on vulnerable customers – a continued point of focus for the FCA – and distribution arrangements under the Consumer Duty.

Our financial services regulatory and professional and financial risks team are monitoring these updates closely and are working with a number of clients on consumer duty, credit and finance and broader issues affecting the insurance and financial services markets. Please get in touch if you would like to discuss or we can assist with anything.