APRA to hit life insurance companies capital punishment

Life insurance companies are to be punished by the prudential regulator with a series of ‘substantial’ new capital penalties.

Life insurance companies will be punished by the prudential regulator with a series of “substantial” new capital penalties, after showing “no discernible signs” of ­improving their businesses and losing an extra $1bn since the watchdog warned the industry to shore up its practices in May.

Customers are now likely to face steeper premium increases, while prospective disability insurance policyholders will be ­offered more meagre benefits as the regulator’s capital charge — to be imposed on companies in March — will reduce the profitability of the products.

As flagged by The Australian last week, the Australian Prudential Regulation Authority will issue all companies that offer troublesome individual disability income insurance policies an estimate of their capital penalty this month, which will remain in place until companies “demonstrate sufficient and sustained progress” to return their businesses to a sustainable footing.

The Australian can also reveal APRA will on Tuesday release a package targeting the struggling private health insurance industry in a bid to ensure the resilience of companies staring down a death spiral of a dwindling and ageing membership base, after the regulator’s executive board member, Geoff Summerhayes, hit out at a “large” slice of the sector for prioritising the lobbying of government rather than addressing problems in their own businesses.

As part of a consultation issued to the $60bn life insurance industry on Monday, APRA also threatened rogue companies with the imposition of further conditions on their licences if they continued to ignore the watchdog, underscoring the rationale behind a move by Australia’s biggest banks and wealth managers to ditch their life insurance divisions amid sliding profitability and heightened regulatory scrutiny.

Insurance groups will also be forced to phase out the sale of so-called “agreed-value” policies, with the regulator threatening to punish companies further if they continue to sell insurance on this basis. Agreed-value policies insure a customer for an agreed income at the time of application, and have resulted in customers being insured for an income far greater than what they are earning.

Disability insurance provided by life insurers has been plagued with instability in recent years, after a rush among companies to gold-plate their policies with lucrative benefits and low premiums in a bid to chase market share.

Life insurers have collectively lost about $3.4bn over the past five years through the sale of disability insurance to individuals, which pays customers an income if they are unable to return to work.

The latest official data shows industry net losses for disability income insurance swelled to $1.1bn in the 12 months to September 30, from losses of $276.7m in the same period a year earlier.

In May, APRA warned the industry to urgently address the problems and gave players eight weeks to detail how they would fix the product’s woes. But the warning fell on deaf ears, with further reported losses of $1bn being chalked up by the industry in the following six months.

The capital charge will apply to some of Australia’s biggest companies — AIA Australia, AMP Life, CommInsure, MLC, ANZ’s OnePath, Suncorp, TAL Life and Westpac Life Insurance Services — and will be relative to the size of their disability insurance business.

One regulatory source said the capital charges would be “sub­stantial”.

Alliance was recently hit with a $250m capital requirement for its poor governance and culture. Westpac, ANZ and National ­Australia Bank are each ­shouldering $500m capital ­charges, while Commonwealth Bank has been subjected to $1bn in penalties for its poor governance.

APRA’s Mr Summerhayes said most life companies’ efforts to ­address the issues had so far been inadequate.

“In a highly competitive environment, life companies have ­focused on attracting policyholders through pricing and product features that are not sustainable. The result has been ongoing losses and a failure to deliver a satisfactory customer experience,” Mr Summerhayes said.

“Unless these adverse trends are reversed, there is a risk some life companies will ultimately exit the market for (disability income insurance), worsening consumer outcomes through reduced competition, accessibility and affordability.”

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In 2007, the insurers made a profit of 12c in the dollar on every policy. In 2013, that had deteriorated into a loss of 32c on every policy. Now policies are losing about 50c for every dollar of disability insurance policy revenue brought in. One life insurance executive told The Australian that disability income insurance accounted for about 30-40 per cent of most company revenue.

“That will force either an increase in premiums or a reduction in benefits,” the executive said.

Berrill & Watson life insurance lawyer John Berrill said a move to mandate standard terms and conditions for policies across the industry would help address the long-term sustainability issue.

“Some of this stuff has gone too far and needs to be reined in a bit,” Mr Berrill said.

“There was this feeding frenzy to get market share in the mid-2000s, which led to policies that were poorly priced, and then you had a big increase in claims, and mental health claims were tied up in that.

“When the claims started coming through, the industry’s profitability went south. “Then you had a response from the industry, which led to increased claims rejections. Then we had the royal commission.

“We’ve had the pendulum swinging wildly here.

“The art form here is to get the pendulum back to the middle.”

Appearing before the House of Representatives standing committee on Monday, Mr Summerhayes said the separate private health insurance industry consultation was aimed at allowing APRA to make a “like-for-like judgment on those firms’ resilience” as current capital rules did not give a comparable picture of the structures of different private health insurance groups.

Mr Summerhayes said some health insurers were pursuing new business models and addressing their costs.

“In others, there are 35 health insurers, there is unfortunately a large group of those who are looking for others to solve the problem,” Mr Summerhayes said.

APRA has previously chided the life insurance industry over “decades of neglected investment in systems” that manage operations and legacy products, which has contributed to a lack of consistency in the industry and unpredictable and unmanageable handling of claims.

More awareness of benefits has resulted in more claims, while underemployment is sparking rising levels of work-related stress. At the same time, companies are finding they are now on the hook for overly generous promises made when the policies were written during better economic times. Premiums have surged in recent years, due to rising claims and awareness of benefits.

The sector has been swamped by a regulatory crackdown after companies were found to be using outdated medical definitions, delays, arbitrary knock-backs and doctor shopping that caused public outrage and added weight to the call for a royal commission.