LMA publishes guidance on intermediary remuneration as broker facilities expand

By Rebecca Delaney

Feb 6 - (The Insurer) - The Lloyd’s Market Association (LMA) has published guidance relating to the remuneration of insurance intermediaries in response to questions around antitrust and competition law raised by the proliferation of digital and algorithmic broker facilities.

• Potential competition law issues around AI algorithms used in facilities and smart follow

• Demand for legal guidance within the Lloyd's market

• Legacy of the Spitzer investigation

At a recent event hosted by the LMA in the Lloyd’s Old Library, a trio of legal professionals outlined points for insurers to consider from a legal perspective when presented with arrangements such as subscription market brokerage (SMB).

During the event, Bill Batchelor, partner at Skadden, Arps, Slate, Meagher & Flom LLP, outlined that these points should be front of mind when choosing whether to participate in digital and algorithmic intermediary facilities, smart follow facilities, joint binders and consortia.

A recent report by the LMA on the future of enhanced underwriting in the Lloyd’s market projected that digital and algorithmic broker facilities will grow around 50 percent percent per annum over the next five to 10 years.

In addition, pure algorithmic underwriting and active portfolio trackers are both projected to grow at around 20 percent per annum, with augmented underwriting forecast to grow circa 60 percent percent per annum.

These trends are raising new questions around competition categories, with underwriters advised to undertake an antitrust review to determine if participation would mean relinquishing pricing authority to competitors.

According to Batchelor, questions to consider include whether an AI algorithm has been trained using rivals’ confidential data. If competitors are involved, underwriters must consider whether the SMB arrangement imposes commercial restrictions.

Insurers should also consider the combined market share of the facility within the relevant line of business to avoid any issues under UK and/or EU competition law. The general “safe harbour” stands at 20 percent of market GWP, although the panel acknowledged that this may be difficult in hyper-niche markets within Lloyd’s.

Elizabeth Jenkin, underwriting director at the LMA, told this publication that the questions were developed following demand from committee members to provide centralised legal and regulatory guidance.

“There is a huge proliferation of broker facilities, as well as other enhanced underwriting and algorithmic follow, so I think it’s a good opportunity for our market to stand back a bit and make sure that everybody in the chain understands their responsibilities,” said Jenkin.

“Part of that, of course, is making sure that there is transparency to the principal about how services might be charged for by brokers, and indeed underwriters.”

The guidance – which is listed at the bottom of this article – outlines that firms should ensure the broker is acting in the best interests of the principal.

During the event, Aidan Christie KC emphasised that under English law, brokers operate as agents of the insured, with associated duties including the obligation to avoid conflicts of interest, to act in good faith, and to refrain from acting for their own benefit or that of a third-party without the informed consent of the insured.

With several consumer cases around commissions currently pending in UK courts, the direction of travel from a legal perspective remains to be seen.

Christie suggested that if an underwriter had sufficient knowledge of the nature of the commission, they may be liable as an accessory to a broker’s breach of fiduciary duty.

He added that while it may be setting the bar too high in a commercial context to require insurers to disclose payment of commissions, they may have to demonstrate that they are monitoring brokers’ disclosures.

“The whole message we’re trying to get over is to step back and have a think about who the client is,” LMA legal director Arabella Ramage told The Insurer.

“Whether you're the broker or the insurer, that's really got to be what's top of mind when you're thinking about any of these arrangements. The insured is the client of the broker, and you shouldn't be doing anything that puts the broker in a position where they might not be acting in the best interests of that insured.”

The panel highlighted that the guidance is particularly important in light of the legacy of Eliot Spitzer's investigation in the early 2000s into “contingent commissions” paid to brokers, which triggered a chain of events globally that brought intense scrutiny to broker fees.

“What we were trying to get by going down memory lane was the fact that it's been a while since Spitzer happened – that was almost a different time in terms of the people that are doing the underwriting now,” said Ramage.

“This has been encountered on a cyclical basis in the insurance market, but we have a generation of underwriters coming through now who've been involved in a hard market where there haven't been these conversations around how to trade in a market where premiums are falling. It’s about trying to make sure that people get the benefit of the collective memory of the scars from the last time that we went through this type of market.”

Jenkin added: “I think there's a massive education piece there – although it was 20 years ago, it's still very relevant to today. We arguably have a lot more checks and balances from a compliance and regulation point of view to protect.

“I'm hoping the message that some of the more junior underwriters walked away with is that if you're not sure, go and speak to compliance or your underwriting officer or your class of business head. Don't feel pressurised into saying yes about a particular deal.”

The LMAs guidance – which has been endorsed by Batchelor, Christie and Chris Paparella, partner at Steptoe LLP – for SMB arrangements recommends that underwriters consider the following questions:

• Does making the payment put the insurer in a position where the broker might be influenced to place business with that insurer rather than another that might be more suitable for the insured?

• Does the payment of a placement-related charge constitute outsourcing, and how would this align with regulation?

• Are the services providing a genuine benefit to the insurer?

• Are the charges commensurate with the benefit provided?

• Can the benefit to the insurer be evidenced and audited?

• If the broker has a significant share of the business line, will the underwriter still be shown business regardless of whether the underwriter pays?

• Has the amount paid to the insurer been disclosed to the insured, and who has provided informed consent?

• Is the amount being paid consistent with maintaining the fair value assessment of the product?