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Gareth Morgan - Big Game Part VI : Insurance rip-offs could undermine confidence in the finance sector | Big Game Part VI : Insurance rip-offs could undermine confidence in the finance sector | | investment - 6 December 2006 - 5793 views |  Printable version
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The National Business Review – Part 6
November 17, 2006
One of the most surreal aspects of uncovering life insurance companies behaving badly is when one reflects on the number of otherwise respectable and ethical people in the industry.
An endemic, industry-wide disease such as dereliction of fiduciary duty and care for the customer unfortunately taints all involved. When it becomes the norm, few people remain conscious that it is wrongdoing and at worst ownership of the malfeasance is the responsibility of the company, not of any individual.
Certainly the independent directors will be in large part simply ignorant of the malpractices and the host of sins committed under the guise of actuarial discretion.
Directors often have no choice but to take management-supplied information on board in good faith and nowhere is this more common than uninformed acceptance of actuarial practices. This is what the Morris Review in the UK found.
Meanwhile, down in the ranks many are simply guilty of being compliant, corporate journeymen doing what the boss says. Culpability, ultimately, lies with the legal, actuarial and senior management personnel.
The first point is that this wrongdoing is big and if not handled correctly could undermine confidence in the financial sector. The government, if it is going to deal with it credibly, will need special powers – the courts are impotent because of a lack of suitable laws.
The existing powers of the regulators are pathetic. These authorities are under-resourced and have insufficient knowledge and enforcement powers to seize the information relevant to defending the public’s interest.
The best example to follow lies in jurisdictions such as the US, where authorities can immediately order a company to stop doing business, freeze all files and moneys, make the necessary inquiry and if satisfied the public is safe for the business to resume, authorise it.
The weakness of the regulatory framework for financial markets in New Zealand is that well resourced multinationals can stay well ahead of Mr Plod. While that remains the case, the public’s confidence will rightfully, remain shattered. So what is to be done?
First, a stop to this securities malfeasance requires the following sanctions:
- Prohibit immediately the sale of any life insurance that includes any savings or investment product;
- Outlaw the practice of creating reserves with any saver’s funds;
- Prohibit the pooling of investment monies via the device of unitization, thus outlawing this obscenity of opaque and variable unit price calculation methodology; and
- Require all guardians of portfolio savings to provide investors quarterly with a transparent reconciliation of their funds with values of the underlying securities owned, confirmed by independent parties – stock exchange prices and the like. The impact of this reform will be to take actuaries out of the savings and investment business immediately. The activities of this secret society will then be confined to the insurance business from whence it came. The abuse of the wide discretions with other people’s savings is at the core of the disease.
Second, the challenge is to remedy the situation for the holders of the two million policies of the kind affected that are outstanding. To facilitate this, the authorities have to sanction the insurance companies immediately and do it hard. The measures necessary are:
- Freeze the assets of all insurance companies that have been involved in the issuance of unit-linked collective savings products;
- Require all reserves from these products created over the past three years to be reversed – so that the investors in these products get their entitlements to those reserves returned. In the cases where the reserves have been applied to associated companies (for example as expenses, or fees) those companies to be liable to return the monies. Once the fund monies have been returned and ring-fenced, permit the company to continue on with its life insurance business; and
- Appoint a receiver to all such funds with the purpose of returning to members their contributions and any returns made over this three year period. Then close the fund.
Third, punish the offenders. It is clear a large number of illegalities have been part of this activity. They are particularly evident with the rewording of contracts that some of the firms have undertaken.
These are cases for the police to prosecute and hold to account the companies and their officers. From the public’s perspective, the only fair remedy is to fine the companies and apply the proceeds to restorative justice for those savers harmed.
Overseas, the individuals within insurance companies who have perpetrated crimes are rewarded by prison sentences and appropriate fines. It is hard to see New Zealand financial markets regaining any respect unless white collar misbehaviour is seen to be policed.
Actuaries, who are at the centre of the wrongdoing, must be rehabilitated. Their professional association in New Zealand, at least, is in dire need of help. My approach would be to disband it, make it an illegal organisation until it can prove it has a code of conduct whose terms are acceptable to the wider society, eradicate any secretive elements and subject all actuarial analysis to independent scrutiny.
SIX STEPS TO CLEANING UP THE MESS
- Stop the behaviour;
- Compensate those who have been fleeced already;
- Rehabilitate the primary offenders, insurance company senior actuaries and managers;
- Punish the illegalities;
- Save the credibility of the KiwiSaver initiative; and
- Avoid a financial sector collapse of confidence
The credibility of KiwiSaver is at stake. It is arguably the biggest single victim of these revelations of life insurance company impropriety. Life companies have already got into managing the savings of public servants so to a degree the horse has bolted, and contributor confidence is justified in collapsing, the way things stand right now.
For the government, committed to facilitating a public workplace superannuation scheme, this couldn’t come at a worse time. Actually, it couldn’t be a better time – better now than 10 years down the track when a lot more New Zealanders discover they’ve been fleeced.
If the government wants to be credible with the implementation of workplace superannuation, it has no choice but to slam this wrongdoing now and slam it hard.
The measures outlined above, while not directly protecting the KiwiSaver initiative, will go some way toward the establishment of a credible savings and investment sector. It is important for workplace superannuation, where members are not knowledgeable about what is happening, that the government be credible.
Tax breaks and other inducements are not sufficient if what you’re doing is sending savers to the gallows.
There are ways to make KiwiSaver safe. Central to those is to ensure life insurance company participants are prohibited from tainting their offerings with practices that provide them a veil behind which they transfer savers’ property into company coffers. Without fast and serious reform, this is what is going to happen to KiwiSaver victims.
The wrongdoing of life insurance companies in the savings sector range from the mild – arbitraging one piece of legislation against another so that it can protect its practices of actuarial discretions from scrutiny (for example by tagging life insurance on to what would normally be a vanilla savings security) – to the downright criminal (retrospective policy wording changes and passing off), to false pretences (claiming commercial confidentiality where none exists), to arrogance and vexatious bullying of the public the industry is supposed to serve.
The minister of finance has to bulk up, shoulders back and take charge.
Let’s reflect the tactic covered in the previous article – that in Australia the Law Reform Commission concluded that insurers have wrongfully taken the public’s property and are open to major litigation to make good. But it is recommending the law be changed so that these companies are no longer liable.
This creep toward legitimising this theft puts Australia outside the trend in the US and the UK where these companies and their senior executives are being brought to account.
The saving public simply cannot afford to have its politicians sleepwalking toward this precipice.
There needs to be an urgent reform and the government needs to get on the right track, restore the public’s confidence in savings institutions and make sure KiwiSaver isn’t going to play right into the hands of this white collar wrongdoing.
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