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Tackling the loyalty penalty for insurance customers

1 December 2020: Writing for ICAEW’s Financial Services Faculty, Dominic Lindley reports on how old pricing practices for general insurance are being levelled to reward customer loyalty.

The Financial Conduct Authority (FCA) has published the results of a review to examine the fairness of pricing practices for insurance, the harm that this caused and the impact on competition.

Consumer groups had called for robust action to tackle the loyalty penalty caused by price discrimination against loyal customers. 

By way of an example, a home insurance customer who has been with the same firm for five years can pay 70% more than a new customer. The media highlighted cases like Elsie, a 94-year-old paying £1,280 a year for home insurance when a fair price was over £118 a year. 

Giving consumers information and trying to prompt them to switch would not stop loyal customers from being charged excessive prices. 

Regulatory intervention

Instead of taking a conventional approach, the FCA examined the experience of a wide range of consumers, calculated the detriment they were suffering and considered a wide range of potential solutions. 

It found that six million policyholders were overpaying by £1.2bn a year. 

It recommended that customers renewing their policy should be charged no more than the price they would be charged if they were new customers. New rules would also be introduced requiring firms to ensure that their insurance products offered fair value to customers. 

Loyal customers, particularly those who had been with their insurer for more than five years will benefit. 

The FCA expects that some customers will pay more, but that competition for new business and lower customer acquisition costs will mean that overall prices fall.

Model reform

This reform would represent the most significant change to the business model of insurers since the growth of price comparison sites after the year 2000. Firms could adapt to the new requirements in ways which could harm consumers by leaving customers in closed books, adopting multiple brands and expanding the use of pricing factors unrelated to the risk of the consumer, known as non-risk factors.

Overall, the General Insurance Market Study remedies will lead to significant benefits to millions of consumers. It will also prevent some of the most extreme practices such as exploiting older customers like Elsie, as highlighted above.

The FCA will have to be alert that the way firms adapt to these new rules does not lead to consumer detriment. It would be useful for the regulator to publish a list of the non-risk factors currently being used and start a debate about whether such price optimisation is fair. 

Ultimately, if the FCA does find that firms are still using methods to unfairly penalise long-standing customers it will need to take enforcement action against senior executives – something which it has so far been reluctant to do. 

You can read more about this issue here.