Insurance professionals are subject to state administrative rules and regulations and also to the legal concept of agency. We will discuss the ethical responsibilities an insurance professional has to the public in chapter 5. We will cover the role of agency, with its associated topics of power and authority in this chapter. Remember that an authorized agent has the power and authority to act on behalf of another.
The concept of agency is important to the relationship between an insurance professional and his/her carrier. Questions of agency also arise regarding the relationship between the insurance professional and his/her client. Finally, the relationship between the client and the insurance professional acting as a broker is unique and will also be covered in this chapter.
Insurance professionals act in three primary capacities for purposes of the law of agency. They may be captive agents, brokers, or consultants. Captive agents solicit business on behalf of their particular insurance company. Insurance broker’s act on behalf of individual clients in order to secure needed insurance coverage. Consultants provide advice as to the type of coverage needed to be obtained by a client. For this service they are paid a fee and do not depend on commissions. Throughout this course, we will focus on the captive agent and the broker.
The general definition of an agent is one who is appointed by an insurer to solicit applications for a policy of insurance or to negotiate a policy of insurance on the insurer's behalf. An agent could also be a partnership or corporation. The entity is appointed by the insurer, and receives a written and signed contract from the insurance company. As part of this process, the insurance agent will be licensed in the state where such contracts are to be solicited.
A valid agency relationship between an insurance professional and an insurance carrier rests on two fundamental principals. These principals are the concepts of power and authority.
The agent receives power to sell insurance on behalf of a carrier through his/her agency agreement. Through this agency agreement the insurance professional is given the power to contractually bind the insurance carrier. This principal of power is extremely broad.
An agent also derives his/her authority from the agency contract. The agency contract usually authorizes the agent to:
Solicit insurance applications
Describe the various coverages offered by the insurance carrier.
Provide service to the company's policy-owner.
Collect needed premiums to initiate the insurance coverage.
One must remember that the power and authority granted by the agency agreement is not the same as obtaining a state license.
The agency contract will spell out clearly the express authority, which is granted to an insurance professional by the insurance company. The agency relationship, which binds the insurance company, can also be created by using implied authority, apparent authority and ratification.
This type of authority is the simplest to understand because it is specifically spelled out under the agency contract and granted to the insurance agent. An example would be giving the insurance agent authority to describe appropriate coverages.
Not many legal questions arise in regard to express authority. This type of authority is easily identified from the terms of the agency contract.
One enters into the "gray" area of agency law when dealing with implied authority. An agent has authority to act on the insurance company's behalf when he/she reasonably believes that such authority has been given. For example, the insurance company cannot possible list out all details of the express authority given to the agent. Thus, implied authority is evident. This authority is granted by the insurance company to the agent but is not written in the contract. Probably the best example of implied authority is the use of a conditional receipt. When the agent accepts a check from an applicant for insurance, he/she is binding the carrier to make every effort, within reason, to insure the applicant.
APPARENT AUTHORITY
This authority creates a legal minefield for both the agent and the insurance company. The best way to explain the abuse of apparent authority is to use an illustration.
Agent Herb works for the Prairie Mutual Life Insurance Company for four months. Due to lack of production, agent Herb's contract is terminated. Agent Herb keeps all company materials. Agent Herb sells a policy to Hal. Hal relies on the apparent authority placed in Herb by Prairie Mutual.
At times, insurance professionals sell products which they are not licensed to sell. In these situations, the insurance company is not obligated to honor the insurance professional's acts. However, if the company does issue the policy, this is called ratification. Ratification is simply the validation of an unauthorized act.
Ratification needs five elements:
1. The person (insurance professional) who performed the act must have purported to act on behalf of the principal (the insurance company).
2. The insurance professional must have represented himself/herself as an agent of the insurance company.
3. The client must have believed he/she was dealing with an authorized agent of the insurance company.
4. Only the principal in whose name the action was taken can ratify the agents action.
5. The principal must ratify the entire transaction not just parts.
The agency contract between an agent and an insurance company includes four legal implications.
1. The agent represents the interests of the insurance company. This means that the agent's legal responsibility and obligation are to the insurance company not to a potential client. We will discuss these agent obligations a bit later.
2. The agent is given power to act on behalf of the insurance company. The agent can create legal liability for the insurance company under the insurance contract.
3. The acts of the insurance agent are considered acts of the insurance company. When a debit agent collects premiums, this is considered collection by the insurance company.
4. Knowledge of the insurance agent is considered to be knowledge of the insurance company. If the agent has knowledge of health matters pertinent to the issuance of insurance, it is assumed that this information is also available to the carrier.
The agency agreement spells out the contractual obligation of an insurance agent to his/her carrier. Most importantly, the agency agreement establishes a fiduciary relationship between an insurance agent and the insurance company. The agent must always act in the best interest of the carrier.
1. OBLIGATION OF LOYALTY
An agent must act solely for the benefit of the insurance company in all matters connected with his/her agency agreement.
2. OBLIGATION TO AVOID CONFLICTS OF INTEREST
This area has different meaning depending upon whether an insurance professional is a captive agent or an independent agent.
Captive agent will be held to a stricter standard. For example, a captive agent cannot serve two carriers selling competing products at the same time. It is possible for a captive agent to sell products not offered by his/her own carrier but sold through another carrier.
An independent agent represents both the carrier and the client at different points in the transaction. The client is represented during the selection process. Once a determination has been made in regard to the coverage to be selected, the independent agent owes the carrier his loyalty during the application, underwriting and recording keeping process.
3. OBLIGATION TO OBEY
This obligation is very important in today's litigious environment. Many insurance companies have strict instructions in regard to solicitation of business and client communication. These instructions limit the types of illustrations being used and the types of letters being sent to prospects. Obviously these new instructions are being issued to protect both the agent and the insurance company and should be obeyed.
4. OBLIGATION OF CAREFUL SOLICITATION
A goal of any insurance company is to cover as many healthy insureds as possible. Another important factor is for the agent to seek out those prospects who can pay both the initial and future premiums. Some companies pay on the advanced annual payment schedule , which creates temptation to some agents. Receiving seven or eight months commission as the first commission can lead to high policy lapse ratios (not to mention high agent turnover rate). The agent should always attempt to write quality business for
the insurance company.
5. OBLIGATION TO PERFORM WITH SKILL AND CARE
An agent must execute his/her duties with the level of skill ordinarily possessed by individuals engaged in the same type of business. An agent is obligated not to engage in business in which he/she is not capable of performing. If the agent is dealing in an area with which he/she has little experience, it would be best to bring in a specialist.
6. OBLIGATION OF FULL DISCLOSURE OF INFORMATION
An agent has an important duty to make full disclosure of all pertinent information that will affect the approval process of the application to the insurance company. The agent's obligation is to alert the company of facts about the applicant known to the agent.
Full disclosure is evident at two stages of the application taking stage. First, during the application process and second, during the claim process. For example, in a life insurance situation, the agent must list the applicant as a smoker even if the applicant states "he only smokes occasionally.
The main point is that the agent is the field underwriter. The insurance agent must act on the carrier's behalf. The agent should "take the information" and avoid making any judgments.
7. OBLIGATION OF BUSINESS TRANSACTION EXECUTION
This obligation arises most frequently in regard to premium payments and submission of applications. If the premium is not transmitted within a reasonable time frame, the possibility exists that a policy could lapse. This will place the client in a position of vulnerability. However, it also places the insurance company in a prone position as it could lead to charges that the company is obligated to honor any claims due to questionable behavior of its agent.
The insurance company is also placed into a situation of risk if an application is not submitted on a timely basis. In most cases, a binding receipt has been given to the client as part of the application process. This makes the carrier liable for claims until the application has been formerly acted upon. Without the application, the insurance company cannot either accept or reject thus being able to protect itself from liability.
8. OBLIGATION TO ACCOUNT FOR PREMIUMS
Many agents are authorized by their insurance companies to collect the initial premium payments in order to hasten the underwriting process. Payment to an agent is considered payment to the agent's insurance company. Obviously, any funds collected are held in trust. Keep in mind, most states consider it illegal to co-mingle premium dollars with personal funds. It is sound business practice to maintain a separate bank account for the handling of premium dollars to avoid any hint of impropriety.
There are three additional areas of possible abuse concerning the fiduciary obligations that agents face. These situations are replacement, use of free look provision, and rebating.
Replacement of previously purchased insurance may or may not be valid depending upon individual client needs and circumstances. This area has been highly regulated as abuses by agents can have serious implications for insurance companies.
In general, replacement of a policy should not be executed where it is clearly disadvantageous to the client. Replacement is also ill advised where it is used by an agent as a systematic method of obtaining new business.
The proper steps to take when a replacement situation arises should be:
Be sure to provide the client with a written comparison showing the advantages and disadvantages of retaining the old policy versus obtaining the new coverage.
Provide the insurance company with all requested information regarding the replacement on the insurance application.
By determining client needs through proper questioning and fact-finding skills the need to replace will be diminished. Coordinated with a systematic prospecting system the need for replacement will be eliminated.
Most states mandate that insurance prospects be given a "free look. State laws give an insurance prospect 10-20 days to decide if they wish to accept the insurance policy as issued. The purpose of this "free look" provision is to protect consumers from high-pressure sales tactics. If the consumer declines the coverage within the allowed period, he/she is entitled to a full refund.
The "free look" period begins from the date of policy delivery.
Agents should remember that their basic fiduciary duties to their insurance companies are always paramount. Abuse of "free look" is violation of the fiduciary role that the company has bestowed on the agent.
Rebating is knowingly permitting, or offering to make, or making, any contract or agreement as to such contract other than is plainly expressed in the issued insurance contract. However, most agents know rebating as paying, allowing, or giving, or offering to pay, allow, or give, directly or indirectly, as an inducement to an insurance contract, any rebate of premiums payable on the contract. In competitive situations, a rebate can "make" or "break" a sale. When an agent offers to rebate part of his/her commission to a client in order to make a sale, the agent is violating his/her fiduciary duty to the insurance company.
The role of a broker differs from that of an agent. A true broker is in the business of bringing insurance buyers and sellers together. A broker acts in the interest of the insurance applicant in regard to the procuring of insurance and filling out the insurance application. However, a broke acts on behalf of the insurance company when collecting the insurance premiums and delivering the policy.
There are many large brokerage firms, such as Alexander and Alexander, Willis Coroon and Marsh & McLennan, that play an important part in the placement of property and liability insurance. These firms often specialize in placing large, multinational corporate accounts and pride themselves on their knowledge of highly unusual insurance markets.
In exchange for assisting the applicant to obtain insurance coverage, the broker receives a commission from the insurers with whom coverage is placed.
As stated, a brokers primary responsibility is to his/her client. Brokers serve their clients by finding the appropriate insurance coverages to meet the clients needs. In addition to serving their clients, brokers are held to the same standards as agents I terms of their responsibilities to the general public. In other worlds, because the business of insurance requires honesty and good faith, the broker is prohibited from engaging in any marketing practice that involves unfair competition or a deceptive act. Like agents, in most states brokers are required to undertake a program of continuing education to remain knowledgeable and current in areas that pertain to insurance principles, coverages, laws and regulations in order to retain their license.
Insurance consultants and financial planners are quite different from agents and have different fiduciary responsibilities. An insurance consultant advises clients about insurance. This individual provides services which analyze policy provisions. A true consultant is compensated through fees for his/her services and is not commission driven through the sale of insurance policies.
The National Association of Insurance Commissioners Model and Brokers Act requires that insurance consultants be licensed. The Model Act also requires that there be a written agreement between the consultant and client prior to the performance of any services. The Model Act also spells out the fiduciary obligations of a consultant to his/her client. The consultant "is obligated under his license to serve with objectivity and complete loyalty in the interest of his client alone."
As an insurance consultant one should make every effort to document the client's needs and such needs were objectively uncovered regardless of any relationship the consultant might have with an insurance company. The best way to achieve this is to utilize detail-oriented fact finders and checklists.
Today, many insurance professionals call themselves financial planners. Unfortunately, many of these professionals fail to realize there are differences between being an agent and being a financial planner. Being a financial planner requires additional education and licensing and it also extends the potential liability of the insurance professional.
Basically, a financial planner analyzes a client's current financial situation. Part of this process is to have the client state financial goals and prioritize future endeavors. A financial planner then could develop a plan that would help the client achieve such goals. This process requires time and often will include other financial advisors (attorney, accountant, estate planner, trust officer).
Operating as a financial planner is likely to require compliance with both state and federal licensing and registration regulations.
It is best for the insurance professional to accurately state what role he/she has in the insurance industry. Over the years, the use of the financial planner label has often been used by insurance agents and brokers. Without the additional education one cannot make such a claim. Of course, the insurance professional might be performing some type of financial planning in the interviewing process but this does not make him/her a financial planner.
CHAPTER 2 - PRACTICE QUESTIONS
1. Insurance professionals are subject to state administrative rules and also to the legal concept of?
A. Principal
B. Agency
C. State Regulation
D. None of the above.
2. Insurance professionals act in three primary capacities. One of the capacities would be:
A. Financial planner
B. State regulator
C. Broker
D. None of the above.
3. Those whose solicit business on behalf of a particular insurance company are:
A. Captive agents
B. Brokers
C. Consultants
D. Financial planners
4. Those who act on behalf of individual clients are:
A. Financial planners
B. Brokers
C. Consultants
D. All of the above
5. Insurance agents have all of the following obligations except:
A. Loyalty
B. Full disclosure
C. Rebate commissions
D. Account for premiums
Unit 2 - Answer
1. B
2. C
3. A
4. D
5. C