The Canadian Council of Insurance Regulators (CCIR) and the Canadian Insurance Services Regulatory Organizations (CISRO) are consulting on concerns they have regarding upfront commissions used in the sale of segregated funds and individual variable insurance contracts (IVICs). Earlier this year, CCIR and CISRO stated that the use of Deferred Sales Charges (DSCs) in segregated fund contract sales was inconsistent with treating customers fairly, highly discouraged and should cease fully by June 1, 2023.

The current consultation paper notes that upfront commissions in the sale of segregated funds create potential issues relating to conflicts of interest where consumers rely on advisors to sell them a suitable product and the advisor is paid by the insurer for the sale and servicing of those products. These concerns are similar to those raised in connection with the sale of other financial products including mutual funds. In the paper, “upfront compensation” is defined as:

“any compensation, including money, arrangement for financing a payment similar to upfront commission or anything else of value, an Insurer or Intermediary provides to another Intermediary immediately after a Customer invests in an IVIC, because of the investment.”

An insurance intermediary can be a licensed individual, or a business, authorized to sell and service IVICs.

As noted, some of the concerns raised are similar to the discussions previously held in the securities industry relating to the sale of mutual funds, but others are unique to the insurance industry. One example provided in the consultation relates to an intermediary having to repay some or all of their compensation because a customer withdraws from an IVIC (the “advisor chargeback option”, discussed below) and the intermediary does not have funds to do so. In that circumstance, the intermediary may become a debtor to an insurer or managing general agency. This relationship could possibly motivate the intermediary to sell products of a different insurer to avoid a reduction in compensation from new sales from the creditor, even if the creditor’s products are most suitable for a customer.

The primary purpose of the consultation is to better understand compensation arrangements in segregated funds and IVICs, and what changes to upfront compensation may be needed to improve customer outcomes. A number of targeted customer outcomes are outlined in the consultation, including a regulatory approach which effectively addresses conflicts created by upfront compensation which can misalign the interests of insurers, intermediaries and customers, as well as enhance customer awareness of intermediary compensation. Other targeted outcomes include reducing the risks of mis-selling segregated funds and IVICs over securities products by dually licensed intermediaries due to different upfront compensation arrangements.

The paper spends time discussing the “advisor chargeback option”, which is similar to DSCs where the insurer pays an intermediary an upfront commission, except that in the event a customer redeems an investment in a segregated fund prior to the expiry of the fixed schedule, it is the intermediary rather than the customer who must reimburse the insurer for the cost of intermediary compensation. In effect, the intermediary would have to return all or a portion of the commission the intermediary received from the sale of segregated funds to the insurer. It is noted that other compensation may also be paid to intermediaries, such as bonuses based on sales placed with any particular insurer. Licensed individuals may also be compensated by intermediaries for sales placed with an insurer through the intermediary. Concerns have been raised that not all of these arrangements are required to be disclosed, especially not on an ongoing basis, which could be very relevant to a customer if a chargeback period continues to exist.

A potential supervision gap is also noted in the consultation, as licensed individuals are not restricted in most jurisdictions from distributing products for more than one intermediary or insurer. As a result, those intermediaries and insurers responsible for overseeing licensed individuals may not know what IVICs were sold to customers nor be aware of any monetary influences on those sales.

Many of the specific questions in the paper are targeted at gathering information about the current environment in which segregated funds and IVICs are sold as well as particulars about sales charge options. It will be interesting to follow these developments as the CCIR and CISRO express their desire to keep the regulatory regime for financial products as harmonized as practical and appropriate, to avoid regulatory arbitrage and provide similar investor protection for both segregated funds and other financial products. The deadline to provide comments is November 7, 2022.

September 28, 2022