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Hidden rivers of incentive: How agent commissions affect your insurance shopping

Ever wonder how your insurance agent makes a living? The short answer is: via commissions he or she earns from selling insurance. Commissions are an effective source of motivation and compensation for sales in almost every industry. However, sales pressures from company management, an occasional dearth of ethics, and the promise of juicy commissions and free trips could affect how your agent tries to sell you policies.

The basics of commissions

Insurance agents earn commissions for each policy they sell, and they can receive additional commissions for selling policies to "quality customers" — essentially, policyholders who don't make claims and pay their premium bills on time. Those commissions, known as contigency commissions, are generally paid to agents who sell auto, homeowners, and business insurance. Contingency commissions are paid based on the number of policyholders in an agent's book of business.

Life insurance agents receive commissions that range from 35 to 100 percent of your first-year policy premium. For example, if your whole life insurance policy premium is $1,000 per year, your agent will receive a one-time commission of between $350 and $1,000 or more for selling you that policy. Although your premium may remain the same for the life of your policy, the agent only earns a big commission once. Generally, after the first year, commissions for life insurance drop dramatically — down to an estimated 5 to 12 percent annually. Trips to exotic locales are also standard incentive in the industry.

There are basically three types of insurance agents: captives, independents, and brokers. Captive agents sell policies for one insurance company only. Allstate Insurance Co., Farmers Insurance Co., Prudential Insurance Co. of America, and State Farm Insurance Co. are companies that employ captive agents, for example. Typically, the insurance company puts pressure on captive agents to push certain policies and meet sales quotas. If the agent doesn't meet the quotas, he or she might be terminated.

Independent agents and brokers are pretty much the same, and very different from captive agents. They can sign on with multiple insurers, theoretically enabling them to pick and choose the best deal for you. Although offering contracts from multiple companies eliminates the threat of termination, an independent agent can still feel pressure to sell a healthy number of policies from one insurer in order to stay in business.

By and large, insurance agents are successful when they put customers' needs first. However, insurance commission structures can lead to a special brand of conflict of interest. Here we tell you exactly why these conflicts blossom.

Hello Internet, good-bye commissions

A sampling of auto insurance agent commissions

Allstate 10 percent
Farmers 10 to 15 percent
Independent agent 8 to 15 percent
State Farm 8 or
10 percent

The rapid expansion of the Internet and the success of direct-sales companies, such as GEICO, seems to be causing commissions for captive agents to fall through the floor. For example, Allstate Insurance Co. announced in November 1999 a restructured business plan that included a move into direct sales via the Internet and 800 numbers. As part of the restructuring, Allstate plans to chop agent commissions for policies sold over the Internet and by phone, all the while maintaining the same price for the policy, regardless of how you buy.

Here's how it works: After a customer buys a policy, it will be placed with an agent in that customer's area for servicing — answering customer questions, processing renewals, making changes in coverage, and selling new coverages, for example. Currently, commissions for Allstate agents who sell auto insurance policies are at 10 percent for new and 8 percent for renewed policies. Under the new Allstate plan, if an agent receives an auto policy to service that was purchased over the Internet or phone, Allstate plans to pay a 2 percent commission. This plan raises questions about the willingness of an agent to service policies that are placed with him or her after they're sold by someone else.

"It's just plain business sense that an agency not receiving any commissions or commissions that don't cover their overhead are going to discourage calls from those [Internet and phone] folks," warns Rod Guilmette, publications director for the National Association of Professional Allstate Agents (NAPAA). "It might be difficult to keep a relationship with those folks and might be hard on the customers you sold policies to face-to-face."

A sampling of home insurance agent commissions

Allstate 20 percent
Farmers 20 percent
Independent agent 12 to 30 percent
State Farm 10 or
15 percent

One Allstate agent who spoke on the condition of anonymity says it's obvious that the lower commissions will not inspire agents to service policies that were bought over the Internet or phone. After all, if the agent is forced to service those policies, it will take time away from servicing the policies he or she personally sold.

Allstate views the system a little bit differently. "The commissions are win-win for agents and the company," says April Hattori, a spokesperson for Allstate. "For doing nothing, the agents get a 2 to 3 percent commission, and they get the opportunity to cross sell other products to the policyholder." If the agent is able to sell that policyholder another policy, such as a homeowners policy, the commission for the auto policy will go up to 3.5 percent and the agent will earn the full commission for the homeowners policy: 20 percent for new policies, 10 percent for renewals. Hattori says the responses the company has gotten from agents have been, for the most part, positive, but she acknowledges that with any change, some folks are going to be unhappy.

State Farm has also reduced its home and auto insurance commissions for about half of its agency force by 33 percent and 20 percent, respectively.

Hidden rivers of incentive: How agent
commissions affect your insurance shopping

"No more, 'I'm too busy.' No more, 'I have staffing trouble.' No more, 'I'll do my best.'" That's what one Farmers Insurance Co. district manager wrote in a memo to his insurance agents in early 1999. He was talking about selling life insurance.

"The reality is that life insurance salespeople will often sell people stuff they don't need," says Kenneth Robbins, a partner and health insurance broker at Kenneth S. Robbins Insurance Services in Woodland Hills, Calif. Robbins, a former MassMutual life insurance agent, says that one of the reasons life insurance agents feel compelled to "sell, sell, sell" is the commission structure. "It's feast or famine. The agent gets paid right up-front with life insurance policies, and little to nothing two or three years down the road."

A sampling of agent life insurance commissions

Company Universal/ whole life Term life
Allstate 40 percent of first-year premium 30 percent of first-year premium
Farmers 50 percent of first-year premium 40 percent of first-year premium
State Farm 50 percent of first-year premium for Executive Protector policy 40 percent of first-year premium for 10-year term policy


Unlike home and auto insurance policies, which pay nearly the same commissions for renewed business, renewed life insurance policies don't pay agents big bucks. Typically, a whole life insurance policy will pay between 40 and 55 percent commission for the first year. After that, the agent commissions drop — in most cases — to below 7 percent annually.

The lower life insurance commissions after the first year of a policy might be due to the relatively little service that the insurance policy requires. Unlike auto or home insurance, life insurance policies don't need to be renewed and reviewed every year (or every six months).

Some view life insurance sales as the bread and butter of the insurance industry. "Life insurance is the key to everything," says Mark Kronemann, a Farmers Insurance agent based in Newbury Park, Calif. Life insurance premiums are money in the bank for insurers. They get to invest your premium dollar and potentially make lots of money, more so than with auto and homeowners premiums because the mortality rate (meaning life expectancy) of customers is fairly easy to predict. "Companies know exactly how long they'll have that life insurance premium because life-expectancy tables are so darn accurate," says Guilmette of NAPAA.

Kronemann says that there's never been a strict quota to meet when selling life insurance, but the pressure to sell more of it is evident.

Farmers Insurance Co.

Farmers, for example, offers a three-day trip to its "Topper Club" members — agents who sell the most new life insurance policies over a 12-month period and whose customers have a small number of lapsed and nonrenewed life insurance policies. Kronemann himself won a trip to Scottsdale, Ariz., as a "Topper Club" member in 1995, and estimates the trip was worth about $800.

Farmers doesn't view the Topper Club or other agent incentives as a conflict of interest. "Achievement clubs like Topper provide incentives for the agent to expand their staffs and, by doing so, improve customer service and increase production," says Steve Feely, vice president of marketing at Farmers. "These clubs help agents by rewarding balanced production and emphasizing serving all of the customers' needs."

Furthermore, Feely says that Farmers has a "moral obligation" to sell insurance to its policyholders. "We'd be remiss if we didn't offer comprehensive insurance services — including life insurance," he says.

State Farm Insurance Co.

Among State Farm agents, "You're not a team player if you don't sell life insurance," says Ray Gilmore, a former State Farm agent based in California. "You don't get to go to profit meetings or underwriting meetings if you don't sell life insurance, and if you're not selling life insurance, you won't get into the Legion of Honor, which leads to all of the bonuses," he says. To gain entry into the Legion of Honor, an agent must sell 40 life insurance policies, which can in turn lead to bonuses of between $1.20 and $6 for auto, home, and health insurance policy the agent has in his or her customer ranks.

State Farm's agent-incentive program has five levels: Legion of Honor, Bronze Tablet, Silver Scroll, Golden Triangle, and Crystal Excellence. If an agent sells 40 life insurance policies, he or she will enter the Legion of Honor and receive a $1.20 bonus for all in-force auto, home, and health policies. To attain the Bronze Tablet, which pays $2.40 per in-force policy, an agent has to have made the Legion of Honor in five out of the last six years. Agents have to make the Legion of Honor for 10 out of the last 12 years or a total of 15 years to grab the Silver Scroll bonus and $3.60 per in-force policy. To receive the Golden Triangle award — $4.80 per in-force policies — an agent has to have made the Legion of Honor in 15 of the last 18 years or a total of 20 years. And finally, in order to receive the $6 per in-force policy bonus — Crystal Excellence — the agent must have earned the Legion of Honor in 20 out of the last 24 years, or 25 years total.

The Legion of Honor and sales of life insurance are paramount in determining what a State Farm agent can earn, says Dennis Farrell, a former State Farm agent in California.

"The Legion of Honor is not just a life insurance program," notes Greg Laird, executive administrative assistant in the agency department at State Farm. It rewards agents for selling ability of auto, home, health, and life insurance. However, Laird notes that life insurance is not always on the top of policyholders' list of needs, and the company has an obligation to let them know that life insurance can protect their families in the future. "We encourage and we expect our agents to meet our customers' needs," says Laird.

Erie Insurance Co.

Erie Family Insurance Co., a part of the Erie Insurance Group, tried to light the selling fire in 1999 under independent agents who sell Erie life insurance with "generous" first-year commissions ranging from 30 percent to 75 percent. In addition, "exceptional life production" (agents who rake in $10,000 worth of life insurance commissions in a calendar year) results in an additional $1,000 bonus from Erie. Each additional $5,000 in commissions in the same year will garner the agent another $500.

Karen Rugare, a spokesperson for Erie Insurance Group, says that the company compensates its agents "fairly" and that parts of the 2000 commission structure have changed from 1999. She notes there are many variables used to calculate agent commissions.

Allstate Insurance Co.

To make Allstate's "Honor Ring," an agent has to sell at least 20 life insurance policies in one year amounting to at least $10,000 worth of premiums, and keep 70 percent of those customers in his or her book of business for 48 months. Once an agent is in the Honor Ring, he or she can qualify for all-expense paid trips to New York, London, and Scotland — Allstate's reward destinations in 1999. For example, if your Allstate agent reached the Honor Ring in 1999 and sold $50,000 in life insurance premiums, he or she was off to London for the "Chairman's Conference."

"Salespeople will work seven days a week to win a trip, be announced at a sales meeting as a 'star producer,' and perhaps eat dinner at the same table as the president of the company," says John Bloomer, a former State Farm agent who spent 30 years with the company. Bloomer, who retired in June 1998, says his own office was open six days a week.

Incentives, bonuses, and trips are all part of the agency sales strategy, says Rick Sabo, an independent agent at Gibsonia, Pa.-based Money Concepts International. But Sabo, a former MetLife agent, says there's an inherent danger when companies offer trips and bonuses in exchange for the sale of policies. "How many agents are selling the stuff because they're getting a perk or a bonus?" he asks. "Almost every company out there is trying to enhance sales with trips and other incentives. That's a conflict of interest." So, when an agent recommends a policy to you, is it motivated by your insurance needs or the promise of a nice commission?

Take LifeUSA's "Producer Perks," an incentive program that offers agents "a galaxy of prizes," including "fax machines, computers, home furnishings, jewelry, boats, cars, motor homes, the vacation of their dreams, and more!!" What else could there be? How about stock in the company? A LifeUSA agent brochure says that its agents who "create wealth ought to have a Share of the Wealth!" Agents can earn stock options and other bonuses "simply by producing business," says the LifeUSA brochure.

Officials from Allianz Life Insurance Co., the parent company for LifeUSA, did not return calls.

A small percentage of agents — 3 percent to 5 percent of all life insurance agents, according to George Krauss, president of the Magellan Group Inc., a risk-management consulting firm based in Pittsburgh — will sell folks new policies when their old ones don't need replacing, simply to get the high first-year commission again. The misleading sales practice of convincing someone to buy a new policy they don't need is called churning. But for an agent looking for a shot of big life insurance commissions, churning is an easy fix.

A veritable who's who of insurance companies have been smacked with class action lawsuits that ultimately settled for millions, sometimes billions, of dollars, because of insurance agent churning. For example, American General Life Insurance Co., John Hancock Mutual Life Insurance Co., Metropolitan Life Insurance Co., and Prudential Insurance Co. of America have paid hefty prices for churning.

"Healthy" commissions for agents and brokers

Health insurance agents, like their auto, home, and life insurance agent counterparts, can make big dollars if they work hard enough.

Kenneth Robbins, an insurance broker based in Woodland Hills, Calif., says his commissions for selling group health policies for small businesses — 120 firms that average 23 employees each — range from 3 percent to 10 percent, but most are 3 percent to 4 percent.

One "major HMO" with whom he does business pays Robbins a 6 percent commission for each group policy he sells. Premiums on that policy range from $270 for one person to $420 per month for a whole family.

He indicates that most companies offer similar health insurance commission structures.

Aetna U.S. Healthcare, for example, reportedly cut its commissions for small group health insurance policies from 5 percent to 3 percent on Jan. 1, 2000.

For large group health plans, insurers and HMOs will pay 1 percent to 2 percent commissions, says Robbins. For individual health insurance policies, insurers will shell out bigger commissions, usually 20 percent for the first year and then 10 percent for each additional year you renew.

Whether or not these life insurance companies have since implemented changes in their agency force or commission structures is unclear. The Florida Department of Insurance, for example, came down hard on MetLife in recent years for the consumer abuses their agents perpetrated, fining the company multimillions of dollars. As part of the fine, MetLife signed a consent order in which they agreed to comply fully with Florida law when it comes to selling insurance policies.

However, the order does not specify that MetLife has to restructure its agent commissions, nor does it address whether or not the company is required to educate its agents on avoiding churning and misleading sales pitches. Nina Bottcher, a spokesperson for the Florida Department of Insurance, says only that MetLife is required to take all the steps necessary to comply with state law.

Indeed, other life insurance class action settlements do not require the insurers to educate agents or restructure its life insurance commission schedule for agents. In fact, a standard part of such settlements are that the insurance company admits to no wrongdoing, although it agrees to pay hundreds of millions of dollars for its agents' alleged no-nos.

"None of the settlements in which I've been involved required the insurance companies to change their commissions or re-educate their agents," says Ron Parry, a partner at Arnzen, Parry & Wentz, a Covington, Ky.-based law firm. Parry, who has been involved in more than 10 life insurance class action settlements involving companies such as American General Life Insurance Co., John Hancock Life Insurance Co., Pacific Life Insurance Co., and Prudential Insurance Co., says that the class actions have made state regulators aware of potential abuses and the industry itself is making an effort to curb churning and misleading sales practices among its agents.

Parry cites the formation of the Insurance Marketplace Standards Association (IMSA) as the insurance industry's effort to police its own selling. The IMSA, formed in 1998 as a result of the spate of class actions filed against life insurers, is a group of 221 life insurance companies that advocates and requires ethical sales practices within its membership ranks. Parry says that the IMSA is "like the fox watching the henhouse," but "before it came along, nobody was watching the henhouse."

Sabo cautions policyholders to think about why agents try to sell you certain policies, especially captive agents. "Are you serving your best interest by buying from an agent that sells policies only from one insurer?" he asks. The motive to sell certain life insurance products — whether or not they fit your particular needs — could be driven by the quest for commissions and trips.

Sabo's Money Concepts International does not allow its agents to participate in insurance company bonus programs.

The lure of annuity sales The commissions paid on annuities might also influence the products your agent tries to sell you. For example, fixed-annuity commissions generally range between 2 percent and 12 percent, with longer-term annuities offering larger commissions. A seven-year Lincoln Benefit Life indexed annuity will pay an agent 6 percent commission, for example, while the 10-year Lincoln Benefit equity-indexed annuity pays a 10 percent commission.

"The longer you can get the annuityholder to tie up their money, the larger the commission will be," explains Sabo. That's because the insurer has a better chance to make money over a longer period of time on the money you pay in.

There's also the lure of exotic trips for big annuity sellers. A Lincoln Benefit annuity broker or agent can get a trip for two to one of 11 European destinations — Amsterdam, Brussels, Frankfurt, Innsbruck, Lisbon, London, Luxembourg, Madrid, Munich, Vienna, or Zurich — if he or she brings in at least $85,000 in paid annuity premiums.

Many insurance companies give their agents year-end bonuses known as contingency commissions, which are based on "good books of business." That boils down to policyholders who pay their premiums and who rarely, if ever, make claims. For example, Mercury Insurance Co. pays independent agents in Florida 15 percent commissions for new auto insurance policies. At the end of the year, if an agent's "book of business" — essentially, all the agent's policyholders — shows a low loss ratio and the agent sells a certain number of policies, the agent gets a 5 percent bonus commission.

Loss ratio is the number of dollars paid out in claims divided by the number of dollars collected in premiums. Mercury Insurance officials declined to comment.

At State Farm, agents receive Quality Results Profile (QRP) points based on the quality of their policyholders. Those QRP points can be cashed in by the agent at the end of the year for cash bonuses and wall plaques. To qualify for a cash bonus, an agent has to accumulate at least 30 QRP points.

Logically, the more points an agent earns, the more the bonus will be. Points are awarded for improved loss ratios and achieving higher life insurance policy sales. For example, State Farm's "break even" point on auto insurance policies is a 65 percent loss ratio — if for every $1 it brings in, the company pays out 65 cents. The company's "break even" point on homeowners insurance policies is a 55 percent loss ratio. If an agent is able to maintain a loss ratio within his or her own book of business that is equal to or less than State Farm's "break even" point, that agent gets 10 QRP points.

State Farm's QRP brochure provides suggestions for agents on how to increase premiums and cut costs. Agents are advised to promote so-called fringe coverages on your auto policy — those that you can either do without or for which you have limited use, such as auto-death indemnity or emergency roadside services coverage — that increase the amount of premium the insurer brings in. They're encouraged to sell replacement-cost coverage for homes, which is more expensive than actual cash-value coverage, too. They're encouraged to push higher limits of coverage or full-coverage options. And finally, agents are pushed to offer higher deductibles and to nonrenew high-risk customers in order to reduce the company's claims payouts, which also inflates an agent's bonus check.

Greg Laird, executive administrative assistant in State Farm's agency department, would not comment specifically about the QRP, but he says that State Farm will never knowingly turn away good business, and that State Farm looks to its agents to "put quality business on the books."

The contingency commission dilemma

Putting only quality business on the books is good for an insurer's bottom line, but rewarding agents with contingency commissions raises questions about how and to whom agents sell insurance. Here's a hypothetical example of how contingency commissions work: If your agent sells $200,000 worth of auto insurance, he or she will get $30,000 in regular commissions. At the end of the year, if your agent's policyholders are good drivers and don't make lots of claims, your agent could get an extra $10,000.


Neal Montgomery, director of agency marketing at Travelers Property Casualty, says that about 90 percent of the approximately 7,800 independent insurance agents who sell Travelers policies receive some type of contingency commission. And those commissions represent between 8 and 14 percent of an agency's income, he says. Montgomery would not divulge Travelers' contingency commission structure, but he did say that for personal lines contingencies (auto, home, and marine insurance policies), a high volume of premium and a low loss ratio brings the agent the maximum commission.

But will the incentive of "maximum commissions" encourage agents to redline — the unethical practice of refusing to offer insurance to someone due to age, race, or location? Unscrupulous agents vying for lucrative end-of-year commissions might refuse to sell you insurance if your driving record isn't that great or if you have a history of making claims.

Whether or not Farmers agents, for example, will refuse to sell you insurance based on your history is unclear, but that seed has been planted, confirms Farmers agent Kronemann. Farmers agents receive bonuses based in part on low year-end loss ratios.

Allstate, too, has a contingency commission structure — the Plus Performance Bonus — in certain parts of the country and for Allstate's independent agency force, which numbers approximately 21,000. The criteria change yearly and are based on region, but agents receive bonus checks based on low loss ratios and having brought in a specified amount premium dollars. For example, an Allstate agent might earn as much as an 11.25 percent year-end contingency commission if his or her loss ratio is below 35 percent and he or she has sold more than $1 million worth of insurance that year. Why such a big bonus? Because it gives the agent the incentive to control the "quality" of policyholders within the company.

To be sure, an insurance company reserves the right refuse business, but should it reward its agents for not selling insurance policies to homeowners who live in an 80-year-old neighborhood? Should the company reward its agents for not selling auto insurance policies to young, higher-risk drivers?

"If I'm a broker, I'm supposed to go out and get every penny my clients deserve in a claim situation," says Krauss of the Magellan Group. But the contingency commission creates an inherent conflict, he says, because the more claim money the broker helps the policyholder get, the more his contingency commission is reduced at the end of the year.

Insurers should reward their agents for good service records and high policyholder-retention rates, says Rod Guilmette of the National Association of Professional Allstate Agents, and most do. And the question of whether contingency fees encourage redlining "hasn't come up" within independent agent circles, says Madelyn Flannagan, assistant vice president of consumer affairs at the Independent Insurance Agents of America (IIAA).

"It makes sense that one might draw the conclusion that contingency fees could lead to redlining, but most IIAA agents are interested in helping the largest array of customers as possible," she says.

When asked if he thinks contingency commissions encourage redlining, Montgomery of Travelers says only that his company makes its stance on redlining very clear: "We have a firm policy with our agencies about redlining, and we remind them of it on an annual basis: We will not tolerate it."

Consumer vigilance is key to quashing agents' conflict of interest

Insurance company protocol notwithstanding, abuses of agent-incentive programs do happen. To avoid salespitches that are motivated by agent incentives, find an agent you trust and consider asking whether or not he or she participates in contests and company incentive programs. Although the agent has every right to earn a living, you need to know if your agent is making it to your detriment.

"The consumer needs to be informed of these issues and make their decisions accordingly," says former State Farm agent Gilmore. In order to make money, agents might have to sell policies their policyholders might not need, but agents also need to maintain their policyholders' trust in order to stay in business. "The agent is in a catch-22," says Gilmore.











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