A recent study of Harvard Business School on ‘Understanding the Advice Commissions- Motivated Agents: Evidence from the Indian Life Insurance Market’ shows that life insurance agents provide better advice to their clients under competition. It also suggests that the transparency in commission structure will improve the quality of advice being served.
The study was conducted with the help of sixty pilot audits in which well-trained employees of financial sector, posing as clients, approached insurance agents for investment purpose. Surprisingly, when these imposters stated that they have already spoken to another agent, the agent, who faces threat of competition, had provided better advice to them.
Further, the study found more flaws in advisory practice of life insurance agents in India.
Commission - Commission can bias advice. Agents prefer to recommend high commission products irrespective of needs and goals of a client. The study found that 91% of agents had recommended more expensive products to their clients.
Disclosure - Hiding information may be an integral part of sales strategy of life insurance agents. Agents are less likely to sell ULIPs since the disclosure norms are more stringent now. Instead, the agents prefer to recommend whole life policies which have opaque disclosures of commission structure.
Knowledge of clients- Agents discriminate in the type of advice they provide based on their perception of knowledge level of clients. Hence, naïve clients are more prone to mis-selling. The study observed that the clients who have less financial knowledge receive expensive and unsuitable products compared to those who have good knowledge.
Whole Life Insurance versus Term Plan
The study advocates that the combination of savings account and a term insurance policy provides six times as much value as a whole life insurance policy or endowment policy. If a person buys term insurance policy where premium payment is cheaper and invests rest of the money (premium paid to whole life insurance minus premium of term policy) in post office National Savings Certificate (NSC) which typically provides annual returns of 8%, the person would have gained more returns than traditional life policy or endowment policy even if term policy lapses.
Also, the insurance companies do not compound annual bonus given to policyholders in traditional policies thereby reducing their coverage amount at the time of maturity.