July 25, 2024

Controversy over fair value claims: FCA and industry clash on GAP Insurance

With the Financial Conduct Authority (FCA) demanding greater value for consumers from GAP Insurance, the automotive industry is at a critical juncture. The FCA’s findings that only 6% of premiums were paid out in claims have sparked calls for reform, putting pressure on insurers and dealers to demonstrate the value of their products under the new Consumer Duty regulations.

Guaranteed Asset Protection Insurance, or GAP Insurance, is a type of coverage designed for situations where a customer’s vehicle is written off or stolen, or when a motor insurance payout does not cover the original purchase value or the remaining finance value. It is commonly sold alongside car finance.

“While GAP insurance is not mandatory or essential for car owners, its popularity lies in its ability to reduce vulnerability and provide peace of mind in total loss situations,” explains Daniel Briggs, CEO at Motorfinity.

Despite the protection it offers, GAP insurance came under scrutiny when the FCA reported that only 6% of premiums were paid out in claims.

“We intervened because we were concerned that a mere 6% of consumer premiums were being paid out in claims, highlighting a lack of fair value for customers. Additionally, we observed high commission levels, with up to seventy pence of every pound in premium paid,” said an FCA spokesperson.

The FCA’s call for immediate action urged the industry to prove that customers were receiving a fair deal, setting a three-month ultimatum to make their case.

“Traditionally, GAP insurance has been a reliable source of profit for UK dealerships, and the FCA’s recent review aims to enhance consumer duty and eliminate systemic misconduct, prompting the industry to address its practices,” notes Briggs.

Signs indicated that the FCA was prepared to set an example, demonstrating a firmer stance under the new Consumer Duty guidelines. Introduced last year, the Consumer Duty mandates that companies offer fair value, meet customer requirements, and provide excellent service.

“This is an initial indication of our work under the Consumer Duty. Customers should be reassured that we are advocating for their interests and will take action against poor value offerings. Firms failing to prove fair value to customers should anticipate regulatory consequences,” stated Matt Brewis, Director of Insurance at the FCA.

Questioning the Data

Some critics have questioned the FCA’s data and claims, especially the assertion that the average GAP Insurance claim is £529 and that only 6% of premiums are paid out in claims. Industry members argue that their own data contradicts these claims.

An examination of the data provided by the FCA reveals that most insurers had average claim sizes exceeding £529. The data also indicates a 99.3% claims acceptance rate and a 0.63% complaint rate from claims, suggesting that customers are aware of what they are purchasing and are receiving expected benefits.

The argument is that these metrics would position GAP Insurance as a top-performing product in comparison to others in the FCA’s analysis.

On the contrary, the FCA emphasizes claims frequency and ratios, particularly highlighting that only 0.34% of customers who bought GAP policies as an add-on claimed on the policy, and 1.8% of customers who purchased standalone GAP insurance made claims.

The FCA also underscores that in 2022, only 6% of customers’ premiums for GAP insurance were paid out in claims, with some firms allotting as much as 70% of premium value in commissions to sales parties.

In February, the FCA expressed dissatisfaction with the industry’s response to its ultimatum, leading to several insurance firms pausing GAP insurance sales at the FCA’s request, collectively representing 80% of the total market.

“I appreciate the agreement by firms offering GAP insurance to halt sales while they enhance value for customers. While GAP insurance can be beneficial, its current form lacks fair value, and we aim to see improvements,” stated Sheldon Mills, Executive Director of Consumers and Competition at the FCA. “We will work closely with firms to address these issues and ensure customers receive fair value products.”

In its announcement regarding the suspension of GAP insurance sales, the FCA identified concerns regarding the design of GAP insurance across all distribution channels, indicating openness to considering proposals for alternative distribution methods.

Brokers have expressed feeling excluded from these discussions, calling for inclusion in dialogues. At a recent British Insurance Brokers’ Association (BIBA) conference, brokers advocated for participation. GAP insurance is not solely sold by dealers but also by online brokers who only handle inbound inquiries.

Alternative Coverage

The scrutiny surrounding GAP insurance has impacted its reputation, raising concerns about potential substantial price hikes from insurers that were not previously discussed.

“The industry’s actions have left UK dealers facing financial challenges and car owners at risk of financial loss in accidents,” says Anthony Hogan, Automotive Business Development Manager at Road Angel. “Dealer margins were already under pressure, and the rise of EVs has affected repair and replacement revenue.”

This situation has prompted customers and dealerships to explore alternative protection options.

“In the wake of the suspension of new GAP insurance sales, car dealerships are exploring new ways to provide UK drivers with protection and peace of mind,” notes Hogan, suggesting solutions such as dash cams to mitigate negative financial impacts and streamline insurance claims processes.

Motorfinity recommends shopping around for car insurance to identify savings that can offer support in scenarios where GAP insurance would have been beneficial.

Yet, the case for GAP insurance remains to be solidified.

A Multi-Year Product

Critics of the FCA’s analysis point out that GAP insurance is a multi-year product tied to vehicle depreciation. If a customer purchases a four-year policy, the vehicle’s depreciation increases over time. For instance, a car bought for £25,000 may depreciate by £5,000 in the first year and up to £15,000 to £20,000 subsequently. The argument suggests that claim amounts escalate with the policy’s duration.

The FCA’s data is based on 2022 figures. If the FCA only considered policies initiated in 2022 and claims made within that year, the data would reflect the smallest claims. An alternative approach could involve examining data from expired policies in 2022, which would provide a more balanced view of claim sizes.

However, the FCA asserts that its 2023 data covers premiums written and claims settled throughout 2022, considering various factors like business mix, policy duration, and target market that may influence value measures. The FCA contends that it has evaluated all these factors comprehensively.

Another significant factor affecting data is the post-Covid period when vehicle prices peaked, resulting in minimal depreciation. Insurers are already reporting increased claims for 2024.

Back to the Market

Despite the challenges, GAP insurance is not obsolete. In May, the FCA permitted several providers to resume GAP insurance sales, having demonstrated fair value alignment with FCA regulations. The approved firms include Fortegra Europe Insurance Company Ltd, Motors Insurance Company Ltd, Amtrust Europe Ltd, and Financial & Legal Insurance Company Limited.

“Firms resuming GAP insurance sales have reduced commission levels for sellers, ensuring customers receive better value cover tailored to their needs,” stated an FCA representative. “Our actions aim to deliver improved value cover to GAP customers.”

The FCA’s decision to allow these firms to recommence sales reflects a point-in-time assessment, expecting continuous evaluation and adjustment to ensure fair value provision.

While GAP insurance makes a comeback, uncertainties persist.

“While signs indicate a return of GAP insurance sales for dealers, the format and extent of insurance reintroduction remain unclear. In an evolving market for dealers and motorists, expanding safety product options like dash cams at vehicle purchase could safeguard dealers financially, offer convenient safety solutions for consumers, and enhance road safety,” suggests Hogan.

Specialist brokers are now able to sell GAP insurance again, but insurers are raising net rates while restricting retail premium caps for brokers. Some providers have returned with significant price hikes post-FCA intervention, leading to potential market exits by some brokers and narrowing competition.

The debate on GAP insurance’s value and regulatory framework will persist. As a litmus test for the Consumer Duty, the FCA’s handling of GAP insurance underscores the crucial need for improved communication between the FCA and the industry to establish best practices under this duty.

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