For many people, insurance-based investment products are an important component of their old-age provision (see info box). If the costs of such products are too high, the return could be too low. The savings portions of the policyholders’ premiums may then not be sufficient to avoid pension gaps later on. In the context of conduct of business supervision, BaFin therefore considers the cost burden to be a risk indicator.

In 2021, BaFin carried out a survey in order to obtain an industry-wide overview. As part of this, German life insurers were asked to submit data on the reduction in yield and to provide other information on the cost burden of insurance-based investment products (see info box). The survey revealed areas for improvement at some companies, specifically in their product approval processes and in the way they deal with potential conflicts of interest in distribution.

Implications of high costs

A high reduction in yield can indicate that an insurance-based investment product does not offer value for money. Yet that is precisely what insurers must ensure in their product approval processes, as set out in the relevant conduct of business rules. The product approval process is intended to ensure that an insurer’s products take into account the objectives, interests and characteristics of its customers.

Value for money is currently also the focus of supervision at the European level, particularly in unit-linked life insurance. The European Insurance and Occupational Pensions Authority (EIOPA) has therefore recently set out principles for the assessment of value for money.

The cost burden of a product can be an indicator of conflicts of interest in distribution as a result of high commission payments to intermediaries. Alongside value for money, this issue is also relevant for BaFin’s work relating to distribution remuneration at insurance undertakings (see “Risks in BaFin’s Focus 2022 ”). If BaFin identifies shortcomings in the product approval process or in the handling of conflicts of interest in distribution, it will aim at remedying these deficiencies. If necessary, BaFin may also decide to issue appropriate orders to the respective life insurers.

Survey questions

In its survey, BaFin asked life insurers for information about the reduction in yield of with-profit products including an interest guarantee and unit-linked products (including hybrid products).

With unit-linked products, policyholders can usually choose between different investment options; they then directly participate in the performance of the investments. In the following, the term “product” therefore always refers to the combination of a product and an investment option.

For unit-linked regular premium policies, insurers had to submit figures for the three products that accounted for the largest share of new business in terms of total premiums in the first half of 2021. With regard to other product categories, BaFin only asked for figures for the best-selling product in the first half of 2021.

Measured in terms of total premiums, the best-selling products reported in the survey accounted for around 75% (with-profit products) and 51% (unit-linked products) of the total new business with these products in the first half of 2021. BaFin also collected data on the products with the highest and lowest reduction in yield to provide an even better overview of the range.

In addition to data relating to the reduction in yield, BaFin also requested information on reimbursements from asset management companies. For many funds used in unit-linked life insurance, the asset management companies pay reimbursements to the life insurance companies or insurance intermediaries.

Differences in reduction in yield

BaFin’s survey showed considerable differences in the reduction in yield of the products concerned. The table below shows the distribution and the weighted average of the reduction in yield based on total premiums for contracts of the best-selling products depending on the age at entry and the contract term for a typical monthly premium of 100 euros.

Table: RIY of products with monthly premium payment

© BaFin

Example: based on the table and assuming an entry age of 37 and a contract term of 30 years, the reduction in yield of the bestselling unit-linked products would amount to a weighted average of 1.90%. The different quantiles refer to the percentage of products (25%, 50% or 75%) with lower reduction in yield than the ones stated in the table (1.30%, 1.64% and 2.35%). For 25% of the products, the reduction in yield is thus lower than 1.30%, for 50% lower than 1.64% and for 75% lower than 2.35%.

The shorter the contract term, the higher the reduction in yield tends to be. In unit-linked life insurance, it is significantly higher than in with-profit life insurance. In all entry age/contract term combinations, there are life insurers where the reduction in yield of the best-selling unit-linked products is above 4%. For policyholders, this means they would only make a profit on their investment if the underlying investments achieve correspondingly high returns.

The majority of unit-linked contracts are based on equity funds. These products are often advertised as giving policyholders the opportunity to share in the profits that can be generated on the stock markets. In view of this objective, the average reduction in yield appears acceptable for the longer contract terms. However, the higher costs for products at the upper end of the spectrum raise serious doubts as to whether the product approval processes take sufficient account of the interests, needs and characteristics of the target market – as required by the conduct of business rules.

Reimbursement practices of asset management companies

Asset management companies paid reimbursements to life insurers for about one third of their new business in the best-selling unit-linked products. On a weighted average per year, these reimbursements amounted to just over 0.30% of the fund assets, with the highest amounting to over 1.20%.

For about 80% of these products (measured in terms of total premiums), life insurers provide special bonuses with which policyholders participate specifically in the reimbursements of the individual funds on which their contracts are based. Calculated on a weighted average basis, the policyholder participation amounts to about 52% of the reimbursements paid. For about a quarter of these products, the full amount of the reimbursement is passed on to the policyholder.

Particular attention should be paid to the remaining 20%, for which there are no such special bonuses. In these cases too, reimbursements provided by the asset management companies increase the insurers’ other results (übriges Ergebnis); under the Minimum Allocation Regulation (Mindestzuführungsverordnung – MindZV) life insurers must provide policyholders with a share of at least 50% in these results. However, this provision only applies in the case of positive other results and only at the collective level of the portfolio as a whole. Section 153 (2) of the German Insurance Contract Act (Versicherungsvertragsgesetz – VVG) also requires that life insurers allocate the profit participation to the individual contracts using a causation-based procedure. This means that the insurers must take into account the extent to which the individual contract has contributed to the generation of the profit. If the reimbursements provided by the asset management companies differ significantly from fund to fund, a profit participation that is not based on the individual fund selection would no longer be in line with this requirement.

Measured in terms of total premiums in new business with unit-linked products, asset management companies paid reimbursements directly to insurance intermediaries for around 19% of the insurance business examined in the survey. This is according to the information available to the life insurers surveyed. Life insurers were only aware of the specific amounts of reimbursements (weighted average around 0.50%) in just under half of these cases.

When conflicts of interests are not contained

This indicates that some life insurers have only limited ability to identify possible conflicts of interest in distribution and to implement the legal requirements on distribution remuneration. Intermediaries who receive reimbursements from asset management companies for unit-linked products may be tempted to recommend the fund with the highest reimbursements to their customers. In order to be able to identify such conflicts of interest and manage them appropriately, life insurers need to know the amount of reimbursements.

Moreover, reimbursements to intermediaries do not increase the profit generated by the life insurer, which means that the profit shared with policyholders is also not increased. Rather, they de facto constitute additional distribution remuneration that is financed from the management fee of the asset management company and therefore tends to increase the costs of the unit-linked life insurance product. This increases the risk that the product no longer offers value for money from the policyholder's perspective.

Another problem is that this practice leads to a lack of transparency as regards acquisition and distribution costs. In accordance with section 2 (1) no. 9 of the VVG-InfoV, fund management fees which finance the reimbursements are part of the reduction in yield which life insurers must inform their customers about when they conclude a contract. However, they are not considered acquisition costs included in the premium, which must be communicated separately to the customers as a single amount under section 2 (1) no. 1 of the VVG-InfoV. This can give customers a false impression about the actual total amount of the acquisition costs.