Embedded insurance doesn’t have a single meaning but broadly refers to the integration of insurance products directly into the sale of the distributor’s ‘core’ non-insurance goods and services. This can be achieved through a separate and distinct “add-on” insurance sales process by the distributor of the core good or service (i.e., sold separately but at the same time as the core good or service) or by way of fuller integration of the insurance into the core good and service itself.  In this article we are looking at the latter and not at “add-on” sales of an insurance products (nor are we looking at product or service warranties) but we will be looking at the integration of insurance into the purchase price (and sometimes the contract) of the core non-insurance good or service; think lease of a car with comprehensive road insurance included in the monthly rental.

Growth of Embedded Insurance

Embedded insurance is by no means new and can be traced back to at least 1925 when, for example, Chrysler in the US sold fire and theft insurance included with vehicles that were being financed¹.  Our own working experience of the growth of embedded insurance is evident in market statistics (the embedded insurance industry in Europe is “expected to steadily grow, recording [cumulative growth] of 19.4% by 2029”²). This growth is most likely being driven by digital technology advancements deployed in the sale of consumer goods and services and changing consumer behaviours all of which are supported by the rise of insurtech companies. Advancements in app technology in particular have provided innovative insurance solutions enabling businesses to embed insurance into their core goods and services. 

Overall, embedded insurance is attractive to consumers because it simplifies the insurance process and is convenient, eliminating the need for separate transaction processes. It is attractive to distributors and insurers because it opens new revenue streams for them, enhances the broader core business proposition of the distributor and thus can reach a broader customer base meaning insurers can expand their market reach.

Regulation

While the attractiveness of embedded insurance to consumers, distributors and insurers is clear, it will of course be appreciated that the FCA’s conduct regulations can’t be ignored. There are a number of specific regulatory touch points for insurers and distributors to consider; in this article we will consider two of those touch points; the need to ensure that the distributor is properly authorised and the assessment of product fair value.

Verifying the regulatory status of the distributor

First-off, consideration needs to be given to the regulatory status of the distributor(s). Under MIPRU 5.2.1R, an insurer, for example, must not use the services of a distributor for insurance distribution unless the distributor is properly authorised or exempt for such activity. This rule imposes a policing-type requirement on insurers. Since the insurer and distributor will need to be parties to a distribution agreement for the relevant insurance products, the insurer will most certainly be “using” the services of the distributor.

Thus, insurers will need to verify the regulatory status of the distributor; is the distributor carrying out regulated insurance distribution activities for which it requires a Part 4A permission from the FCA, or does it benefit from a regulatory exclusion or is it an Appointed Representative and thus exempt?  We don’t propose to consider the relevant regulated activities in this article, but in the context of insurance selling (ignoring claims handling and administration), the relevant regulated insurance distribution activities are (under the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 (“RAO”):

• ‘Dealing as Agent’ (Article 21): "buying, selling, subscribing for or underwriting… [rights under a contract of insurance]… as agent."

• ‘Arranging’ (Article 25(1)): "making arrangements for another person (whether as principal or agent) to buy, sell, subscribe for or underwrite …[rights under a contract of insurance]."

• ‘Making Arrangements’ (Article 25(2)):  "making arrangements with a view to a person who participates in the arrangements buying, selling, subscribing for or underwriting …[rights under a contract of insurance]."

• ‘Advising’ (Article 53): "advising a person… on the merits of … buying, selling, subscribing for or underwriting …[rights under a contract of insurance]."

In some cases, the distributor may be able to benefit from the “connected contracts” exclusion at Article 72B of the RAO. In that case the distributor would not require Part 4A Permission but it is worth noting that Article 72B applies in very specific and, in some cases, narrow circumstances: in relation to non-motor goods supplied by the distributor, in relation to the non-use of services to be supplied by the distributor and, in the travel context, where the travel booked with the distributor relates to attendance at an event organised by the distributor outside the consumer context or related to the hire of certain types of aircraft or vehicles. Thus, the scope of Article 72B will not be available in many circumstances.

In this context, we have sometimes encountered the view that arranging distribution by way of a master policy, sometimes referred to generically as a group policy, meant that the distributor avoided the need to obtain Part 4A permission. A master policy or group policy is a contractual arrangement whereby the policyholder (or legal holder of the policy) extends the insurance benefits provided by the policy to a defined group of beneficiaries other than itself. In distribution models, the distributor becomes the policyholder of the master policy or group policy and extends the benefits of the insurance to its customers.  There is no reason why such a contractual arrangements doesn’t work for embedded insurance.

The question of the need for Part 4A permission is, however, an activity-based question which looks at the activities carried on by the distributor and assesses whether those activities amount to regulated insurance distribution activities. The use of a master or group policy distribution arrangement is, in and of itself, no guarantee of avoiding the need for Part 4A permission.  This is because the relevant regulated activities, as referred to above, are not defined by reference to “contracts of insurance” or the “conclusion of the contract of insurance” per se but, are defined by reference to “rights under contracts of insurance”. This distinction is important because it means that the sale or distribution of insurance rights under the terms of a master or group policy is very likely to fall within the scope of those relevant regulated activities. In most cases, the insurance benefits will entitle the distributor’s customers to claim directly from the insurer or receive the benefits of the insurance directly from the insurer.  In other words, the distributor arranges for its customers to become “policyholders” in the FCA sense of that term (being “a person, to whom under the policy, a sum is due…”). Accordingly, master or group policies don’t conclusively answer the question of regulatory permission one way or the other.

If it is clear that the distributor is undertaking insurance distribution activities, consideration should also be given as to whether the distributor is carrying on those regulated insurance distribution activities “by way of business” (s.22 Financial Services and Markets Act 2000).  If it can be established that the distributor is not carrying on such activities “by way of business”, then it will not need Part 4A permission. The “by way of business” test is broadly defined by the FCA (see PERG5.4). The analysis will always be fact dependant but given that, from the distributor’s perspective, one of the incentives for embedding insurance is to either enhance the sales of its own core non-insurance products and services or to achieve a new revenue stream directly by obtaining commission or some other form of direct remuneration from the insurer, the “by way of business” test is likely to be satisfied. In particular, the FCA has expressed the view that any economic benefit which the distributor expects to receive as a result of carrying on insurance distribution activities would satisfy the test (PERG5.4.3.(b) G) and see in particular the examples given at PERG5.4.8G).  

Fair Value

Where the distributor is properly authorised with Part 4A permission to carry on regulated insurance distribution activities, one of the advantages for the insurer in terms of conduct regulation is that the distributor will be considered as the customer-facing intermediary and will bear the weight of the Insurance Conduct of Business requirements (ICOBS1.1.2R. Annex 1 Part 2, 4 “Chains of insurance intermediaries”). Still, with the advent of the Consumer Duty and insurers’ PROD requirements, insurers cannot simply leave fair value assessments to distributors.  Indeed, the FCA’s recent Thematic Review (TR24/2 “Product Oversight and Governance thematic review – General Insurance and Pure Protection (PROD 1.4 and PROD 4)”) reinforces insurers’ obligations, due to their role as product manufacturers. 

For embedded insurance, assessing fair value provided by the insurance product manufacturer and assessing the impact of the distribution channel may be more challenging when compared to other forms of distribution where there is a discrete and separate sale of the insurance.  

The FCA’s starting point is that there is a greater risk of customers not receiving fair value from insurance products where the insurance product is distributed on an ancillary basis to another product (PROD4.2.3A G). Additionally, PROD imposes on insurers, as manufacturers, a requirement to use distribution channels only where they can demonstrate that customers receive fair value after considering, in particular, the risks inherent in the selected distribution strategy, including the level of remuneration and the distribution chain (PROD4.2.3A G and see paragraph 4.61 of TR24/2). It is therefore important for insurers to get this right.

The inherent risk about fair value in the context of embedded insurance is that the efficiency and simplicity of purchase, which is the main attraction for customers, can mean that customers don’t focus as much on pricing and market comparative data relating to the insurance itself. Thus, the FCA likely expects more from distributors and insurers when assessing fair value in the context of embedded insurance. What does this mean in practice? So long as insurers and distributors sufficiently share relevant value information, it will not be difficult to assess whether the costs of manufacture, production, administration and distribution of an insurance product bear a reasonable relationship to the price the customer pays (PROD4.2.14E R). But, in the context of embedded insurance, additional thought should be given to applicable market benchmarking as one of the factors to consider when assessing fair value (see the FCA’s discussion at paragraph 4.35 of TR24/2).  In other words, there should be some reflection on a comparison of, on the one hand,  the price of the good or service with the embedded insurance product as marketed and, on the other hand, the price of the same good or service when considered together with the price of equivalent insurance if it were being bought in the open market.  That will be an important consideration when assessing fair value in the context of embedded insurance.

The foregoing is echoed by the FCA in TR24/2 where the FCA says (admittedly in the section relevant to distributors, but nonetheless informative as to the FCA’s general views):

Examples of better practice … The product distribution arrangements clearly set a process that allowed the firm to identify and address the risks to customers where it was distributing the insurance product as part of a package. This included the nature of the risks and actions that should be taken to manage these risks. Example of risks identified included:

•    duplication of cover

•    appropriateness of the package, considering the nature and type of cover provided by the individual products in the package, and

•    the price of the package did not exceed the total cost of the individual products if bought separately. (Paragraph 5.6 of TR24/2)

Conclusion and Outlook

The future of embedded insurance in the UK looks promising. Distributors including banks, payment service providers, product manufacturers, insurers and insurtech companies are likely to explore new opportunities for embedding insurance into a wider range of products and services.

Insurers and distributors embedding insurance with their products and services will need to collaborate effectively with each other to ensure that distributors are properly authorised and that there is full and open sharing of information regarding the challenges posed when assessing the fair value of embedded insurance distribution.

Authored by Victor Fornasier and Alex Tansey.

References

1  “Embedded Insurance: The Art and Science of Unselling Insurance” Coverager and PWC, 2022

2  “Embedded Insurance and Insurtech: benefits and challenges”, fabrick, May 2024