Insurance distribution involves marketing to clients by an insurer's in-house team and engaging intermediaries such as individual agents, corporate agents, and point of sales persons. Insurance brokers play a seminal role in the latter and indirectly contribute to the former. Insurance brokers, unlike other intermediaries, act for potential policyholders and not insurance companies. The types of activities provided by insurance brokers range from risk assessment / management to handling claims for their clients. This allows a client to receive catered advice and assistance on the extent and nature of insurance coverage they require. Accordingly, insurance brokers provide significant services to their clients and facilitate the sale of insurance policies to their customers, thereby contributing to the process of efficient and informed insurance distribution.
We have, in this article, sought to highlight the fact that it is perhaps, time to liberalise the restriction on the foreign investment limit of 49% for insurance brokers. In our view, there is no reason why the investment caps which are applicable to insurance companies should not be made applicable to an insurance broker.
Current Foreign Investment Treatment of Insurers and Brokers
Although insurers and brokers serve different purposes, have different objectives, and contribute to a different part of the insurance sector, from a foreign direct investment (FDI) perspective, insurers and insurance brokers have been clubbed together. Paragraphs 126.96.36.199 and 188.8.131.52(g) of the consolidated FDI policy (FDI Policy) effectively apply the same 49% automatic route cap for FDI in an insurance company and intermediaries such as an insurance broker. This position is reflected under Schedule 1 to the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations 2000 (FEMA TISPRO Regulations). Further evidence of similar regulatory treatment of insurers and insurance brokers can be found from the fact that the IRDAI issued separate, although quite similar, guidelines on 'Indian owned and controlled' for insurance intermediaries, including insurance brokers, on 20 November 2015; shortly after its 19 October 2015 guideline on the same subject for insurance companies.
The Insurance Laws (Amendment) Act 2015 (Amendment) did not introduce an FDI cap increase for insurance intermediaries. In fact, the much-anticipated foreign investment increase introduced by the Amendment was only with respect to insurance companies in terms of an amended definition of 'Indian insurance company' under Section 2(7A) of the Insurance Act 1938 (Act). The Act remains silent on the foreign investment limitation in insurance intermediaries.
Since the enactment of the Amendment, the IRDAI has not notified an amendment to change the FDI limit set out under Regulation 9(5) of the IRDA (Insurance Brokers) Regulations 2013 (Broker Regulations), which provides that foreign investment in an insurance broker is capped at 26%. While this was perceived to be unusual, shareholders of insurance brokers and investors have drawn comfort from the mention of brokers under the 49% automatic cap set out under the FEMA TISPRO Regulations and the FDI Policy. It appears that the IRDAI has attempted to address this dichotomy, along with many other issues concerning brokers, in their exposure draft of the IRDAI (Insurance Brokers) Regulations 2017 (Exposure Draft). Regulation 20(1) of the Exposure Draft provides that the aggregate holdings by foreign investors, including portfolio investors, will be capped at such percentage of the paid-up equity capital of the insurance broker which is prescribed by the Central Government. While the Exposure Draft has not been finalised in the form of a new set of regulations which will supersede the existing Broker Regulations, they present evidence of the fact that the upcoming regulations are meant to be drafted to be flexible and in-line with the FDI cap imposed at the relevant time by the Department of Industrial Policy and Promotion (Department of Industrial Policy and Promotion (and reflected in the FEMA TISPRO Regulations).) and reflected in the FEMA TISPRO Regulations.
Insurers and Brokers – A case for different treatment
The increase in the FDI cap for insurance companies has taken several years and was a politically sensitive issue. A long legislative journey which began with the introduction of the Insurance Laws (Amendment) Bill 2008 finally culminated in Parliamentary approval and the President's asset in 2016 in the form of the Amendment. There appear to be various reasons for the political sensitivity in FDI in insurance companies, although the authors of respectfully submit that perhaps it is time to increase the FDI cap from existing 49% to 100%, however, this is a separate discussion which requires a separate analysis. One major reason for the political tussle was that insurance companies receive a substantial amount of household savings (in the form of primarily life and unit-linked insurance policies) and hence their stability and regulation is financially critical for the Indian economy. General insurance and reinsurance are also essential as non-life risk and the transfer of risks to reinsurers also need to be stable and well regulated. The IRDAI has historically mandated that insurance companies maintain capital adequacy by prescribing solvency margins and ratios in order to ensure their financial stability, in particular, their ability to pay and settle claims. Another major reason for deliberations around FDI in insurance companies has been the role that Indian insurance companies have played in their investments. Insurance companies are major investors in India's equity markets, infrastructure, and government debt. All of the above indicate the significance of insurance companies to India's economy, and all of these have been reasons why an FDI increase specifically regarding insurance companies has always been debated in a fair amount of detail.
However, most of the aforementioned reasons for limiting FDI in insurance companies do not apply to insurance brokers. While there is no solvency margin for brokers, they are required to maintain 100% of the minimum capital/ contribution prescribed (which ranges from INR 50,00,000 to INR 2,50,00,000, depending on the category of broker) and deposit an amount equal to 20% of their minimum capital/ contribution with a scheduled bank in India. Unlike insurance companies, investments by insurance brokers are not regulated. The reason for this is that insurance companies handle policyholder funds and insurance brokers do not. Accordingly, the direct significance of insurance brokers to India's economy is less crucial than insurance companies. We say 'direct' since insurance brokers do contribute to the economy by providing risk management services to their clients and assist them in obtaining adequate insurance coverage, including coordinating with insurers for claim settlement. These have positive implications for policyholders and facilitate insurance business. Finally, by definition, insurance brokers act for their clients and not for insurance companies. Insurance brokers have a fiduciary duty towards their clients and are not necessarily gauged at placing more policies which, for example, is an objective of insurance corporate agents. Accordingly, similar FDI treatment of a company receiving and investing public funds and a services company is neither warranted nor necessitated.
There are potentially several benefits to the insurance sector and for policyholders and customers due to an increased FDI cap in insurance broking. First, India would see an increased amount of FDI inflows. This has been a consistent feature highlighted by the Central Government and is one of the objectives of easing regulations and caps in relation to FDI in other sectors. Secondly, greater FDI inflows and increased commercial interest in insurance broking is expected to lead to higher capitalisation of insurance brokers. Thirdly, foreign strategic investors would have a higher appetite for investing (and remaining invested) in the Indian insurance broking space, bringing with them global best practices in representing Indian clients for their risk management and insurance requirements. Most significantly perhaps is that the entry of more global brokers would provide far more choice to Indian potential policyholders in terms of brokers available to assist them, and other industries have witnessed that greater competition has usually led to lower prices and higher quality of services. Such insurance brokers (ie having 100% FDI) would continue to be regulated by the IRDAI and the Broker Regulations and/ or the Exposure Draft (once finally notified) would be sufficient to continue regulating their activities, and hence separate regulations would not be necessary. Finally, increased investments in insurance brokers would provide an impetus to achieving further development of India's insurance market, which remains vastly underpenetrated.
The path ahead
For the reasons we have discussed above, we think, it is time for re-considering the FDI limit for an insurance broker. There is a clear distinction in the objectives and larger economic impact of insurance companies and insurance brokers, and there is a case that can be considered for differential FDI treatment. The path ahead for FDI liberalisation in the insurance broking sub-sector is also relatively easier as it doesn't require an amendment to the Insurance Act 1938, which in turn requires the approval of the Parliament. If the Exposure Draft is finalised in its current form (particularly Regulation 20(1)), FDI liberalisation could be implemented in two quick steps – (i) the DIPP notifying an amendment to the FDI Policy to provide for 100% FDI specifically in insurance brokers under the automatic route, and (ii) notification of an amendment to the FEMA TISPRO Regulations by the Reserve Bank of India to reflect this change. To reduce the risk of confusion on the concept of "Indian owned and controlled", the IRDAI could then issue a circular withdrawing its earlier circular dated 20 November 2015, which introduced the "Indian owned and controlled" conditions for insurance intermediaries, like the "Indian owned and controlled" guidelines introduced for insurance companies pursuant to its circular dated 19 October 2015. With these steps, the Government of India and the IRDAI will be able to liberalise insurance broking, as a sub-sector, and allow for increased attention to insurance broking, elevated FDI inflows, introduction of more global best practices, and potentially more choice for consumers (ie potential policyholders) in terms of advisors, quality of services and costs of services.
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