Alan Tyler and Nick Kirwan discuss the challenges and opportunities resulting from welfare reform, and their practical solution to the thorny means-testing issue.
Five Giant Evils
The world of welfare has always presented challenges to society. Many people have attempted to take up that challenge, none more so than Sir William Beveridge who in December 1942 set out to address the ‘five giant evils’ haunting Britain … Want, Disease, Ignorance, Squalor and Idleness.
Fortunately, in our comparatively small world of Income Protection (IP) insurance, the size and scope of the issues we are trying to deal with are not as great as those that Beveridge was seeking to resolve, yet there are echoes of each of those five giants in the work that we do. Whether Beveridge succeeded or not depends on your view of history but certainly his vision, created at a time when the country was at war, was a remarkable one and a huge step forward in defining the role of the state in protecting its citizens.
By comparison, despite the efforts of many dedicated people, the insurance industry’s attempts to protect those unable to work as a result of ill health and return as many as possible to the workplace, sometimes resemble a toddler still trying to take its first steps.
If we are to be taken seriously, this has to change.
The challenges are still there for both parties.
- To encourage good health management both in the workplace and the wider community and thereby minimise the risk of ill health occurring in the first place.
- To provide a safety net for those most in need at a cost that the nation can afford.
- To provide a range of services which maximise the chances of those affected returning to work.
- To set out clearly where their support will be directed and encourage people to take responsibility for protecting themselves where they have the means to do so.
For the insurance industry:
- To raise the profile of IP insurance to reflect the position it has always occupied at the top of the hierarchy of consumer needs.
- To better understand the needs of individual consumers and ensure that IP is targeted at those with a clear need for it.
- To present a consistent proposition to employers and individual consumers that removes the artificial divisions between group and individual insurance, enables employers to decide what is of greatest value to them in providing benefits to their staff and helps employees to identify what options they have to build their own personal protection package on top of that. For the self-employed, the position is simpler but the message sent out by the industry across the world of work needs to be consistent.
Unfortunately, neither the government nor the industry have succeeded in encouraging many of those who can afford to do so to take more personal responsibility for their own welfare. By comparison, the complexity of the welfare system makes any insurance policy look like a child’s first reading book, leaving people with little idea of what to expect if they ever needed to rely on it. As a result, determining the need for self-provision and how to address it can prove difficult.
Clearly there is more to do and in reality, the two sectors could achieve much by working together:
- Greater personal protection would prevent many unable to work through ill health from experiencing the decline in their personal finances which so often leads them to fall back on means tested benefits.
- They can increase awareness of the risk of ill health and how to alleviate it.
- They can encourage better health and, when misfortune strikes, manage the ensuing claims effectively.
In the past, the industry has not always helped itself. With only around 3.5 million out of a working population of 29 million covered by IP, insurance is not as big a player as it should be in addressing work absence and although many fortunate enough to be covered have positive tales to tell of the support they have received, the publicity surrounding Payment Protection insurance has led to widespread mistrust of the industry.
In its favour, when the government was starting out on its journey to reform the old Incapacity Benefit system, they learnt much from the IP industry about the value of prompt and effective claims management and the provision of support services in helping people back to work and now provide more help much earlier within the state system.
Yet has the industry really done enough to demonstrate its ability to address the needs of the majority of working consumers?
In November 2011, as part of their ‘Health at Work’ review (Source: http://bit.ly/1hldf8S), Dame Carol Black and David Frost devoted some time to considering the merits of an insurance based approach but whilst recognising that IP insurance ‘can provide an invaluable income to employees who have exhausted sick pay and whose health condition continues to prevent them returning to work’ and acknowledging that ‘IP insurance can offer more than just income replacement’, they highlighted that only ‘around 11 per cent of UK workers are covered by an IP policy’ and saw ‘coverage skewed towards higher earning executives’.
Is this really to be our legacy?
Why does IP insurance cover so few people?
Many reasons have been put forward for this lack of penetration including cost, complexity, a reluctance from consumers to consider the risk of ill health, underwriting issues, mistrust of the industry and overlaps with state benefits which can mean that by effecting insurance, consumers may only succeed in denying themselves access to means tested support.
Let us look at the two issues most pertinent to welfare provision, complexity and means testing.
The state welfare system is itself extremely complex and for insurers, tailoring the product to meet the needs of individual consumers also entails a degree of complexity. Everyone’s financial situation is different, yet once those needs are met, the protection provided can be invaluable. The recent Simple Products initiative was praiseworthy in its intent. Anything that can be done to simplify the product without compromising consumer choice is welcome but unless this is accompanied by a greater commitment to bringing the product and the underlying risks that it seeks to address to the attention of consumers, this alone will achieve little. Consumers also need to be better informed about the state system and reminded on a regular basis what support their employer is prepared to provide.
IP also entails a degree of complexity for insurers. It requires a commitment to monitoring and managing claims effectively over a long period of time in order to achieve the rate of return assumed in the premium rates. It is not a simple question of measuring ‘money in’ versus ‘money out’ as is the case with some other forms of insurance. Many providers recognise this and have established the infrastructure needed to measure the performance of the product properly but is this the case across the whole industry and are some providers reluctant to commit sufficient resources to this? Is IP sometimes viewed as an accommodation line, compared to other forms of insurance which are easier to manage?
The means testing issue is one which some industry figures have cited as a reason why the product may not be suitable for many basic rate taxpayers. It also appears to be a major factor in why the ABI have chosen not to pursue a simple individual IP product.
In fact, this issue is by no means unique to IP insurance. Similar situations can sometimes arise with Critical Illness insurance, private pensions and, for a surviving partner, life insurance and yes, for some consumer groups this can be a significant factor. However, this issue needs to be kept in perspective.
Insurance customers seeking to protect their earnings will have a track record in work which entitles them to claim contributory benefits, at least in the early stages of their claim. Above this, they can claim a means tested top up but Employment and Support Allowance statistics show that few succeed in doing so in the early stages of their claim (Source: https://www.gov.uk/government/collections/dwp-statistical-summaries).
This is due to many households having a second earner and the level of support provided being greater for those who rent than for those who own or are engaged in buying their home. More people succeed in claiming this means tested top up the longer the claim continues and the claimant’s financial situation deteriorates, but this is the very situation that IP seeks to prevent and even after 1 to 2 years on contributory ESA, less than 1 in 4 claimants have qualified.
One essential difference between the state welfare system and insurance is that the former looks at households and their needs – not individuals and the benefits they have paid for. We know, for example, that the welfare system rightly looks after families with dependent children better than those without, to address child poverty. Added to this, the interaction with insurance is only with means tested benefits, not all benefits.
So, while welfare benefits provide an adequate safety net for a minority of the workforce, this should not be allowed to distract the industry from focussing on the majority who have a clear need for IP insurance. Only one thing stands in the way of doing so, which is identifying who is in which group.
Resolving the means testing issue
One way to approach this would be to do a full welfare benefits assessment for each customer, factor in any proposed insurance and then look at the interaction between the two. This is likely to exceed the attention span of most consumers and ultimately would be of dubious value. The customer won’t be making a claim straight away so any future entitlement to welfare support would depend on many factors we cannot predict, for example, the extent of any future disability they might acquire and their household circumstances at that time.
So, the key to unlocking this puzzle is by recognising that you don’t need to predict exactly what people would get from the welfare system today in order to understand how well they would fare generally under it and whether means testing is likely to be an issue.
The complexity of the welfare system means that customer segmentation needs to take into account several factors. However, this can be done quite easily using an interactive format either at point of sale or as part of a wider consumer information programme informing them of the risk of ill health and possible ways in which this can be alleviated. It can be used by advisers or by consumers in workplace or home settings.
IPTF has identified 3 main consumer types:
This segmentation can be achieved by asking just 4 interactive questions about the household’s make up, income, savings and home tenure. Of course, the applicant’s circumstances at time of claim may be different from those at point of sale and further changes to the state system may also have occurred, so it is impossible to predict with any certainty what anyone’s entitlement will be. This also emphasises the importance of reviewing any insurance coverage on a regular basis. Nevertheless, an applicant’s current entitlement and potential need can be demonstrated together with the possible impact of future changes to their household circumstances.
As well as highlighting the need for cover amongst Type 3s, a much better match between insurance and state benefits could be achieved for Type 2 consumers through relatively minor adjustments to the means testing system aimed at encouraging self-protection and preventing people from sliding into financial hardship.
All too often, pleas from the industry for incentives to insure follow a familiar path in appealing for tax relief, a process that governments no doubt expect from us as a matter of routine, but this is by no means the only approach that can prove effective. IPTF has developed a number of ideas aimed at ensuring that any solution is targeted at those who most need it and is also cost-effective for the government to provide in reducing the numbers having to seek means tested support.
However, system changes take time to achieve and, in the meantime, the industry can do much to demonstrate its credibility to government by proving that it can address the needs of Type 3 consumers more effectively than it has done to date.
Attitudinal reasons for choosing insurance
There are additional reasons why some consumers may prefer to put their faith in insurance rather than the welfare system and IPTF has set these out. These consumers simply do not wish to put themselves through the different assessment and means testing processes which the state requires. There is already evidence that some people do not claim the benefits that they are entitled to because they regard the amounts they might receive as not worth the effort of claiming. This is estimated to be somewhere between 11% and 23% of those entitled to means tested benefits (Source: http://bit.ly/1ohgXVa).
For them, the option of a long term contract with guaranteed terms and conditions may be preferable to an ever changing and increasingly restrictive state system. ‘Own occupation’ definitions, the ability to tailor benefit levels and payment criteria to personal need, higher insurance claims acceptance rates and the lack of investigation into other family circumstances at time of claim may also prove persuasive. This is a group who still need to be informed about their entitlement but in the end, may prefer what we have termed an ‘emotional opt out’ to reliance on the state.
The way forward
By more active promotion of the product and the risks underlying it, careful consumer segmentation, greater clarity from employers about the protection that they provide and a modicum of good will from the government to clarify for everyone where their support is directed and encourage those able to do so to protect themselves, we can at last bring this much needed coverage to many more people and play our small part in addressing the ‘five giant evils’ that Beveridge identified, reducing want, minimising and managing ill health more effectively, informing and improving public awareness of the risk of ill health and how to mitigate this, reducing squalor and preventing idleness.
Is the industry up for the challenge and at last prepared to commit to the product?
Nick Kirwan and Alan Tyler
Nick is currently Director, Care Funding Advice at International Longevity Centre – UK and sits on the Executive team of the IPTF. He was previously Assistant Director – Health and Protection at the ABI and prior to that, protection marketing director at Scottish Widows.
Alan Tyler OBE is a Health and Welfare Business Consultant with a long and distinguished history in the insurance industry. He was formerly Health and welfare Strategy Manager at Swiss Re and received his OBE for services to Welfare Reform.