Crackdown on Unlicensed Insurance Selling in Hong Kong

A recent publication by the Head of Conduct Supervision and General Counsel of the Hong Kong Insurance Authority (IA) highlights the alarming rise of unlicensed insurance sales in Hong Kong and its detrimental impact on consumers.¹ The IA also issued a circular on 22 May 2024² (Circular) warning authorised insurers and licensed insurance intermediaries of the serious consequences of non-compliant business models that incentivise unlicensed sale of long-term insurance policies to visitors from Mainland China (MCV). The recent joint operation by the IA and the Independent Commission Against Corruption shows that the authorities are determined to clamp down on mis-selling of insurance products by licensed insurance broker companies that are abusing non-compliant broker referral model. In this Legal Update, we have summarised the key takeaways that both authorised insurers and licensed brokers should be mindful of in light of this recent development.

Non-compliant Insurance Broker Referral Models

In the Circular, the IA has identified several features of non-compliant broker referral models, such as:

1. Use of unlicensed referrers to persuade MCV clients to buy specific insurance products and to provide regulated advice or carry on regulated activities, such as soliciting, negotiating, or arranging insurance contracts.
2. High referral fees paid by broker companies to unlicensed referrers, which are tied to successful sales and can amount to over 90% of the commission received from insurers.
3. Use of prohibited rebates by unlicensed referrers to induce MCV clients to purchase insurance policies.
4. Broker companies not fulfilling their duties. Technical Representatives of broker companies performing only “cosmetic” form-filling exercises and not providing substantive regulated advice or activities themselves.
5. MCV clients being required to sign statements to falsely assert that all regulated activities have been carried out by the broker company in Hong Kong, and to make such assertion in post-sales calls to the insurers.

Engaging unlicensed referrers to conduct regulated activities is a criminal offense under the Insurance Ordinance (Cap. 41) (IO) punishable by a maximum fine of HK$1,000,000 and up to two years of imprisonment.³

The Three Principles for Referral Models

Whilst there is no restriction for insurance brokers to accept introductions from unlicensed referrers, it is important to ensure that the referral model complies with the licensing requirements under the IO and the rules, codes, guidelines and circulars issued by the IA. The IA has set out three principles that must be adhered to by licensed insurance broker companies relying on referral model:

• “Principle 1: Unlicensed referrers must not give regulated advice to clients and must not carry on any regulated activities or sales activities. Unlicensed referrers should only introduce clients to the broker company and not influence their decisions on insurance products.”
• “Principle 2: The broker company (and its technical representatives) must give regulated advice to the client and carry on all regulated activities needed to arrange insurance policies for the client to the minimum standards required in [the IO, the rules, the codes, the guidelines and circulars issued by the IA].” For instance, insurance broker companies should recommend insurance policies from a range of insurers based on an objective and impartial analysis that meets the client’s needs, and ensure that the client makes a fully informed decision.
• “Principle 3: If any payments are to be offered to referrers by the broker company for introducing clients, such payments should be calibrated to be consistent with (i) the referrers not carrying on regulated activities (and not being incentivised to do so); and (ii) the broker company being properly resourced to provide regulated advice and perform regulated activities for the clients being introduced.”

The IA has made it clear that all controls and processes will be judged on a “substance over form” approach and that cosmetic controls and processes will not suffice. Therefore, insurance brokers should refer to the circular of 30 November 2022⁴ and the relevant Explanatory Notes⁵ for the detailed requirements expected by the IA.

Responsibilities of Authorised Insurers

The Circular also reminds authorised insurers that their intermediary management control function should also ensure that insurance business referred to them by licensed insurance intermediaries (including licensed insurance broker companies) complies with regulatory requirements set out by the IA, particularly for licensed insurance broker companies that source MCV clients through unlicensed referrers. While insurers should refer to the Annex to the Circular for the detailed explanation, we set out below some examples of the types of controls and processes that are expected to be implemented:

• A minimum level of due diligence should be performed on all brokers, including verifying their licence status, obtaining information on the broker company’s experience, knowledge, capacity and track record to understand its business models. If the broker company adopts a referral arrangement, enhanced due diligence must be performed and this may include practices such as conducting a formal meeting with the responsible officer of the broker company to ascertain that there are specific controls in place to ensure that its referrers are not carrying out regulated activities on unlicensed sales. Another enhanced due diligence practice is to obtain information on the broker company’s referral fee structure and amount to understand the proportion of commission paid to their referrers, as the IA has indicated that a high percentage of commission paid to the referrers is an obvious “red flag”⁶.
• Establishment and documentation of the roles and obligations in their business dealings with broker companies, such as contractual terms, service level agreements, and reporting requirements.
• Provision of training to broker companies focusing on the three principles and the regulatory requirements set out by the IA.
• Periodic ongoing assessment of broker companies to ensure compliance with the three principles and regulatory requirements, such as audits, reviews, and post-sales calls to clients. Mystery shopping was also identified by the Circular as another good practice for monitoring brokerage practices.
• Monitoring of commission structures to prevent misaligned incentives and to ensure that they align with the “treating customers fairly” principle.⁷ The IA expects authorised insurers should be able to justify their remuneration structures based on appropriate documented analysis.
• Record-keeping of due diligence, assessments, and training provided to demonstrate compliance during IA inspections.

Rebates on Insurance Products

The IA has also reiterated that rebates on long-term insurance products is generally prohibited, unless they are properly documented in policy-related materials (e.g., insurance policy, policy schedule, quotation, offer letter), as undocumented or unchecked rebates may result in mis-selling.

Responsibilities of Senior Management and Controllers

The IA has emphasized that the responsibilities to implement controls and processes lie with the senior management of licensed insurance broker companies and authorised insurers. The IA may take disciplinary action against non-compliant entities or individuals, such as suspension, revocation of license, fines, or public reprimand. Controllers, directors, responsible officers and key person in control functions should be extra cautious as they can be held personally liable for criminal offences committed by their employer companies.

Key Implications and Recommendations

The Circular and its Annex have significant implications for authorised insurers and licensed insurance intermediaries involved in long-term business, particularly those that rely on referral business from MCV clients. In light of the recent enforcement actions by the authorities, all licensed insurance broker companies and authorised insurers should take proactive actions to ensure compliance with the IA’s requirements and expectations, which may include:

• Review and revise their business models, referral arrangements, compliance policies, and resources to align with the three principles and the regulatory requirements of the IA.
• Conduct regular training and supervision of their staff and referrers to prevent unlicensed activities and mis-selling.
• Authorised insurers should enhance their due diligence and controls on their business partners where required, and document their roles and obligations clearly.
• Monitor and adjust their commission structures and rebate practices to avoid misaligned incentives and to ensure fair treatment of customers.
• Keep adequate records of their regulated activities, due diligence, assessments, and training to demonstrate compliance during IA inspections.
• Promptly report any suspected non-compliance or misconduct to the IA.

Authorised insurers and licensed insurance intermediaries should take immediate steps to review the adequacy of their compliance controls and processes and, if required, consult their legal advisors for advice.

¹ See Insurance Authority - Avoid falling prey to unlicensed insurance selling (ia.org.hk) dated 23 June 2024.