MediaRar
Whether you’re talking to an insurance agent face to face, by video, or on the phone, it’s common to wonder exactly how they get paid. Various professionals have different billing practices: doctors charge their clients directly, and contractors issue invoices. In an insurance transaction, the consumer pays the insurance company. The company issues the policy and the agent gets paid. But how, and does this impact the sales process?
Knowing how insurance agents get paid can be helpful for most, if not all, consumers. It helps illuminate the sales process, and the incentives/disincentives (including potential) for the agent. Better yet, it helps you formulate better questions when the agent recommends a specific product. This glossary helps you understand the components you need to know to understand insurance agent payouts and how each piece fits together. There are no industry terms, and no assumptions for prior knowledge.
The Building Blocks: Commissions are the Main Source
The vast majority of insurance agents internationally get most of their income from commissions. A commission pays the agent a percentage of the insurance premium. The charge is from the insurance company to reward the agent for selling and servicing their policy. The policy is the insurance company’s product, and the charge is from the company to the client. Even though the policy charge is paid by the consumer, the policy is not an additional cost beyond the charge.
An agent earns the policyholder’s first-year, or new-business commission, once the first-year policyholder’s premium is received. The agent receives their commissions after the first-year premium is received. The first-year commissions are the largest commissions associated with policyholder commissions. If a policyholder opts to continue their policy for the long term, the agent continues to earn commissions. The agent must continue the policy for the agent to receive their recurring commissions. The commissions that the agent receives by continuing their policies are the renewal commissions. The commissions are determined by a number of factors. This is the model used by the vast majority of the industry.
A Formula to Understand Agent Compensation by Type of Insurance
There are differences, by a number of factors, of the commissions earned by the renewal policies. With little exception, the insurance type that receives the largest commission is life insurance. The agent’s commissions are greatest with the first-year, permanent life insurance policies, such as whole or universal life insurance. The agent’s commissions with term life insurance policies are substantially less than the commissions received with permanent life policies. Term life insurance policies are associated with less commissions.
Commissions are less lucrative for health insurance sales, with commissions falling between three to eight percent of the monthly premium. Agent commissions for auto insurance fall in the eight to 15 percent range for new policies with lower commissions for policy renewals. Similar to auto insurance, for home and property insurance agents, commissions are in the ten to fifteen percent range for new business. Commercial insurance lines also fall in ten to fifteen percent commission for new policies. With more complex sales, commission rates, especially for larger premium lines, tend to be higher. It is also important to note that rates vary by each insurance underwriter, and while these approximations are industry standards and would likely be good estimates, each commission structure can greatly vary.
Salary and Draw Arrangements for Captive Agents
Even though commissions form the bulk of the agents’ incomes in the insurance industry, not all agents are pure commission. Captive agents, or those agents that are employed directly by an insurance company, in most cases receive some form of a salary or even a draw against what they are expected to earn in the future from commissions. Generally, for starting agents building their practice, a draw against commissions or a salary provides more predictability than commission income. This draw against commissions can also be a salary.
The draw against commission operates like an advance. The insurer essentially guarantees the agent a monthly payment, and that payment is later offset against the commissions accrued. If an agent exceeds the draw amount with commissions earned, the agent may keep the excess amount. If an agent falls short, either a repayment is required or the amount is carried forward as a deduction. The captive agent’s base salary is generally below an agent’s expected commission in the stronger commission month. Therefore, even in the context of a captive salary, the strongest determinant of the agent’s income is commission.
Further to the base commission and salary is an additional set of insurer incentive mechanisms. The most significant of these is the profit sharing or contingency bonus, which of these may be paid to the agent when a book of business performs to the insurer’s satisfaction. This, in most cases, will mean the agent’s book of business would sustain a low claims ratio to premium given.
Bona fide claims of profitability include the slow accumulation of clients from the lower risk pool of clientele and assuming higher potential claim risk clients. Conglomerates countrywide have put higher risk claims for profit sharing bonuses in addition to the regular commission. Multiple insurance companies offer incentives for agents to increase the number of premiums sold in a year by tiers in commission, awards, and travel. These incentives, while helpful for business in the industry, create an extensive amount of motivation to skew the products and clients an agent sells.
The Increasingly Popular Fee and Independent Compensation Models
More and more consultants work disengaged from traditional commission methods as the industry moves in the direction of more consultative selling. In a fee-only model, an insurance consultant gets paid a flat fee for their work and is compensated by the client to provide the risk analysis to develop and identify an appropriate policy. Because the income of the consultant is based on a flat fee and not the premium, there is less of a conflict of interest regarding the premium.
Independent agents fall in between direct writers and traditional brokers. They represent many different companies and, unlike traditional brokers, receive a commission based on which company’s insurance the client buys. They have more access to the market than captive agents and have the ability to do more than just a price comparison. They have the market and competitive advantage. That said, agents will receive the highest commission on the most expensive product. While this may not be the best option for the client, most relationships in this industry are long-term, and independent brokers do try to promote the product clients may be most interested in. Generally, the best independent brokers are the most transparent brokers and show that their compensation has no impact on the recommendation of which company’s product a client will be best served to buy.
Understanding this with regard to insurance
Understanding those in the industry is crucial for engaging the insurance market in a more productive way. Almost all agents are truly ethical and work hard in the best interests of their clients, and from this knowledge, you can most effectively involve yourself in the process for a better outcome.
As brokers, insurance agents have a contractual responsibility to offer a range of different products and will try to match the most suitable product to their clients. If you want to work towards a different outcome, be transparent with the agent and respond to their honesty with direct and open questions.
You may wish to obtain quotes from direct insurer channels and comparison sites. Consider hiring a fee-only consultant to assist with complex coverage choices if you want advice that is free from structural bias. It would also not be an adversarial choice on your part. Resolute consumers quickly learn that all professional contacts, regardless of intent, are designed to operate within the scope of financial interest.
Final Observations
The payment structure for insurance agents consists of commissions and salaries, along with renewal income and performance bonuses. This financial incentive structure is profit driven for both the client and the agent. While the payment structure differs based on product and employment type and insurer, commissions are an overwhelming influence in all market segments. If you understand your financial structure, the decisions you make about your insurance, regardless of the pressure and noise around you, will be your own.
The purpose of this article is for general information. The payment and financial structures vary by insurance, product, and location. Always seek the advice of a licensed financial professional for the best course of action in your situation.
