One day after Marsh & McLennan Cos. ousted its chief executive, the nation's largest insurance broker said it will tell its clients exactly how much they are paying for its services and renounce back-door payments from carriers.
The move, prompted by an investigation by New York Attorney General Eliot L. Spitzer, could help spark massive changes in the notoriously opaque insurance market. The key questions now become how far the scandal will spread, whether it will touch ordinary consumers, and who will benefit if it inspires new regulations or changing business practices.
Two weeks ago, Spitzer launched a national reevaluation of the way insurance brokers are paid when he charged Marsh with civil fraud, alleging that its brokers took kickbacks and rigged bids for corporate liability insurance.
Now he and regulators in other states are investigating whether improper steering and inflated bids also distorted the markets for group health, life and disability insurance, as well as personal property and automobile insurance. California regulators have already proposed new disclosure requirements, and other states say they won't be far behind.
"The middlemen and the insurance companies are going to be swept by a wave of transparency that is going to be dramatic in its scope," said University of North Carolina accounting professor Robert M. Bushman.
All of the insurance markets are affected, to different degrees, by a long-standing industry practice that Spitzer alleges causes a fundamental conflict of interest for the middlemen who sell insurance to large segments of the market.
Companies and individuals who buy insurance through brokers, independent agents or consultants ask them to solicit and evaluate bids from several insurance carriers. The broker or agent is then given a percentage of the premium paid by the client, while a consultant is often paid a specific fee. But there is also a decades-old industry practice of insurance carriers rewarding the middlemen with additional "contingency commissions" for sending them high-volume or high-quality business.
Spitzer alleges that Marsh brokers were soliciting false bids and steering particular clients to particular carriers in exchange for particularly large contingent commissions, known as market services agreements.
Clients in many states are often completely ignorant of these arrangements and may not even know how much of their premium goes to their broker, consumer advocates said.
"We've been calling for disclosure for 20 years. . . . The brokers have fought it to the death," said J. Robert Hunter, who follows the insurance industry for the Consumer Federation of America. "I think now we're going to get somewhere."
Connecticut Attorney General Richard Blumenthal has said he believes the contingent commission issue is also causing problems in the personal property insurance market, particularly car insurance.
But industry experts say brokers control less than a third of the $170 billion individual property insurance market -- which includes personal automobile and homeowner's policies. Consumers buy the remaining two-thirds directly from carriers or through "captive" agents who represent only one company.
By contrast, brokers accounted for 64.3 percent of $197.8 billion in commercial property and casualty premiums in 2001, the most recent figures available.
The scandal so far has principally affected insurance for companies, said Robert P. Hartwig, chief economist for the Insurance Information Institute, a trade group for property insurance carriers. Still, he said, "if you don't like what you are paying for automobile insurance, pick up the phone. . . . Shop around."
The markets for life, health and disability insurance are even more complicated. Many consumers get group coverage through their employers, and many of those employers shop for group policies through brokers. Contingent commissions are common in that part of the industry, industry experts said.
Private class-action lawyers have already sued one major broker, alleging improper kickbacks on group life and disability coverage, and Spitzer's office has sent subpoenas to half a dozen major carriers.
Large group health insurance purchasers tend to use fee-based consultants to help select their coverage, and industry analysts say they believe the use of contingent commissions is relatively small and often disclosed to the benefit managers who do most of the purchasing.
"There's a potential for Spitzer to shine a spotlight on practices . . . but we do not expect him to find the kind of obviously illegal bid-rigging" he found in property insurance, said Patrick Hojlo, a research analyst with Credit Suisse First Boston.
In the nearly $12 billion individual life insurance market, brokers accounted for about 52 percent of the premiums in 2003, while the rest were sold by captive agents, by stockbrokers who tend to have a deal with one particular company or through direct sales, said Howard S. Drescher, spokesman for Limra International Inc., a Connecticut-based life insurance and financial services research firm.
Under pressure from Spitzer, new Marsh chief executive Michael G. Cherkasky said Tuesday that his firm will try to change the corporate property insurance market. Not only will Marsh permanently forswear payments from carriers based on policy sales, but the firm will also give clients a full accounting of how much of their premiums go to Marsh brokers in the form of fees and commissions.
"We're taking the lead and we expect others to follow," Cherkasky said. Marsh's largest competitors in the corporate market, Willis Group Holdings Ltd., Aon Corp., and Arthur J. Gallagher & Co., have said they will drop contingent commissions.
It is not at all clear what will happen to the nearly $1.2 billion annually that the four brokers are forgoing. Some regulators say they hope the change will force premiums downward, but some smaller brokers say they expect the money will simply fatten the insurance companies' bottom line.
University of Georgia risk management professor Robert E. Hoyt said regulators and consumers shouldn't assume all contingent commissions are bad. Many arrangements, particularly in the property lines, reward brokers when the policies they write have low losses. Hoyt said such deals give brokers incentives to work with small businesses and homeowners to reduce their risk by suggesting improvements like fire alarms and exterior lights.
But Hunter said his consumer group is concerned that agents hoping to win bonuses for low losses might delay filing claims or advise clients not to file for small amounts of damage.
Whether or not they have been harmed by the contingent commission issue, consumers would almost certainly benefit if more insurance companies adopt Marsh's new policy of full disclosure, academics said.
"The concept of understanding the structure of your insurance bill would be a huge boon," Bushman said. "If you're a consumer it enables you to comparison shop" while investors would have a much easier time evaluating the industry.
"It's amazing it's never been available," he said.