The challenges of insurance in super

The Stronger Super reforms announced in September 2011 aimed to raise the role and importance of insurance in superannuation with a range of significant changes to prudential regulation governing superannuation trustees1.  These changes included the introduction of an insurance management framework, MySuper default insurance, and restrictions on the types of insurance in superannuation.

This article explores some of the changes to group insurance brought about by the Stronger Super reforms.

MySuper

Default superannuation funds must now provide a minimum level of life and TPD insurance on an opt out basis. It is fair to say that while the levels of basic life and TPD cover are low and are not likely to provide an adequate level of cover for many people, more people will now have basic TPD cover.  Conversely, as the auto consolidation of inactive superannuation accounts gains momentum, many people will lose their cover associated with an inactive account and this may leave many with less cover than they had prior.

It is too early to predict how these flows will impact on claims experiences, claims management and insurers’ performance overall.

Redesigning insurance benefits

From 1 July 2014,  trustees will need to ensure that the insurance benefits offered to new members in a fund (Choice or MySuper) satisfy Regulation 4.07 D of the Superannuation Industry (Supervision) Regulations 1994 (Cth) (SIS Regulations).

This means an insurance policy may only provide cover to new members after 1 July 2014 that is consistent with the conditions of release specified for death, terminal illness, permanent incapacity or temporary incapacity in the SIS Regulations2.  The policy objective behind this reform is to ensure that insurance benefits can be released to a member and not get trapped in the fund.

The changes allow for grandfathering of insurance benefits for members with insurance in place before 1 July 2014 if the trustee so elects. This means that insurance benefits paid for those members may still be trapped if the insurance event is not consistent with the relevant condition of release.

Policies will need to be reviewed to identify benefits that may no longer be permissible through super. The Government has stated that these operating standards do not require an insurance policy to use the same words that are used in the relevant regulations but the definitions must be consistent3.  This means there is still opportunity for insurers and trustees to tailor their insurance benefits for a particular fund as long as these are aligned.

Nevertheless, the linking of insurance benefits with the conditions of release has highlighted some areas in the regulation that would greatly benefit from some modification.

TPD cover

TPD cover is typically designed to protect a member who becomes disabled to such an extent that they are unlikely to be able to return to their usual occupation. The concept of permanent incapacity as used in the SIS Regulations is aligned to an any occupation definition so that a member is considered to be TPD in circumstances where a member’s ill health makes it unlikely that they will be able to engage in work for which they are reasonably qualified by their education, training or experience.

Over the years, the concept of an own occupation definition was introduced for certain categories of members, typically in a professional occupation or executive role. This type of definition is not consistent with the condition of release for permanent incapacity and will need to be removed for new members at least.

Currently, many policies provide for a variety of definitions of TPD. For example, loss of limbs or Activities of Daily Living (ADLs). These will need to be removed altogether or amended to be consistent with the condition of release for permanent incapacity.

Also, many policies require a person to meet a higher threshold of incapacity than is imposed by the condition of release. These are appropriate to reflect different occupational categories or to manage the affordability of premiums for a fund and its members. We understand that in general, insurers and trustees have taken the view that definitions for incapacity used in an insurance policy may be more restrictive than the SIS Regulations.

Income protection 

IP benefits are generally designed to replace up to 75% of a member’s pre disability income where they are temporarily incapacitated from work. The monthly benefit payable is usually derived from calculating average income earned prior to the disability. Some policies provide for an agreed level of cover or unitised cover. Usually, cover is extended to a member who is able to return to work but only in a partial capacity. The test for income protection benefits differs from permanent incapacity (or TPD) because it is anticipated that a person will be able to return to their usual occupation after a period.

Under the SIS Regulations, not only is there a condition of release for temporary incapacity but there is also a cashing restriction on the benefits released. Regulation 4.07D only speaks in terms of alignment of insurance benefits with the conditions of release although we think the better course is to also have regard to the cashing restriction as well. Otherwise there is a risk that all or parts of a benefit paid under an IP policy may become trapped in the fund where a trustee is not satisfied that the benefit meets both the condition of release and the cashing restriction.

The challenge associated with aligning IP insurance benefit design with the SIS condition of release for temporary incapacity is highlighted by two scenarios.

1. When you are not gainfully employed

To satisfy the condition of release for temporary incapacity, a person must cease gainful employment as a result of their ill health. This requirement is not always evident in policies.

Applying this factually, a person in between roles, recently made redundant, not employed but actively looking for work is unlikely to be considered gainfully employed.  Employment practices have changed quite dramatically with a larger percentage of the working population engaged on a casual, or on a contractor basis. This means members in this situation may not satisfy the requirement of gainful employment at the time of the incapacity.

This raises a broader economic and policy issue about whether the concept of temporary incapacity has kept pace with changes in our environment.

2. Partial incapacity

A person who becomes ill and unable to work in a full capacity but is able to work in a part time capacity will also not satisfy the requirement that they have ceased gainful employment first in order to access their IP benefits. The benefits of a person remaining engaged in their occupation and being involved in return to work programs to facilitate their recovery is well documented. 

It is difficult to see the policy objection to allowing partial incapacity benefits.

As a result of the Stronger Super changes, a number of insurers and reinsurers have reported significant losses in the group insurance market. Many funds have experienced large hikes in premiums or will do so shortly once premium guarantee periods expire. Consequently, the market is and will need to be looking at a broader range of initiatives beyond those legislated by the Stronger Super reforms to ensure that insurance in super remains viable long term.

1 We wrote about these reforms in The Wrap July 2012 - Issue 3
2 These conditions of release can be found at item 102, 102A, 103 and 109 of Schedule 1 to the SIS Regulations
3 See Explanatory Statement to Selective Legislative Instrument 2013, No 26 (page 3-4)