Formal micro-insurance expands, but regulation limits growth potential

Low-income earners are typically the population segment most negatively affected by unexpected adverse events, and they also tend to be the group with the lowest insurance coverage. While South Africa’s micro-insurance penetration compares favourably – around 30% of South African adults use micro-insurance compared to less than 1% in the rest of sub-Saharan Africa – there is still room for growth, and the government has made financial inclusion a priority in its long-term vision. The market for funeral cover, the dominant micro-insurance product in South Africa, has traditionally been purely informal but has recently become more penetrated by formal policy providers. However, formal insurers face growing challenges related to distribution channels and regulatory burdens, with smaller insurance businesses feeling the effects most severely.

Target Market

The government aims to raise South Africa’s savings rate from 13.5% of GDP in 2013 to 25% by 2030. Central to achieving this is to provide more low-income earners with financial services via avenues like micro-insurance. Today, only one-fifth of low-income earners have some form of insurance. According to Michael Prinsloo, head of best practice at global financial and risk services provider Alexander Forbes, there are “high levels of underinsurance” in South Africa. When it comes to micro-insurance products, “the low level of financial literacy is a problem,” Prinsloo told OBG. Often, individuals do not look at their financial situation in a holistic manner, but rather consider options in a piecemeal fashion. “People might switch policies if an agent calls offering a premium that is only a R100 ($9.47) cheaper, but the new policy might carry much less favourable terms,” Prinsloo told OBG.

Informal insurance and savings providers known as stokvelscircumvent such challenges by giving members a say in setting terms and conditions. Stokvels act as insurers by funding unexpected expenses like burials, but are also savings mechanisms for groceries, weddings, school fees and even holidays. By pooling community resources towards a common savings goal, stokvels encourage savings practices, and social pressure ensures members do not shirk on contributions.

Currently, South Africa has 421,000 stokvels with a total savings of R25bn ($2.37bn) from 8.6m members, according to a survey by market research firm African Response in May 2014. Average membership size is 31 but can go up to 100, and monthly contributions range from R100 ($9.47) to R200 ($18.94). While stokvels are by nature informal schemes, 41% have an account with a bank, according to the African Response survey.

Expanding Markets

The first standardised microinsurance policy, Zimele, was introduced in 2007 covering a range of lines like credit, disability and funeral, and offered by several long-term providers. At the end of 2013 there were just over 4m Zimele policies for low-income earners. Other short-term products have since launched. South African insurers are also tapping the micro-insurance market across the continent. In 2014 Sanlam – through its overseas insurance vehicle, Sanlam Emerging Markets – bought a 22% stake in UK-based MicroEnsure, a micro-insurance provider with a large footprint across Africa and India, with over 10m clients.

Funeral Cover

The formalisation of the microinsurance market has been notable in funeral coverage. Donald Dinnie, head of insurance for South Africa at law firm Norton Rose Fulbright, has seen a growth in funeral policies in recent years, rising 20% annually for the last decade. In 2013, 2.6m new people took out funeral insurance. The cost of a full funeral service in Durban starts at around R11,800 ($1117), according to mutual assurance society Avbob, which reports that 10m people in South Africa have a funeral policy.

FinMark Trust’s 2013 FinScope Consumer Survey reported that formal funeral policies made significant inroads from five years ago when almost all funeral policies were covered by informal burial societies. While both formal and informal schemes are increasing, formal policies are growing at a faster rate while informal uptake is slowing. The FinScope survey found that formal policies saw an increase of 31% in 2013 compared with 25% in 2012, whereas burial societies numbers rose by 25% in 2013 compared with 29% in 2012.

Most people who have funeral cover take out multiple products. In 2013, 46% of burial society members had additional cover, through both informal avenues like community centres and formal providers like insurance firms. People are increasingly favouring formal policies, with 22% of burial society members purchasing formal coverage in 2013, compared to 15% in 2012.

Challenging Formalities

Recently, however, cumbersome regulation has been posing challenges for the formal sector. “There is a need to reduce regulation if the goal is to incentivise the formal sector into the micro-insurance space,” Dinnie said.

Regulatory changes including the shift to a “twin peaks” oversight framework, solvency assessment and management, known as SAM, (South Africa’s version of the EU’s Solvency II), and adoption of new “treating customers fairly” principles all weigh in on a provider’s decision to offer micro-insurance or not. While a number of exemptions were expected under a proposed micro-insurance law that was first due to be issued in 2013, micro-insurance regulation will now be covered under a broader insurance law to come out in 2015.

Playing By The Rules

The existing Micro-insurance Policy Framework was published in July 2011. It set out caps for benefits; namely, R50,000 ($4735) for death products, R100,000 ($9470) for assets insurance and R50,000 ($4735) for all other risk events, such as disability. Selling products on an indemnity basis was prohibited because of the potential for high underwriting costs at the claim stage. The revised microinsurance regulatory framework will be incorporated into the Insurance Bill, slated to pass in 2015 and to go into effect in January 2016. The goal is to promote access to formal products while strengthening consumer protection. According to the Financial Services Board (FSB), prudential regulation will fall under the Insurance Bill, while market conduct aspects will come under overarching consumer protection regulation. The South African Insurance Association (SAIA), which represents South Africa’s short-term insurers, also focuses on financial inclusion and micro-insurance as one of its priority advocacy areas. The organisation is partnering with the FSB to ensure a regulatory framework that supports innovation, specifically in distribution of micro-insurance products, to foster more access.

“Our approach to regulation will be proportional, recognising that the right balance must be struck between protecting vulnerable consumers and facilitating access to financial services,” Leanne Jackson, head of market conduct strategy at the FSB, told OBG. Reflecting on concerns over possible consumer abuse, Jo-Ann Ferreira, head of insurance regulatory framework at the FSB, told OBG: “While micro-insurance does not represent a systemic risk given its overall share of the market, it presents considerable risks on the market conduct side.” The FSB has set up a task team on this matter to engage industry stakeholders in 2014.

Distribution Hurdles

Distribution also presents challenges for formal insurers tapping the micro-insurance market potential. Commissions are too low to use a broker model, and using agents like retailers, churches and funeral parlours comes with regulatory hurdles. “Shifts from traditional to more innovative distribution channels are driven by potential for penetration, costs, re-selection and profitability. Direct channels and mobile platforms provide easy and cost-effective means to reach untapped markets like micro-insurance, mitigating collection challenges,” Randolph Moses, CEO of Hannover Re, told OBG. Some innovative channels like mobile insurance have been offered by Vodacom since 2012, but growth may be limited by anti-money laundering rules such as know-your-customer.

Small Providers Disadvantaged

Regulation disproportionately affects smaller players, which are forced to divert significant resources to understand and comply with regulatory changes. “The burden of SAM and other regulation will erode family owned providers,” Dinnie told OBG. Whilst the industry was generally able to absorb these additional costs in a strong economy, it is proving more difficult in a slower economic environment, according to Suzette Olivier, general manager of the legal department at the SAIA. “The larger insurance groups that have more diversified capital and business structures can digest the compliance burden and capital requirements, whilst smaller independent players are struggling,” Olivier told OBG. “Over the last six years, cost plus commission have increased from 25% of premiums to 32% of premiums for typical insurance, putting underwriting margins under pressure.” Indeed, the higher costs have impeded South Africa’s ability to increase insurance penetration, and this has had a direct impact as well on boosting penetration rates among the lower-end consumer segment.

“For micro-insurance to develop, some form of subsidisation is required to offset thin margins and boost attractiveness,” Daryl de Vos, CEO of African Re, told OBG. In the meantime, a sense of regulatory fatigue is being experienced by all players, which may signal a shift back to informal micro-insurance in coming years.