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Hidden rivers of incentive: How agent commissions affect your insurance shopping

Ever wonder how your insurance agent makes a living? The short answer is: via commissions he or she earns from selling insurance. Commissions are an effective source of motivation and compensation for sales in almost every industry. However, sales pressures from company management, an occasional dearth of ethics, and the promise of juicy commissions and free trips could affect how your agent tries to sell you policies.

The basics of commissions

Insurance agents earn commissions for each policy they sell, and they can receive additional commissions for selling policies to "quality customers" — essentially, policyholders who don't make claims and pay their premium bills on time. Those commissions, known as contigency commissions, are generally paid to agents who sell auto, homeowners, and business insurance. Contingency commissions are paid based on the number of policyholders in an agent's book of business.

Life insurance agents receive commissions that range from 35 to 100 percent of your first-year policy premium. For example, if your whole life insurance policy premium is $1,000 per year, your agent will receive a one-time commission of between $350 and $1,000 or more for selling you that policy. Although your premium may remain the same for the life of your policy, the agent only earns a big commission once. Generally, after the first year, commissions for life insurance drop dramatically — down to an estimated 5 to 12 percent annually. Trips to exotic locales are also standard incentive in the industry.

There are basically three types of insurance agents: captives, independents, and brokers. Captive agents sell policies for one insurance company only. Allstate Insurance Co., Farmers Insurance Co., Prudential Insurance Co. of America, and State Farm Insurance Co. are companies that employ captive agents, for example. Typically, the insurance company puts pressure on captive agents to push certain policies and meet sales quotas. If the agent doesn't meet the quotas, he or she might be terminated.

Independent agents and brokers are pretty much the same, and very different from captive agents. They can sign on with multiple insurers, theoretically enabling them to pick and choose the best deal for you. Although offering contracts from multiple companies eliminates the threat of termination, an independent agent can still feel pressure to sell a healthy number of policies from one insurer in order to stay in business.

By and large, insurance agents are successful when they put customers' needs first. However, insurance commission structures can lead to a special brand of conflict of interest. Here we tell you exactly why these conflicts blossom.

Hello Internet, good-bye commissions

A sampling of auto insurance agent commissions
Allstate 10 percent
Farmers 10 to 15 percent
Independent agent 8 to 15 percent
State Farm 8 or
10 percent

The rapid expansion of the Internet and the success of direct-sales companies, such as GEICO, seems to be causing commissions for captive agents to fall through the floor. For example, Allstate Insurance Co. announced in November 1999 a restructured business plan that included a move into direct sales via the Internet and 800 numbers. As part of the restructuring, Allstate plans to chop agent commissions for policies sold over the Internet and by phone, all the while maintaining the same price for the policy, regardless of how you buy.

Here's how it works: After a customer buys a policy, it will be placed with an agent in that customer's area for servicing — answering customer questions, processing renewals, making changes in coverage, and selling new coverages, for example. Currently, commissions for Allstate agents who sell auto insurance policies are at 10 percent for new and 8 percent for renewed policies. Under the new Allstate plan, if an agent receives an auto policy to service that was purchased over the Internet or phone, Allstate plans to pay a 2 percent commission. This plan raises questions about the willingness of an agent to service policies that are placed with him or her after they're sold by someone else.

"It's just plain business sense that an agency not receiving any commissions or commissions that don't cover their overhead are going to discourage calls from those [Internet and phone] folks," warns Rod Guilmette, publications director for the National Association of Professional Allstate Agents (NAPAA). "It might be difficult to keep a relationship with those folks and might be hard on the customers you sold policies to face-to-face."

A sampling of home insurance agent commissions
Allstate 20 percent
Farmers 20 percent
Independent agent 12 to 30 percent
State Farm 10 or
15 percent

One Allstate agent who spoke on the condition of anonymity says it's obvious that the lower commissions will not inspire agents to service policies that were bought over the Internet or phone. After all, if the agent is forced to service those policies, it will take time away from servicing the policies he or she personally sold.

Allstate views the system a little bit differently. "The commissions are win-win for agents and the company," says April Hattori, a spokesperson for Allstate. "For doing nothing, the agents get a 2 to 3 percent commission, and they get the opportunity to cross sell other products to the policyholder." If the agent is able to sell that policyholder another policy, such as a homeowners policy, the commission for the auto policy will go up to 3.5 percent and the agent will earn the full commission for the homeowners policy: 20 percent for new policies, 10 percent for renewals. Hattori says the responses the company has gotten from agents have been, for the most part, positive, but she acknowledges that with any change, some folks are going to be unhappy.

State Farm has also reduced its home and auto insurance commissions for about half of its agency force by 33 percent and 20 percent, respectively.

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