Once upon a time, in Michigan…
A licensed life insurance agent went door-to-door, posing as a Department of Insurance and Financial Services (DIFS) employee. According to consumer complaints that the actual DIFS received, this agent told the unsuspecting home owners that their current life insurance carrier was being investigated for fraud and that she needed them to cancel their policies so she could issue new ones with a different carrier.
In reality, there was nothing wrong with these life insurance policies, and the agent was merely conducting a scheme to sell new policies, which she stood to make large commissions on. All of this is according to a Sept. 2023 Order for Summary Suspension of Insurance Producer License and Notice for Opportunity of Hearing issued by the Michigan DIFS.
This story may be one of the most egregious examples of an insurance agent engaging in fraudulent practices, but many types of insurance fraud aren’t nearly as obvious. Because we care so much about compliance, and do everything we can to keep licensed producers and dually licensed broker-dealers in good standing with their state departments of insurance, we thought it’d be helpful to break down some of the most common types of insurance fraud so that you (consumers, producers, carriers, and compliance staff, alike) can recognize and avoid them.
It should go without saying, but please note: AgentSync isn’t your attorney and this article doesn’t constitute legal advice. If you think you or someone you know may be heading down the path towards insurance fraud, please seek professional help and guidance from the appropriate sources.
12 types of insurance fraud to look out for
According to statistics from the FBI, insurance fraud costs more than $40 billion each year. And that’s not even counting fraud related to health insurance! This amount of fraudulent activity absolutely costs the average American money, but it isn’t always as easy to spot as the example above. How insurance fraud shows up can range from small, seemingly harmless acts all the way to highly coordinated efforts involving multiple people. The following are seven specific types of insurance fraud that everyone working in the industry should be aware of and on the lookout for.
- Premium diversion or stolen premiums
Insurance consumers understand the basic concept of insurance: If you pay a premium, you’ll have coverage when you need it. That’s true, unless the insurance agent, broker, or producer has committed the most common type of insurance fraud.
Premium diversion refers to when the person selling insurance collects premiums but never passes them along to the insurance company. The producer in this situation pockets the money or spends it on other things. Regardless, the money never makes it to the insurance carrier and the policy is never in effect.
- Fee Churning
Unlike premium diversion, which one bad apple can pull off alone, fee churning is a scheme that relies on multiple people and companies. Fee churning is when most or all of the premiums that a consumer pays are lost to commissions taken by different intermediaries along the way. The result is that there’s no money left to pay claims by the time any of the original premium trickles its way through the scheme.
At the bottom of the fee-churning pyramid, there may be a company that the bad actors set up to look like it was legitimate, but was only ever intended to become insolvent once the bulk of the money made its way into everyone else’s pockets. This type of insurance fraud’s elaborate nature makes it easy to miss since each transaction taken on its own looks legitimate. It’s only when someone connects the dots that a fraudulent scheme emerges.
- Asset diversion
Asset diversion is another complex and sophisticated form of insurance fraud. It relies on intricate coordination between multiple people in positions of power. In an asset diversion scheme, one insurance company uses borrowed money to acquire, or to merge with another insurance company. Once the merger or acquisition is complete, the first company pillages assets from its new underling to pay off the loan it got to make the purchase in the first place. With the loan paid off, company management can divert even more assets from the acquired company into their own pockets, ultimately draining the company dry entirely – or sometimes keeping it open and collecting new premiums to continue fueling the fraud.
- Workers’ compensation fraud
Workers’ compensation insurance is a requirement in nearly every state for any business with at least one employee. Given how prevalent this coverage is, it’s no wonder there are several different types of fraud that insurance carriers, agents, employers, and employees can perpetrate.
- Stolen workers’ compensation premiums: According to the FBI’s insurance fraud page, some unscrupulous insurance carriers may try to sell low-cost workers’ comp policies to a company and then walk away with the premiums while never actually providing a policy.
- Employer workers’ compensation fraud: Since workers’ compensation premiums are based on a company’s employee payroll, some employers may try to misclassify employees as independent contractors to reduce the cost of their policy. Employers can also commit insurance fraud by providing inaccurate payroll information to their carrier or lie about having certain safety programs in place, which often lead to discounts.
- Employee workers’ compensation fraud: It’s not unheard of for an employee to blame a totally unrelated injury on something that happened at work. While it’s not fraudulent to report a workers’ comp claim if something job-related exacerbates a pre-existing injury or illness, it’s definitely against the law to claim an injury occurred while on the job when it didn’t.
- Fake accidents or claims
When it comes to fabricating an insurance claim, the only limit is your imagination. People have done some crazy and bizarre things to try to get insurance payouts. From faking their own death to actually chopping off a friend’s hand, people will go to great lengths for money. Policyholders themselves are typically the perpetrators of this type of insurance fraud. But insurance agents shouldn’t turn a blind eye if something seems suspicious. Even being involved in the submission of a fake or exaggerated claim can put an agent’s insurance license at risk, if not get them into more serious legal trouble.
- Settlement or benefit theft
If an insurance producer helps a client submit a claim and knows a large settlement check is on the way, there are several fraudulent and illegal things they can do to steal the money away from the policyholder. This type of fraud usually happens when an agent changes the address on record to their own, or even to a fictitious business address. The check ends up in the agent’s hands, and pocket, instead of with the client who’s entitled to it. An agent would have to have a lot of chutzpah to commit this type of fraud, but it’s not unheard of.
Whether on the part of the policyholder or the agent, providing false information during the insurance policy application process is insurance fraud. This can happen, for example, when a life insurance agent wants to be able to sell a large policy (hence, earning a large commission) that the customer wouldn’t qualify for based on medical questions. It might seem harmless to fudge the truth so the client appears to be in better health than they really are, but getting a policy written based on incorrect details is a serious offense.
- Ghost brokers or phony policies
Who you gonna call? NOT ghost brokers, if you’re smart. A “ghost broker” is an agent who sells a nonexistent insurance policy. They often go as far as to create fake policy documents to give to their clients, making it look like there’s a legitimate insurance policy in place when there’s not.
Ghost brokers tend to prey on people who need policies badly and can’t get them easily, or those who can’t afford a policy from a more legitimate source. They target their victims by promising cheap insurance and/or loose underwriting requirements, both of which are easy to offer when you’re not actually selling a real insurance policy!
- Backdating insurance policies
No one likes the idea of going without insurance coverage for something as important as a home, car, or their health. But, if you’re an agent and a client asks you to make their policy start before the day they purchased it, run – don’t walk – away from that deal. What may feel like a small favor is actually a serious act of insurance fraud.
Other motivations for backdating may come from an unscrupulous producer looking to get a large commission on a policy they know wouldn’t get approved under current conditions. For example, if an applicant for a large life insurance policy got diagnosed with a terminal illness and the agent thought they could get a policy in place effective before the date of diagnosis. Certainly, the producer and the client stand to gain a lot from that scenario, but it comes at a high cost, including hefty fines and even prison time, if convicted.
- Twisting and churning
Twisting and churning in insurance are two types of potentially fraudulent activity that we’ve covered in depth before, both here and here. These terms refer to the practice of replacing one insurance policy with another, usually referring to life insurance and annuity products since their commission structures offer the most incentive for producers to write new business.
- Twisting refers to the act of canceling a current insurance policy and replacing it with one that’s similar, or not as good, from a different insurance carrier.
- Churning refers to the same thing except replacing the current policy with one that’s comparable, or not as good, from the same insurance carrier.
Sure, policyholders have the right to cancel their current policy and move to a different one at any time, for whatever reason. There are some times when moving to a less beneficial policy makes sense: Maybe a married couple has finally paid off their home and no longer supports their (now adult) children. Moving to a more modest, and less expensive, life insurance policy is reasonable. Twisting and churning, on the other hand, are unethical (and often illegal) practices initiated by an insurance agent without a legitimate benefit to the consumer.
Twisting, churning, and now sliding? These insurance fraud terms can sound like fun dance moves, but they’re far from it. Sliding refers to when an agent slides some extra coverage into a policy without the insured agreeing to it. This probably isn’t an issue if the producer sees the chance to add a rider to offer extra protection at no extra cost. But it becomes a major act of fraud when the agent beefs up a policy beyond what the client needs, simply to raise the price and boost commissions.
- Binding without consent
Unlike sliding, where an agent slides some extra coverage in under the radar, binding without consent refers to issuing an entire policy that the insured never agreed to. This is an objectively clear-cut case of fraud and not something an agent could just accidentally do.
Even more ways to commit insurance fraud
These 12 types of insurance fraud are among the most well-known, but hardly the only ways an insurance agent, carrier, or consumer can get into hot water. This article from Independent Insurance Agents of Texas (IIAT) provides an in-depth look at an agent’s professional responsibilities to both their clients and their insurance carrier partners.
Is insurance compliance the same as insurance fraud?
No one (we hope!) wants to fall out of compliance with state or federal insurance regulations. Doing so can bring fines, administrative, and legal penalties onto everyone involved. Fortunately, falling out of compliance is not the same thing as committing insurance fraud, in most cases (though they can overlap).
Unlike insurance fraud, which we’re pretty sure almost no one can commit without trying, compliance mishaps can happen to the best of us. The manual nature of insurance compliance makes it time-consuming, costly, and just plain hard to keep up with when you’ve got producers selling different lines of business across different states.
Despite its challenges, regulators don’t just turn a blind eye to producer compliance violations. They expect insurance carriers, MGAs, MGUs, agencies, brokerages, and individual agents and producers to stay on top of managing state licenses and carrier appointments.
If you’re starting to think your current compliance management system (or lack thereof) isn’t pulling its weight, see how AgentSync can take the pain out of producer compliance and make it effortless and risk-free to keep your producers selling while adhering to all applicable laws.