Referral Fees: A Multi-State Overview

No matter the business, customer referrals are always a welcome way to expand client bases and build trust within the marketplace. This is certainly true within the insurance space, where it is common practice for producers to incentivize friends, family and business partners to deliver prospects in return for referral fees. But here is the rub: Oftentimes these referral sources are unlicensed individuals, in which case the payment of referral fees is fraught with regulatory challenges that differ from state to state.

While referral fees directed to unlicensed persons are, for the most part, legal, they tend to be restricted in terms of the amount that can be paid, the conduct of the unlicensed referral source, and the tie between the referral fees disbursed and the sale of insurance. The analysis is truly state-specific.

The NAIC’s Take on Referral Fees

Back in February 2000, the National Association of Insurance Commissioners (NAIC) adopted the Producer Licensing Model Act (PLMA), which provides uniformity in statutory language relating to the qualifications, requirements and conduct of agents and brokers. With respect to compensation paid to unlicensed persons, the PLMA at Section 13 (Commissions), subsection D, reads:

“An insurer or insurance producer may pay or assign commissions, service fees, brokerages or other valuable consideration to an insurance agency or to persons who do not sell, solicit or negotiate insurance in this state, unless the payment would violate [insert appropriate reference to state law, i.e. citation to anti-rebating statute, if applicable].” (Emphasis added.)

For purposes of this language as set forth in the PLMA, to “sell” means to exchange a contract of insurance by any means, for money or its equivalent, on behalf of an insurance company; to “solicit” is defined as attempting to sell insurance or asking or urging a person to apply for a particular kind of coverage from a particular carrier; and to “negotiate” is the act of conferring directly with or offering advice directly to a purchaser or prospective purchaser of a particular contract of insurance concerning any of the substantive benefits, terms or conditions of the contract, provided that the person engaged in that act either sells insurance or obtains insurance from insurers for purchasers.

With few exceptions, a person or entity cannot do any of the above and act as an insurance producer without a state-issued license.

Having said that and within states that have adopted the PLMA, a producer may compensate an unlicensed referral source when any referral fee paid is not in violation of anti-rebating/inducement laws and assuming the unlicensed individual is not soliciting, negotiating or selling insurance.

As otherwise stated, paying referral fees to an unlicensed person is prohibited when that individual is engaged in conduct that would require a license. For producers, this is a real hot button issue because they are subject to regulatory sanctions if found to be aiding and abetting any unlicensed person or entity in the transaction of insurance.

Beyond the PLMA

States that have not adopted or have modified the PLMA have enacted statutes, regulations or issued guidance that result in varying requirements for producers looking to pay referral fees.

In New York, for instance, section 2115(a) of the New York Insurance Code provides that referral fees are allowed if they are not conditioned or contingent on the successful sale of a policy and the referring party does not discuss specific policy terms and conditions. The same is true in Texas, where sections 4005.053(c) and 4001.051(d) of that state’s Insurance Code authorize the payment of referral fees to unlicensed individuals pursuant to the identical caveats (e.g., policy terms or conditions may not be deliberated, and compensation cannot be based upon the purchase of insurance by the customer).

The payment of referral fees is even more limited in Pennsylvania. According to 40 PA Stat. § 310.72(b), in addition to the prohibition against discussing policy terms and conditions and in the case of referrals for insurance that is primarily for personal, family or household use, a referring person may receive no more than a one-time, nominal fee of a fixed dollar amount for each referral not dependent upon an actual sale of insurance.

As is the case in New York, Texas and Pennsylvania, almost all states allow producers to pay referral fees to unlicensed individuals that do not solicit, negotiate or sell insurance, assuming (1) payment is not conditioned on the sale of a policy and (2) the referral fee does not violate applicable anti-rebating/inducement laws. Regulators typically look at such conduct akin to an agent or broker purchasing leads.

The Danger Zone: Solicitation

It bears repeating: An unlicensed person cannot “solicit” insurance, which, according to the PLMA, equates to attempting to sell insurance or urging a prospect to

apply for coverage from a particular company.

While some state regulators broadly define “solicit,” as is the case in the PLMA, certain other states like New York and Texas have settled on a narrower interpretation. There, an unlicensed individual contacting a prospective insured is not “soliciting” for purposes of paying a referral fee, so long as insurance policy terms and conditions are not discussed with a potential insured and payment is not based on the purchase of insurance.

This begs the question: What would be deemed an unlawful solicitation by an unlicensed individual in states that follow the PLMA and do not provide relevant guidance? While perhaps not a comprehensive list of prohibited conduct, unlicensed persons seeking compensation for bringing a prospect to the table should surely steer clear from offering explanations, interpretations, opinions or recommendations concerning insurance carriers, coverages, exposures limits, premiums, rates, deductibles or payment plans.

That being said, how a regulator will ultimately interpret “solicitation” for purposes of referral fees requires a state-by-state review.

As for producers hoping to avoid regulatory headaches, they should seek counsel or otherwise review each state’s requirements for compensation of unlicensed individuals prior to engaging in any formal referral fee program.