How new FCA rules could reshape premium finance

Although insurance is a unique industry within finance – with its own rules, mechanisms and dynamics – it cannot escape the broader macroeconomic forces shaping other sectors, particularly inflation.

 

While different types of insurance have been impacted by rising prices to varying degrees, motor and home cover have been hit hardest, thanks to significant rises in repair, material and labour costs.

 

Life insurance, by contrast, has been less directly impacted. Higher interest rates – introduced to curb inflation – have helped offset some of the adverse effects of rising prices by increasing yields on insurers’ investment portfolios.

 

Yet from the insured’s perspective, inflation still erodes the purchasing power of fixed-sum payouts or monthly benefits unless those amounts are indexed to inflation.

 

High inflation has also intensified an already existing tendency of customers to spread out annual premiums over several months or a full year through instalment payments. According to the FCA’s Premium Finance Report, between 2022 and 2024 the use of premium finance by UK consumers for motor and home insurance rose by more than 10 per cent.

 

Premium finance is also increasingly becoming an alternative strategy for cash-strapped small and medium-sized businesses to maintain their insurance cover – either fully or at a reduced level – by paying in instalments rather than upfront.  

 

In another study conducted by Consumer Intelligence, 54 per cent of participating SME managers and owners reported using some form of credit to pay for insurance, borrowing an average of £1,180 – with 15 per cent of them having borrowed more than £3,000.

 

Premium finance products and the FCA’s concerns

 

Traditionally, both corporate and individual insurance clients have relied on premium finance schemes to spread the cost of annual policies.

 

Insurance premium finance is a regulated credit agreement, contractually separate from the underlying insurance policy. Most of these loans are interest-bearing, although the FCA’s market study found that the number of interest-free products are on the increase, with significant differences in premium financing terms between the different types of insurance products.

   

Posing a higher risk for insurers and often resulting in loss, motor insurance offers considerably less favourable terms for premium financing: while 38 per cent of home insurance products include interest-free credit, only 3 per cent of motor insurance products do.

 

However, the FCA’s study – conducted with a view to establishing whether the premium financing plans set up by insurers, brokers and SPFPs (specialist premium finance providers) “bear a reasonable relationship to their costs and the quality of benefits provided” – found deeper issues.

 

In particular, brokers and insurers – who provide both policies and premium financing products – were found to inflate the premium payments of the underlying insurance products to compensate for interest-free payment plans. 

In what the FCA referred to as double-dipping, these firms charged higher insurance premiums, as well as premium finance fees for the same benefit – a practice regulators view as unfair practice.

 

Applying retail BNPL to insurance premium payments

 

In the grey area between payment services and credit products, a digital form of the buy-now-pay-later (BNPL) model emerged in 2005 pioneered by Klarna. Inspired by the Swedish company’s growing popularity, other players, including PayPal and start-ups Affirm and Afterpay, entered the space in the 2010s, turning BNPL into a global e-commerce trend.

 

Unlike traditional loans, BNPL allows consumers to split payments at no additional cost, provided the full amount is repaid before the end of the deferred period. If not, interest rates of up to 36 per cent may apply to outstanding balances.

 

In e-commerce, the model is sustained by merchants’ transaction fees to BNPL providers – typically between 2 and 8 per cent of the selling price.

 

Merchants regard this amount as an investment rather than an expense, though, as purchase likelihood with BNPL is proven to increase from 17 per cent to 26 per cent, according to Harvard Business Review.

 

The same study has also found that consumers’ basket sizes had grown by 10 per cent on average after BNPL adoption – a trend that persisted for almost six months, suggesting that BNPL drives lasting gains. For “financially constrained” consumers, increase in basket size with BNPL was at 14 per cent –suggesting that BNPL unlocks spending among those previously limited to smaller purchases.

 

Ease of access and eligibility – BNPL is an embedded payment method integrated into the online checkout process – are also drivers for adoption. Moreover, BNPL uses soft credit checks to enable quick approval at the point of sale.

In retail, BNPL simply spreads the cost of a product over instalments. In insurance, where the policy itself is the product, embedded finance can similarly allow customers to pay premiums in instalments seamlessly integrated into the purchase journey.

 

The question is whether BNPL’s value proposition – its simplicity, transparency and customer experience – can translate into higher conversion rates for insurers and brokers, while remaining profitable once merchant fees and compliance costs are deducted.

 

What will a regulated BNPL market look like?

 

The Financial Conduct Authority (FCA), the UK’s financial watchdog –  whose primary goal is to promote competition and to protect consumers – has voiced concerns regarding both insurance premium finance and BNPL, although for different reasons.

 

While in the case of premium finance the FCA’s main concern was about competitiveness and fair value, for BNPL, the regulator’s main worry with insurance BNPL is affordability and consumer protection – specifically, the absence of robust credit assessments to ensure borrowers can repay, and the risk of loan stacking – where consumers take on multiple BNPL debts without oversight.

 

As well as addressing the FCA’s concerns, the new legislation to come into force on 15 July 2026 will also mandate providers of deferred payment credit (DPC) loans to supply consumers with clear information about cancellation rights, charges and any impact on credit ratings if a payment is missed.

 

If the impact the 2014 regulation had on the payday lending market is anything to go buy, the new BNPL legislation can be expected to significantly reshape the BNPL landscape. When the FCA introduced a price cap of 100 per cent of the principal loan amount, 38 per cent of high-cost short-term credit providers exited the market within two years.

 

Although the FCA is taking a different approach to BNPL, focusing on regulatory authorisation, transparency and affordability checks rather than price caps, the additional costs of compliance, consumer protection and regulatory authorisation can be expected to render the model unviable for a number of providers in this sector too.

 

Established players with strong balance sheets and digitised operations are naturally better positioned to adapt. However, they may have to make adjustments to their business models and settle for a more moderate growth rate than in the days of the BNPL gold rush.

 

Regulation enabling disruption

 

While BNPL regulation lifting DPC out of a grey zone and placing it among credit products such as credit cards and bank overdrafts is likely to bring consolidation for the retail BNPL market, it may have the opposite impact on insurance premium finance.

 

Although the ease of access to BNPL will significantly decrease for those purchasing online products after July 2026, a regulated interest-free deferred payment service may also provide a competitive alternative to traditional premium finance arrangements, which often sit outside the purchasing journey and involve more cumbersome processes.

 

In an ideal scenario, well-calibrated regulation could achieve two complementary goals.

 

It could improve consumer protection by addressing BNPL’s affordability and transparency gaps, and – at the same time – enhance competition in insurance premium finance by fostering new, embedded payment options that are both fairer and easier to use.

 

If successful, the FCA’s intervention could prove a masterstroke, resolving long-standing concerns in both markets while enabling innovation in how consumers and businesses manage large recurring expenses such as insurance premiums.

 

Should this vision materialise, 2026 will indeed mark not only the end of the BNPL Wild West but also the beginning of a more mature and diverse credit market.