Insurance brokers give themselves a raise without asking

The trick is in how the middleman gets paid.

For most small and midsize businesses, an insurance broker helps the owner choose coverage from an insurer, which the industry calls a carrier. The business pays the premium to the carrier, and the carrier then pays the broker a commission, a fixed percentage of that premium. When the premium goes up, the broker's revenue goes up too, without a new price tag or an awkward conversation.

That is why Aaron Cohen, a managing director at Chicago-based private equity firm GTCR who backs insurance brokerages, calls the business wonderful. As he puts it, "we don't have to ask our clients for raises."

Premiums have been rising faster than ordinary inflation, what Cohen calls inflation plus. Part of it is straightforward: buildings, trucks, and the businesses they serve are worth more, so there is more value to insure. Part of it is what the industry calls social inflation, a polite term for enormous jury awards.

Cohen's go-to example is trucking, where a fender bender hurts someone's neck, the person was out of work for two weeks at most, and a jury still awards $20 million. He says juries are becoming more sympathetic to consumers than to big companies.

Cohen says new risks are also pushing prices up, from cyber risk to crime in schools to office buildings, pointing to terrible events in Manhattan the day before, which he calls unspeakable. When businesses need insurance against those risks, he says, price goes up.

Big companies work differently. A Fortune 500 company usually has smart risk-pricing experts and insurance experts who figure out what coverage it needs, and it pays a large brokerage a fee for help.

But in the mid-market world where private equity firms have made much of their money, the rule is commission. More inflation and bigger verdicts mean bigger premiums, and a bigger dollar commission automatically flows back to the broker.