1.State Insurance Regulation
Because of the long-term nature of the insurance contract and the principle of utmost good faith on which such contracts are based, insurance is closely regulated for the good of the insurance industry and the general public. And because insurance needs and practices differ from one area to another, it is the states that regulate the insurance business conducted within their boundaries.
Each state has an insurance department headed by an official charged with the responsibility for controlling insurance matters within that state.
These officials are called Directors, Superintendents, or Commissioners of Insurance, depending on the state in which they hold office, but they all perform similar duties.
The Commissioners of each of the states together make up the National Association of Insurance Commissioners (NAIC), which meets at regular intervals to exchange information and provide coordination of the regulatory measures of each state. Through its recommendations, much of the nation’s insurance laws take shape. Although nonbinding on individual states, the NAIC’s recommendations are generally followed.
2. Regulation and the Company
1 Admitted (Authorized) and Nonadmitted (Unauthorized) Companiesِِ
A state insurance department has four areas of responsibility:
We’ll first consider the department’s duties with regard to companies.
One of the duties of an insurance department is to determine which insurance companies will be allowed to do business in the state. A company that meets the insurance department’s standards and is authorized to do business in a state is called an admitted or authorized insurer. An insurance company that is not authorized to do business in a state is a nonadmitted or unauthorized insurer. A nonadmitted insurer may only do business in the state under special circumstances.
.2 Domestic, Foreign, Alien
Although a company may conduct business in several states, it is formed and incorporated in only one state. Within its home state, an insurance company is known as a domestic company. Within states other than the state in which it is incorporated, an insurance company is a foreign company. A company that is incorporated in a country other than the United States but doing business in the states is known as an alien company.
For example, Amalgamated Indemnity is incorporated in the state of Ohio. Within Ohio, Amalgamated is known as a domestic company. In all other states in which Amalgamated is admitted to do business, Amalgamated is considered a foreign company.
Another insurer, Rio Grande Insurance Company, is incorporated in Mexico but writes some business in Ohio. In Ohio, Rio Grande is referred to as an alien company.
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3. Financial Regulation
In addition to examining and authorizing companies to conduct business within the state, the state insurance department keeps close watch over the financial health of all companies doing business within its boundaries.
various regulations are designed to preserve insurance company solvency, detect financial problems, and protect insureds in the event of insolvency. State laws impose capital and surplus requirements on insurers, require the preparation of annual financial statements, and require periodic examinations of insurers. These laws establish initial financial requirements and help in the early detection of financial problems. If an insurer falls into a hazardous financial condition, the insurance department attempts to rehabilitate the company. If an insurer becomes insolvent, the insurance department will handle the liquidation. In many states, the public is also protected by one or more insurance guaranty associations, which provide funds for payment of unpaid claims when an insurer becomes insolvent.
4. Independent Rating Services
There are several organizations that rate the financial strength of insurance carriers on the basis of an analysis of a company’s claims experience, investment performance, management, and other factors. These organizations include A.M. Best, Inc., and Standard & Poor’s. These ratings are one of the most widely used indicators of financial health (or the lack of it) in the insurance industry.
The approach taken by A.M. Best, Inc., illustrates one approach to evaluating companies. Best uses nine alphabetical ratings for insurers to which it gives an assigned rating and uses other designations to evaluate financial health, which are explained in the following.
A++, A+ Superior—strongest position
A, A– Excellent
B++, B+ very good
B, B– Goo
C++, C+ Fair
C, C– Marginal
D Below minimum standards
E Under state supervision
F In liquidation
various modifiers (one of eight lowercase letters) may be added to assigned ratings, which are shown in upper case, to qualify the status of a rating.
For example, g is used to indicate a group rating involving a pool of affiliated companies.
The letter e indicates a parent company rating, when the financial strength of the parent is used to evaluate a newly affiliated company. Caution is signaled by a w, which means “watch list”: some decline has occurred but not enough to cause a drop in the assigned rating. An overall rating might look like this:
B+w: Very good, but watch
3. Regulation and the Agent
The state insurance department devotes much of its time to working with insurance agents.
One of its most important duties with regard to agents is licensing. It is illegal for someone to sell insurance without first obtaining a license from the state to do so.
To make sure agents will be prepared to undertake their substantial responsibilities, each state requires its agents to pass a licensing exam to receive a license.
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2. Codes Regulating Agents
In addition to licensing, the state is responsible for the way agents conduct business within the state. State insurance codes are very specific about the standards agents must meet.
Although we won’t try to cover each of the many types of laws governing agent conduct, we’ll introduce you to some important terms.
A fiduciary is a person who stands in a special relationship of trust to another person. Agents have fiduciary duties toward their clients, especially regarding handling premiums. Agents also owe a fiduciary responsibility to the insurer and must always make decisions in the insurer’s best interest.
Agents may not misrepresent or falsely advertise the terms or benefits of a policy or the financial condition of the company. The agent must make complete, accurate statements about the product being sold.
Twisting is a form of misrepresentation in which the agent convinces the client to cancel already-existing insurance and buy another policy from the agent, to the detriment of the insured. Twisting is illegal.
Rebating is giving or offering some benefit other than those specified in the policy, such as cash, gifts, or securities, to induce a customer to buy insurance. For example, an agent might kick back part of a commission to the customer, thus lowering the price of the insurance, in return for the business. Rebating is illegal in all but two states.
Agents can be in violation of the law if they unfairly discriminate against insureds. This means that an insured cannot be given a lower or higher rate than another insured in identical circumstances.
It also means that the agent cannot accept a bribe from a client to provide insurance or lower the premium.
1. Forms and Rates
Another important function performed by state insurance departments is approval, or ratification, of the policy forms, endorsements, and rates used by companies doing business in their states.
In some states, called prior approval states, the insurance company must obtain official approval before using new forms and rates.
In file and use states, a company may begin using forms and rates as soon as they have been filed. The state eventually reviews the filing and officially accepts or rejects it.
In use and file states, insurers must file rates and forms within a certain period after they are first used.
Open competition states allow the companies to compete openly with the forms and rates they select, subject only to requirements of adequacy and nondiscrimination (we’ll discuss these two requirements in a moment).
In some states, for some lines of insurance, the use of unique state forms or rates may be mandatory for any company doing business in the state.
You’ve learned that the state insurance department must also approve the rates each company uses. Rates are the basic charges an insurance company sets for various types of insurance.
When a company establishes a rate it will use, it calculates a rate that will be adequate to pay:
the cost of losses that will have to be paid;■■
the cost of conducting the business; and■■
a small profit.■■
Insurance companies collect extensive data in each of these areas to help them calculate rate levels.
Data are collected on a large number and variety of risks. Within a specific line of insurance, risks with similar characteristics are grouped together in classes, and rates are determined for each class.
When the state examines rates for approval or rejection, it requires that the rates be adequate for the company to meet its obligations to insureds.
It also requires that the rates be nondiscriminatory, meaning the insurer cannot charge different rates for the same class of insureds, and not excessive, meaning the rates cannot be so high as to allow the company to make a windfall profit or make insurance an unrealistic purchase.
2. Rating Organizations
Some states establish their own rates for certain types of insurance and require all companies to use these mandatory rates.
For most types of insurance, however, the company must establish the rates and submit them to the state.
We’ve already indicated that this involves collecting extensive and accurate financial, operational, and loss records.
To help the insurance company collect these statistics, central service bureaus have been established.
These organizations, made up of numerous individual insurance companies, gather, pool, and analyze statistics from all of the member companies.
The bureau then establishes loss costs based on these combined figures and files them with individual states.
Loss costs represent the key component of an insurance rate—how much an insurance company needs to collect to cover expected losses.
Member companies may use these loss costs, combined with factors covering their own expenses and profit margins, to establish finished rates.
Companies must file rates with the state but may do this by referencing the service bureau’s loss costs and filing their own individual factors that reflect expenses and profit.
Some companies do not belong to a service organization; they collect their own statistics and file independently.
Companies that use bureau filings sometimes deviate from the published rates by charging something either higher or lower than the recommended rate.
Deviations are usually permitted within a specified range, provided that the insurer is consistent in applying the same deviation to all similar risks.
One of the largest services bureaus is the Insurance Services Office (ISO).
ISO files both loss costs and standardized forms on behalf of its member companies.
The National Council on Compensation Insurance (NCCI) is a rating bureau with jurisdiction over workers’ compensation.
The Surety Association of America functions as a rating bureau for surety bonds. There are numerous other rating bureaus.
The final area of regulatory responsibility for state insurance departments is enforcement.
We’ve already talked about many of the rules that apply to the conduct of the companies, agents, and types of insurance transacted within the state.
The department is responsible for seeing that the insurance business within the state is in compliance with these codes and standards. Reported violations must be investigated and appropriate penalties assessed.
Violations can result in fines, license suspension or revocation, suspension or revocation of a company’s authority to do business in the state, and, in some cases, imprisonment.
6. Federal Regulation
Although most insurance operations are primarily regulated by the states, there are some areas where the federal government has some regulatory impact on insurers.
For example, federal law imposes penalties for fraud and false statements made in connection with insurance transactions.
Anyone engaged in the insurance business who makes a false material statement or report or willfully and materially overvalues any land, property, or security in connection with financial reports or documents presented to an insurance regulatory official or agency for the purpose of influencing their actions will be punished accordingly. The punishment for this offense is a fine, imprisonment for up to 10 years, or both.
The term of imprisonment may be up to 15 years if the statement, report, or overvaluing of land, property, or security jeopardized the safety and soundness of an insurer and was a significant cause of the insurer being placed in conservation, rehabilitation, or liquidation by an appropriate court.
Any insurance officer, director, or agent who willfully embezzles, abstracts, purloins, or misappropriates any of the moneys, funds, premiums, credits, or other property of an insurer may be punished accordingly.
The punishment may consist of a fine, imprisonment for up to 10 years, or both. If the crime jeopardizes the safety and soundness of an insurer and was a significant cause of the insurer being placed in conservation, rehabilitation, or liquidation by an appropriate court, imprisonment may be up to 15 years. If the amount or value does not exceed $5,000, whoever violates this section will be fined, imprisoned for up to one year, or both.
Any insurance professional who knowingly makes any false entry of material fact in any book, report, or statement of a person engaged in the insurance business with intent to deceive another person about the financial condition or solvency of the business may be punished accordingly.
The punishment for this offense is a fine, imprisonment for up to 10 years, or both. If the false entry jeopardized the safety and soundness of an insurer and was a significant cause of an insurer being placed in conservation, rehabilitation, or liquidation by an appropriate court, imprisonment may be up to 15 years.
Anyone who threatens, forces, or corruptly influences, obstructs, or impedes the due and proper administration of the law under any proceeding involving the insurance business may be fined and/or imprisoned for up to 10 years.
An insurance professional who has been convicted of any criminal felony involving dishonesty or a breach of trust or who has been convicted of an offense under this section may be fined, imprisoned for up to five years, or both.
After committing a felony of this nature, offenders may only engage in the business of insurance if they have the written consent of an insurance regulatory official. (18 USC 1033–1034)
22.214.171.124. Prohibited Persons in Insurance—Federal Violent Crime Control and Law Enforcement Act (18 USC Sect 1033, 1034)
The Federal Violent Crime Control and Law Enforcement Act expanded federal law in several ways:
■■It prohibits anyone who has been convicted of a state or federal felony involving dishonesty or breach of trust from engaging in the insurance business without a consent waiver from the Commissioner.
■■There is no statute of limitations.
■■It prohibits fraud, embezzlement, falsification of company records, or coercion in insurance transactions in interstate commerce.
■■Penalties range from $5,000 to $10,000, imprisonment from 10 to 15 years, or both fine and imprisonment. Violations may result in both civil (monetary, regulatory) and criminal (fines and/or jail) penalties.
126.96.36.199. USA PATRIOT Act (Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism of 2001)
This law gives the federal government broad power to curtail attempts to launder money and finance terrorist activities, and includes the following:
■■Stronger anti-money laundering provisions
■■Broad enforcement discretion to government officials
■■Guidance to US financial institutions
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■■Forfeiture of laundered assets
■■Appropriate regulation across the financial services industry
■■Stronger ability of financial institutions to maintain integrity of employees
■■Requirement of reports of potential money-laundering transactions to authorities
■■Prevention of use of US financial system for personal gain by corrupt non-US political figures and officials
Almost all financial institutions are subject to review. The law requires institutions to:
■■develop a compliance program and train personnel to follow it;
■■designate an anti-money laundering officer;
■■share information with other institutions; and
■■adopt procedures to verify identity of any person opening an account.
188.8.131.52. National Do Not Call Registry
The National Do Not Call Registry is a list of phone numbers from consumers who have indicated their preference to limit the telemarketing calls they receive. The registry is managed and enforced by the Federal Trade Commission (FTC), as well as the Federal Communications Commission (FCC), and state officials.
The National Do Not Call Registry applies to any plan, program, or campaign to sell goods or services through interstate phone calls, including insurance. This includes telemarketers who solicit consumers on behalf of third parties. It also includes sellers who provide, offer to provide, or arrange to provide goods or services to consumers in exchange for payment.
Calls from or on behalf of political organizations, charities, and telephone surveyors are still permitted, as well as calls from companies that have the express written permission of the consumer. Calls are also permitted to consumers with whom the company has established a business relationship, as follows.
■■A consumer can establish a business relationship with an insurer by requesting information from it or submitting an application to it. In this case the business can call for three months from the date of inquiry or application. For example, a person contacts an insurance company to request information about types of policies offered by the company. That insurance company has the right to call the person for three months, even if the person did not purchase a policy or product.
■■A company with which a consumer has an established business relationship may call for up to 18 months after the consumer’s last purchase or last delivery, or last payment, unless the consumer asks the company not to call again.
■■Telemarketers and sellers are required to search the registry at least once every 31 days and drop from their call lists the phone numbers of consumers who have registered.
A consumer who receives a telemarketing call despite being on the registry will be able to file a complaint with the FTC, either online or by calling a toll-free number. Violators could be fined up to $11,000 per incident