Ever since the passage of the McCarran-Ferguson Act in 1945, the issue of federal versus state regulation has been an ongoing focus of the insurance industry. The central question is, of course, will the insurance industry be better served by the current system of state regulation (as it continues to evolve) or by a change to federal regulation?
We are now in a vortex of competing regulatory regimes. As discussed previously in my Spring 2013 insurance newsletter article entitled “Does the FIO Matter?,” state insurance regulation now is subject to the influence of “harmonizing” regulatory practices with the International Association of Insurance Supervisors (“IAIS”) and the continuing oversight of the Federal Insurance Office (“FIO”).
The issues are complicated by the truism that the industry is not, in fact, one industry. While the various formulations of insurance – life, health, property, casualty, surplus lines, etc. – are all “insurance,” the regulatory demands created by the various segments of the industry are quite different.
What type of regulation is closer to the industry and more likely to decide regulatory problems in a manner that benefits both the insurer and the insured? Let’s use one specific issue as a case study.
The Captive and Special Purpose Vehicle Use Subgroup of the National Association of Insurance Commissioners (“NAIC”) (herewith referred to as “Subgroup”) has been studying the operation of captives and how captive regulation deviates from traditional regulation. The initial work of this Subgroup, and its charge from the NAIC, was to examine the use of captives and special purpose vehicles (“SPVs”) by traditional life insurers as a repository for excess reserves required by “Regulation XXX.” However, the Subgroup expanded its activity into the examination of other captive-related issues. After receiving comments from interested parties that the Subgroup had strayed beyond its initial charge and comments on the Subgroup’s paper entitled “Captives and Special Purpose Vehicles,” the Subgroup retrenched its activities to focus on the issue at hand (the ceding of redundant reserves to SPVs).
A stimulant to this process was the publication by the New York Department of Financial Services (“NYDFS”) of its study of life insurance utilizing SPVs entitled “Shining a Light on Shadow Insurance: A Little Known Loophole That Puts Insurance Policyholders and Taxpayers at Greater Risk.” The study referenced practices that can undermine the financial stability of this type of reinsurance but did so in a manner that was more inflammatory than scholarly. Terminology such as “shadow insurance,” “loophole,” “hollow assets” and “shell game” caught the attention of the media. The publication of the study was followed quickly by a brisk retort in the form of a press release from the President of the NAIC that simply stated the NAIC was studying these issues and, in effect, had them under control.
Finally, the Financial Condition (E) Committee was requested to delay the adoption of the Subgroup’s white paper by the Delaware Insurance Department due to the potentially negative impact of the ceding of redundant reserves to SPVs (due to their potential to raise prices on consumers of insurance) and the E Committee’s proposal to review specific transactions which, in the view of the Department, put the NAIC in the role of a domestic state regulator.
While this example of the insurance regulatory process seems to be somewhat unscripted, it shows the process is capable of responding to new information and thereby avoiding hastily conceived actions detrimental to the industry. The NAIC process is commonly criticized as too lengthy and haphazard. However, the great benefit of this process is that no action takes place before the opportunity for public input. Moreover, interested parties can become educated as to the regulatory direction before it is adopted and can act accordingly.
Compare this with a federal system which would bind the industry and all states to a single common standard after either the passage of a law by Congress or a rulemaking by a federal regulatory agency. In that circumstance, the opportunity for public input would be more formal, more compressed and likely less effective.
Robert “Skip” Myers is Co-Chairman of the firm’s Insurance and Reinsurance Practice and focuses in the areas of insurance regulation, antitrust and trade association law. Mr. Myers received his bachelor’s degree from Princeton University and his law degree from the University of Virginia.