Dearie.Excess

Reading: Excess & Surplus Lines Laws in the United States

Author: John P. Dearie (editor)

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Study Tips

Since this is a new reading for 2019.Fall, there is no history of exam questions. That makes it harder to predict likely questions, but the questions on new readings are often easy. That means if you put in the time, it should be easy points. It's a short reading and there are no calculations, just memorization.

Update for 2021.Spring: This reading was updated with a new section on Domestic Surplus Lines Insurance Companies (DSLIs). You should definitely study that short section and memorize the requirements for an insurer to become a DSLI. Alice's intuition tells her that might be a good exam question.

Estimated study time: 1 day (not including subsequent review time)

BattleTable

• this reading is new for 2019.Fall

Questions held out from Fall 2019 exam: #2. (Skip these now to have a fresh exam to practice on later. For links to these questions, see Exam Summaries.)

reference	part (a)	part (b)	part (c)	part (d)
no questions prior to fall 2019

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In Plain English!

Intro

Recall: NRRA = Nonadmitted & Reinsurance Reform Act of 2010

This reading covers key federal NRRA provisions regarding surplus or excess lines insurers. It also covers state eligibility and filing requirements for surplus lines insurers. (The source text is about 150 pages, but you are only responsible for about 6-7 pages near the beginning. The rest of the text covers individual state regulations which you don't have to know.)

Take a few minutes to review the short section on NRRA from NAIC.Solvency. The Dearie reading fleshes out some of the details of NRRA. Recall that surplus lines is the same things as excess lines. I used the term excess in the title of this wiki article to avoid confusion because in accounting, surplus refers to assets minus liabilities.

Click to review the definition of surplus lines.

Question: what is the purpose of NRRA

• create a better surplus lines tax payment and regulatory system

Question: briefly describe how NRRA accomplishes its purpose

• limits regulatory authority of surplus lines to the insured's (ceding insurer's) home state
• establishes federal standards for surplus lines regarding: premium taxes, insurer eligibility, commercial purchaser exemptions

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The NRRA Today

Let's dive into the details of the NRRA. Please settle down and try to contain your excitement.

Question: identify the key provisions of NRRA discussed in the Dearie reading

• 1-state compliance (only an insured's home state can regulate the placement of surplus lines)
• uniform eligibility standards (for an insurer to sell surplus lines coverage)
• ECPs or Exempt Commercial Purchasers (a diligent search is not required for sophisticated commercial purchasers)
• national producer database (producers must be in a database to collect licensing fees from a surplus lines insurer)

Alice the Actuary's home state is Hawaii. (Hate her!) But her favorite surplus lines insurer, Cold & Frozen, is domiciled in Alaska. For Alice, Cold & Frozen is an out-of-state U.S. insurer so we refer to them as a foreign insurer. That sounds wrong. You would think a foreign insurer would be one that's domiciled outside of the U.S., but that's called an alien insurer. The provision of 1-state compliance means that if HI doesn't require surplus lines brokers to have a license (maybe because they're actually more chill than AK!) then AK wouldn't be able to do anything about it. Although it might not be something they'd care about anyway.

At first, it seemed to me that the provision for 1-state compliance might contradict the provision of uniform eligibility standards – does the insured's home state have authority or is there uniformity across all states – but they refer to different concepts: 1-state compliance refers to licensing of surplus lines brokers whereas uniform eligibility standards applies to surplus lines insurers. If a surplus lines insurer is eligible in write business in AK, Alice knows exactly what that means because the requirements are exactly the same in HI. How convenient! Washington bureaucrats did something right. :-)

Let's dig a little deeper...

Question: describe the key provision of NRRA: 1-state compliance

• insured's home state has exclusive authority to regulate the placement of nonadmitted insurance (which includes surplus lines)   ← shout-out to TF!

   - only home state can require a broker's license to sell nonadmitted insurance

     (but note that WC is an exception)

   - only home state can collect premium taxes

A U.S.-domiciled insurer must meet 2 main requirements under the NAIC Nonadmitted Insurer's Model Act. (See below.)

Question: describe the key provision of NRRA: uniform eligibility standards

• states are empowered to create uniform eligibility standards for surplus lines insurers but all are currently using the NRRA default standards

U.S. domiciled insurers (also called foreign insurers because they are foreign to all but the home state)

   ==> must have ≥ 15m in capital & surplus (or the state minimum if it's higher)

   ==> must be authorized to write in its domiciliary jurisdiction

non-U.S. domiciled insurers (also called alien insurers, not foreign insurers!!!)

   ==> if insurer is listed the Quarterly Listing of Alien Insurers, states may not prohibit placing insurance with them

         (this list is also called the "IID" list because it's maintained by the NAIC's International Insurer's Department)

The next block of information on ECPs is very detailed and I'd be surprised if an exam question required you to have memorized all of it. But Alice came up with a Bloom's Taxonomy question that's interesting and not too hard. See the pop quiz further down.

Question: describe the key provision of NRRA: Exempt Commercial Purchaser (ECP)

definition of ECP: any person purchasing commercial insurance that:

• employs a NRRA-qualified risk manager
• has paid aggregate commercial premiums ≥ $100,000 (in past 12 months)
• the person's company is "large" (high net worth ≥ ~20m or high revenues or lots of employees,...)

the related NRRA provision is:

• states cannot force a broker to do a diligent search if the purchaser is an ECP and:

   ==> the broker has disclosed to the purchaser that coverage may be available in the admitted market (which is better regulated)

   ==> the purchaser has then instructed the broker to purchase insurance in the nonadmitted market

Pop Quiz A    :-o

A particular state has a regulation that surplus lines brokers must perform a diligent search before placing commercial insurance with a nonadmiited surplus lines insurer. (A diligent search determines whether coverage can be found in the admitted market, which is generally better because the admitted market is better regulated.)

Would NRRA permit this regulation to apply for the following purchasers: Click for Answer 

Purchaser 1:

• employs a NRRA-qualified risk manager
• has paid aggregate commercial premiums of $500,000 (in past 12 months)
• has a net worth of 50m and 4,000 employees
• the broker has disclosed to the purchaser that coverage may be available in the admitted market
• the purchaser has then instructed the broker to purchase insurance in the nonadmitted market

Purchaser 2:

• employs a NRRA-qualified risk manager
• has paid aggregate commercial premiums ≥ $110,000 (in past 12 months)
• has a net worth of 30m and 1,500 employees
• the broker has not disclosed to the purchaser that coverage may be available in the admitted market

Purchaser 3:

• employs a NRRA-qualified risk manager
• has paid aggregate commercial premiums ≥ $110,000 (in past 12 months)
• has a net worth of 5m and 10 employees
• the broker has disclosed to the purchaser that coverage may be available in the admitted market
• the purchaser has then instructed the broker to purchase insurance in the nonadmitted market

Ok, we're almost done. Just 1 more key provision to go. It's an easy one.

Question: describe the key provision of NRRA: national producer database

• this database (or another national equivalent) is for the licensure & renewal of surplus lines brokers
• the specific NRRA requirement is that:

   ==> if a state doesn't participate in such a database then they cannot collect licensing fees (which would suck)

Pop Quiz B    :-o

A state participates in a southwest regional producer database. Does NRRA permit this state to collect licensing fees from surplus lines insurers? Click for Answer 

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Eligibility & Filing Requirements by State

The syllabus covers portions of pages 1.1 - 1.5 of the source text. Certain sections are excluded and much of the rest is a repeat of material from the previous section. There are only 3 short sections you need to cover.

Surplus Lines Laws - Generally

This section is so short that Alice explained the whole thing to Ian-the-Intern on their morning elevator ride up to the office. And their office is only on the second floor. Here's the skinny:

• there is very little regulation regarding forms & rates (compare that with auto insurance which is very highly regulated)
• surplus lines regulation is focused mainly on brokers (not the surplus lines insurers)
• brokers must perform a diligent search before exporting business from the admitted market to the nonadmitted surplus lines market

   ==> or the broker can instead use an "export list" which is a list of coverages deemed to be unavailable through the admitted market

• brokers submit tax and other filings

Poor Ian badly wished he'd waited for the next elevator rather than listen to Alice drone on. But it was all over quickly.

Fun Homework: Next time you're on the elevator with a senior manager, see if you can impress him or her with your knowledge of surplus lines regulation. And see if you can do it in the time it takes to travel just one floor. (This is not a joke assignment. If you can rattle it off confidently in under 15 seconds then you're ready for the corporate boardroom.)

Independent Procurement / Direct Placement

This section has a real treat - a legal precedent!

Question: identify 2 methods of accessing the nonadmitted market

• surplus lines (use a local licensed broker to buy coverage from a nonadmitted insurer in your home state)
• independent procurement (also called direct placement)

Question: what is independent procurement / direct placement

• when a U.S. citizen leaves their home state (goes to an insurer outside their home state) to insure a risk located in their home state
• and the purchase is either directly from an unauthorized insurer or a broker not licensed by the home state

Question: describe a legal precedent related to home state regulation of independent procurement

Case: State Board of Insurance v. Todd Shipyards Corporation

Facts:

• the buyer purchased property coverage from an out-of-state unauthorized insurer
• the only connection between the buyer and the home state was the location of the covered property in the home state

Issue:

• can the home state tax or otherwise regulate the transaction

Ruling:

• under McCarran-Ferguson, the home state could not tax or regulate the transaction
• because federal laws applying exclusively to insurance supersede state laws

(and remember this is a wiki so you can just click on McCarran-Ferguson if you need a quick review)

There have been subsequent qualifications to this decision (or in legal terms, the case has been distinguished) but it is still applicable in vast majority of the almost 10,000 jurisdictions in the U.S. If you'd like a little extra information, check this forum post.

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Broker Licensing

We already know that the home state may require a license for surplus lines broker. The situation is different however for a wholesale broker

Question: what is a wholesale broker

• an intermediary broker between a "regular" retail broker and an insurer

(they place business brought to them by retail brokers and have no contact with the insured)

Question: how is licensing of a wholesale broker different from that of a "regular" retail broker

• the wholesale broker must have a license in the home state of each insured they place with an insurer

That means the wholesale broker may have to have many separate licenses. Very inconvenient.

Question: how are the licensing requirements of wholesale brokers being addressed

• 2015 legislation established the National Association of Registered Agents and Brokers or NARAB
• it's a 1-stop national licensing system for brokers operating outside of their home state
• requires submission of an application and adherence to strict standards

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Domestic Surplus Lines Insurance Companies (DSLIs) - NEW for 2021.Spring

Ian-the-Intern was surprised when he found out that a surplus lines carrier is generally not able to write surplus lines insurance in its state of domicile, but many states are changing their laws to allow for this. There are now 21 states that allow this and between 2011 and 2019 the number of DSLIs grew from 15 to 70, most being domiciled in Illinois and Delaware.

Question: identify criteria a surplus lines insurer must generally satisfy to become a DSLI

• PHS ≥ 15 million (Policyholder Surplus)
• insurer is an eligible surplus lines insurer a jurisdiction other than its state of domicile
• the insurer’s board of directors passes a resolution seeking to be a domestic surplus lines insurer in the state of domicile
• insurance commissioner approval and issuance of certificate of authority

This strikes me as the type of question the CAS likes to ask. One of Alice's memory tricks is to make up a story about it:

Made-up story: Alice-the-Actuary is CEO of a company that really wants to become a DSLI in North Dakota. They were already an eligible surplus lines insurer in California (requirement #2) and her board of directors had already passed a resolution seeking to become a DSLI in North Dakota (requirement #3.) The problem was that in the previous year, their year-end PHS was only $14.9 million, just short of the $15 million minimum. Alice's leadership ability is awesome however, and she quietly and expertly guided her company to a PHS of over $15 million by the end of the following year (requirement #1.) The only remaining obstacle was approval from Insurance Commissioner "Gordon". But this was not a problem at all because Alice has a great reputation with commissioner Gordon. Everyone loves Alice. :-)

Miscellaneous

The examiner's report answer to the following question is very confusing:

E (2019.Fall #2b)

Here is the question:

Question: A start-up company has proposed entering a state as a surplus lines carrier to compete with admitted carriers by offering similar coverage on a direct-to-consumer basis. Identify 4 surplus lines regulatory requirements and briefly describe why this start-up may or may not meet those requirements.

Here's a more concise answer than is in the examiner's report:

surplus/capital requirements

• there is a minimum capital requirement (can vary by state)

→ a start-up may have troubling raising enough capital

authorization/licensing requirement

• insurer must be authorized in domiciliary jurisdiction

→ we are not told if the start-up has been authorized

coverage must be declined by admitted market

• unless insured is an ECP (Exempt Commercial Purchaser) they must first perform a diligent search for an admitted insurer

→ start-up would only be able to write business with exempt commercial purchasers (market may be small)

must meet managerial requirements (mentioned in Porter.2-Devlpt in the section on surplus lines)

• ensures surplus lines carrier can meet customer's needs

→ start-up management may be inexperienced (may not satisfy this requirement)

Note that one of the other answers in the examiner's report appears to be incorrect:

• Only Specialty Licensed Producers are Permitted to Sell Surplus Lines Insurance ← Alice thinks this is wrong...see below...    ...also, click for related forum discussion

This is incorrect because the Dearie source text explicitly states that independent procurement / direct placement can be a valid method of accessing the nonadmitted market. In other words, the start-up surplus lines carrier described in the question can offer their product on a direct-to-consumer basis.

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Pop Quiz A Answers

Purchaser 1: diligent search regulation would not apply because:

• this purchaser is an ECP
• the broker has disclosed to the purchaser that coverage may be available in the admitted market
• the purchaser has then instructed the broker to purchase insurance in the nonadmitted market

Purchaser 2: diligent search regulation would apply because:

• even though the purchaser is an ECP, the broker has not disclosed that coverage may be available in the admitted market

Purchaser 3: diligent search regulation would apply because:

• this purchaser does not satisfy the definition of an ECP

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Pop Quiz B Answers

No, this state cannot collect licensing fees. The producer database must be national, not regional.

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