2 - Significant Events of 2009
2.1 NAIC Accreditation
The National Association of Insurance Commissioners (NAIC) Accreditation Review of the Massachusetts Division of Insurance took place between March 30 and April 3, 2009, in Boston.
The concept of accrediting state insurance departments began in the late 1980s when several large insurance companies became insolvent. In response, the NAIC began discussing and shaping the Financial Regulation Standards and Accreditation Program in September 1988. It was apparent that a system of effective solvency regulation could provide crucial safeguards for America's insurance consumers. Insurance consumers benefit when the insurance industry is financially strong enough to be able to pay and settle claims in a timely manner, to provide diverse and competitively priced products, and to provide meaningful customer service.
An effective system of solvency regulation has certain basic components. It requires that regulators have adequate statutory and administrative authority to regulate an insurer's corporate and financial affairs. It requires that regulators have the necessary resources to carry out that authority. Finally, it requires that insurance departments have in place organizational and personnel practices designed for effective regulation.
Under the NAIC's accreditation system, each state's insurance department is reviewed by an independent review team whose job is to assess that department's compliance with the system's established set of standards. Departments meeting the standards will be publicly acknowledged, while departments not in compliance will be given guidance by the NAIC to bring the department into compliance.
The accreditation process starts with a state completing a Self-Evaluation Guide. This Guide provides the state with the detailed requirements of the accreditation standards - including laws and regulations that must be adopted, financial analysis and examination procedures that must be in place and organizational and personnel practices that must be established.
Immediately prior to the on-site review, the Review Team meets to discuss comments and concerns from review of the Self-Evaluation Guide and supporting documentation. The Team then conducts the on-site review following a general outline of procedures to be performed to allow for uniformity in the evaluation process among the states. In addition, an NAIC staff representative is an observer on each site visit to help ensure uniformity and consistency in the on-site reviews.
2009 Accreditation of the Massachusetts Division of Insurance
The NAIC Accreditation Review Team arrived in Boston on March 30, 2009 to begin their review process. Following the team's scrutiny of selected financial examination work papers and financial analysis work files, exhaustive interviews were conducted by review team members with the respective Examiners-in-Charge and Financial Analysts. The supervising examiners for Examinations and Analysis were also included in the interview process. The Division was informed during the exit meeting that the review team's recommendation to the NAIC's Financial Regulation Standards and Accreditation Committee would be that the Division should receive a full five-year accreditation. Accreditation was formally conferred upon the Division during the NAIC's Summer Meeting in Minneapolis, June 13 - 16, 2009.
Benefits of a Rigorous Accreditation Process
The financial crisis of late 2008 focused attention on the role of state insurance regulation on the national economy beginning with the difficulties faced by AIG. AIG is a global financial services corporation that does business in 130 countries. AIG owns 176 other companies, in addition to 71 U.S. insurance subsidiaries. Despite trouble with the parent company, AIG's subsidiary insurance companies remained strong throughout the crisis. This was largely the result of state regulation that protected insurance companies from the high-risk activities of AIG Financial Products. State regulators were actively involved in the AIG liquidity crisis to help ensure that consumers remain protected. Regardless of the failings at AIG's holding-company level, its insurance subsidiaries continued to fulfill their obligations to policyholders.
State insurance solvency oversight kept insurance companies stable and protected policyholders from the worst of the financial meltdown. The stability of the insurance sector was no accident. Commissioners of Insurance across the nation subject insurers to far higher standards than regulators of other portions of the financial services industry. State insurance regulators have numerous actions they can take to prevent an insurer from failing. Insurers must operate under conservative accounting rules and are subject to mandatory annual CPA audits. In addition, state regulators routinely impose strict investment regulations and minimum capital/surplus requirements.
This entire solvency framework and safety net for policyholders is uniform in every state and evaluated by the NAIC's Accreditation Program. The overall stability of the insurance sector was a direct result of our current state-based system of regulation. When one compares the distribution of TARP funding among banks and insurers, it becomes clear that these two segments of the financial services industry weathered the crisis quite differently. While the nation's banks required vast government support in order to remain afloat, insurance companies required virtually none. State regulation of the insurance industry worked. The effectiveness of that model can largely be attributed to the rigorous standards of the accreditation.
2.2 Insurance Spotlight: Residual Markets
In a normal competitive market, insurers are free to select from among people applying for insurance those drivers, property owners and commercial operations they wish to insure. They do this by evaluating the risks involved through a process called underwriting.
Applicants who are considered "high risk" may have difficulty obtaining insurance through the regular "voluntary" market channels. To make basic coverage more readily available to everyone who wants or needs insurance, special insurance plans, known as residual, shared or involuntary markets, have been set up by state regulators working with the insurance industry.
Types of Residual Markets
The two most common ways of structuring a residual market are through an assigned risk plan or through pooling. Under an assigned risk model, each individual or business policyholder (risk) is assigned to a participating company. Risks are usually assigned to insurers based on each company's market share. The assigned carrier then owns that risk and services the policy much like they do for voluntary business. The assigned risk plan might set the premium or restrict the policy features available to involuntary policyholders, but the billing and claims functions operate through the insurer's own internal systems.
Under the pool model, all of the insurers offering a particular type of insurance coverage come together to form an association. High risk individuals and businesses that cannot obtain coverage in the voluntary market may obtain a policy from one or more private insurers who function as servicing carriers for the association. The servicing carrier handles the underwriting, billing, and claims handling for all policies insured on behalf of the association. In a process invisible to the policyholder, premiums, losses, and expenses are shared by all companies in the association in proportion to their market share.
The method used to administer the residual market depends on the nature of the risk to be insured and the best way to allocate that risk fairly among the insurance industry. State law determines what line of insurance will have residual markets and what kind of structure those residual markets may use. The Division of Insurance has authority to oversee the operation of these markets in order to ensure that coverage is available and that the specific market rules are followed.
Massachusetts Residual Markets
Residual markets exist for five types of insurance in Massachusetts. The residual markets for personal auto and workers compensation are both administered as assigned risk plans. The residual markets for medical malpractice and commercial auto are administered as reinsurance pools with multiple servicing carriers. The residual market for home insurance is administered as a pool with a single servicing carrier.
For each of these residual markets, the Division serves as the primary oversight and the Commissioner typically appoints individuals to the governing bodies of these associations. The governing bodies of each residual market promulgate rules of operation subject to the approval of the Commissioner. Residual market pools undergo financial and market conduct examinations just as individual companies do.
Businesses that cannot obtain insurance for vehicles used in their business can obtain insurance through one of several designated insurers called servicing carriers. These companies issue and service policies and settle claims just as they would in the voluntary market. The companies that do not service this business agree to pay their fair share of the servicing carriers' servicing expense and financial losses on this business.
If no licensed insurance company is willing to write coverage for a particular home, the owner may apply to the Massachusetts Property Insurance and Underwriting Association (MPIUA or FAIR plan) for a home insurance policy. The FAIR plan offers coverage to homes with replacement values up to $1 million. For homes with higher replacement values, coverage is available through the surplus lines market. FAIR plan policies include most of the same coverage provisions found in standard home insurance policies. All profits and losses of the FAIR plan are allocated to each member of the MPIUA according to market share.
Any driver who cannot obtain a personal auto policy in the voluntary market can apply for coverage through the Massachusetts Automobile Insurance Plan (MAIP). The MAIP then assigns the new policy to a private passenger insurance company based on its market share. Once the policy is assigned, the company has total responsibility for that policy - from billing and servicing to settling claims. Drivers who are assigned to a company through the MAIP typically have the opportunity to purchase the same types of coverage as drivers in the voluntary market; however, some optional coverages may not be available.
The workers compensation assigned risk pool operates in a manner similar to the MAIP in that it assigns risk on an individual policy basis to each company according to market share. Medical malpractice operates as a reinsurance facility in a manner similar to commercial auto.