BILL ANALYSIS AB 1837 Page 1 ASSEMBLY THIRD READING AB 1837 (Gaines) As Amended April 26, 2010 Majority vote INSURANCE 10-2 ----------------------------------------------------------------- |Ayes:|Solorio, Blakeslee, | | | | |Anderson, Caballero, | | | | |Carter, Hagman, Hayashi, | | | | |Niello, Salas, Torres | | | | | | | | |-----+--------------------------+-----+--------------------------| |Nays:|Charles Calderon, Feuer | | | | | | | | ----------------------------------------------------------------- SUMMARY : Authorizes a nonadmitted (unlicensed) insurer that is affiliated with a domestic admitted insurer to receive services performed in California by the domestic admitted affiliate. Specifically, this bill : 1)Authorizes a nonadmitted insurer that is affiliated with a California domestic insurer to have common directors, provided that the directors do not perform management functio9ns for the nonadmitted affiliate. 2)Authorizes a California domiciled insurer to provide the following administrative services to its nonadmitted affiliate: a) Computer operations unrelated to the underwriting process; b) Clerical and administrative staffing support; c) Human resources; and, d) Claims adjusting, provided that the notices, decisions, and payments are made directly by the nonadmitted insurer. 3)Specifies that nothing in the above provisions permits the nonadmitted insurer to conduct activity that constitutes the "transaction" of insurance, or a violation of specified AB 1837 Page 2 sections of the Insurance Code. EXISTING LAW : 1)Requires insurers that "transact" insurance in California to be "admitted" to transact in the state. "Admitted" is the Insurance Code terminology for being licensed to transact insurance in this state. 2)Provides that "transact" as it applies to insurance includes solicitation, negotiations preliminary to the execution of an insurance contract, execution of the contract, and transaction of matters subsequent to the execution of, and arising out of, the insurance contract. 3)Authorizes "nonadmitted" insurers to sell insurance to Californians on a limited basis, through specially licensed "surplus lines brokers." 4)Provides broadly that nonadmitted insurers may sell insurance to Californians when the insurance is needed by the policyholder, but generally not available from admitted insurers. 5)Requires that, before selling insurance on a nonadmitted basis in California, the nonadmitted insurer must apply to be placed on the list of eligible surplus lines insurers (LESLI list), and the Insurance Commissioner (IC) must approve the application based on statutory criteria before placing the nonadmitted insurer on the list. 6)Prohibits in virtually all circumstances a nonadmitted insurer from selling insurance in California except though a surplus lines broker, who reaches out and places the California insurance with the nonadmitted insurer outside of the state. In this sense, the nonadmitted insurer is not "transacting" insurance in California. 7)Places a series of duties on the surplus lines broker to ensure that these requirements are met. 8)Recognizes the role of the Surplus Lines Association (SLA), a nongovernmental entity, as an administrative agent of the IC for carrying out certain functions, including a role in tax AB 1837 Page 3 collection and a role in pre-screening applicants for placement on the LESLI list. 9)Establishes the California Insurance Guarantee Association (CIGA) as the guarantor for the payment of covered claims in the event an admitted insurer becomes insolvent. There is no comparable entity for nonadmitted insurers. 10)Defines a "domestic" insurer as one that is organized under the laws of California. 11)Defines "nonadmitted" as an entity that is not entitled to transact the insurance business in California. FISCAL EFFECT : Undetermined. COMMENTS : 1)According to the author and the sponsor, the Pacific Association of Domestic Insurance Companies (PADIC), California domestic insurers face a competitive disadvantage in comparison to non-domestic admitted insurers with respect to the operations of affiliated nonadmitted insurers. Specifically, the author and PADIC argue that a non-domestic admitted insurer can share a range of services and cost-saving activities with a nonadmitted affiliate that is selling insurance in California, but a domestic insurer cannot provide those same services to its nonadmitted affiliate without violating the laws that bar a nonadmitted insurer from transacting insurance in the state. The bill is intended to level this playing field among nonadmitted insurers. 2)The general rule in California, as in every state, is that an insurance company must be licensed (admitted) in order to do business in the state. There are sound reasons for this rule, notably the ability of the IC to ensure the solvency of these companies to ensure they can keep their promises to pay future benefits to Californians, and to ensure that the insurers treat policyholders and claimants in a fair and reasonable manner. In addition, in California admitted property-casualty insurers are subject to a rate regulation law that was enacted by the voters (Proposition 103 of 1988). However, despite these sound reasons to require all insurers to AB 1837 Page 4 be admitted, the law recognizes that there are reasons to allow the sale of insurance by nonadmitted insurers. If there is an insurance need by a California resident, and that need is not being filled by admitted insurers, it is logical that the law allow that need to be filled. Thus, for unusual risks, or for very large risks, the nonadmitted market plays a crucial role in providing commercial insurance in California. There is a small amount of personal homeowners insurance sold by nonadmitted insurers in California, but virtually all nonadmitted insurance is in the commercial lines. 3)In the 1980s and early 1990s, the surplus lines market was far less regulated than it is today. As a result, extremely poorly capitalized insurers would start writing business to unsuspecting consumers, and all too frequently these insurers would default on their obligations. The automobile insurance crisis was at the point where hundreds of thousands of Californians were purchasing basic automobile insurance from nonadmitted insurers. At that time, the law did not require nonadmitted insurers to apply for and be placed on an eligibility list. Indeed, there were not even financial filing requirements. The DOI attempted to deal with this problem by adopting a regulation that mandated a contemporaneous financial filing at the time when a nonadmitted insurer first sold a policy to a Californian. However, even this approach proved inadequate, as the courts made it extremely difficult for DOI to shut down financially unsound nonadmitted insurers, because these insurers had established a "property right" in the business that they were conducting. The Legislature responded to this problem by enacting laws that in most circumstances prohibit private passenger automobile insurance to be sold by nonadmitted insurers, and by creating the LESLI list to ensure no nonadmitted insurer could establish the foothold "property interest" unless the IC had affirmatively approved the nonadmitted insurer's status as financially sound. These changes have improved the market, but also highlight the fact that selling insurance on a nonadmitted basis is a privilege granted by the state, to be authorized only where there is a clear need to fill a void. Without a need to fill a void, insurance should be sold by licensed companies only. 4)PADIC writes in support that the bill recognizes that the AB 1837 Page 5 nonadmitted regulatory process is fundamentally unfair to small and medium sized domestic insurers due to the ability of nonadmitted affiliates of nondomestic insurers to save costs more effectively with respect to competing for California business. PADIC also makes the case that California should be encouraging insurers to locate their primary offices within the state, and that this bill will enhance the ability of insurers that do locate here to better compete. 5)Proponents suggest that nonadmitted affiliates of a domestic insurer are at a competitive disadvantage with nonadmitted affiliates of nondomestic insurers. In a certain sense, the observation is valid. However, it misses the mark at two levels. First, a nonadmitted affiliate of a United States based insurer will always have one state where there is this appearance of disadvantage - the state where its affiliate is domesticated. Thus, just as a nonadmitted affiliate of a California domestic faces issues when selling insurance in California, a nonadmitted affiliate of a Nevada domestic faces issues when selling insurance in Nevada, and the California-affiliated nonadmitted has a competitive advantage over that insurer in Nevada. Of course, the size of the California market magnifies the disadvantage for a California domestic. Second, the notion of level playing field competition in the context of nonadmitted insurance in the absence of any showing of a market void ignores the fact that, under California law, if a company wants to compete and exercise its rights under the law, it should become admitted. 6)A nonadmitted insurer that is selling insurance in California should be a real company, with its own assets, offices, management and staff. The current version of the bill is much narrower than previous versions, but the DOI remains concerned with blurring the lines between admitted and nonadmitted insurers. As DOI testified in Committee, the bill is breaking new ground that could render the distinction between admitted and nonadmitted insurers virtually nonexistent, and encourage other insurers to attempt to avoid the requirements in the law that require obtaining a license to transact insurance in California. Analysis Prepared by : Mark Rakich / INS. / (916) 319-2086 AB 1837 Page 6 FN: 0004297