Abandoned in the soft market of the 1990s,
risk retention groups are on the rise, offering form, rate, claims, taxation,
and admitted paper benefits. However, state taxation, federal regulation, and
litigation are growing problems.
M.R. Mead &
The Federal Product Liability and Risk Retention Act of 1981 (LRRA), modified
in 1986, created another form of captive: the risk retention/risk purchasing
group. These structures, while effective, have not played a large role in the
large world of alternative risk transfer until lately.
The original goal of the legislation was to provide a market for insurance
for manufacturers to offer relief from crippling litigation against products
they produced, but which may have been misused, modified, discontinued, or otherwise
have become used not as originally intended. The manufacturers were being confronted
with mass torts, bad publicity, and the ever-aggressive plaintiff’s bar. Congress
agreed to step up and enacted this bill.
The Act simply states that a group of insureds with a similar exposure can
come together to create their own insurance company and that company is preempted
from certain state insurance regulation including rate and form approval and
taxes. In theory, it resides in one state and must be admitted in all other
Risk purchasing groups (RPGs) are another form which is rarely encountered.
RPGs are groups of buyers who aggregate their buying power and negotiate with
traditional insurers. These structures do have their uses, but it is usually
for a very limited audience.
The Act did indeed provide some relief for manufacturers, but the market
turned soft again. The traditional markets responded by writing business in
such an attractive manner that many manufacturers left the RRGs and returned
to buying insurance commercially.
With the long running soft market of the 1990s, few RRGs were formed. There
was seen no reason to assume risks when transfer was relatively inexpensive.
Traditional commercial policies were bought, some tort reform was enacted, and
life was good.
For proponents of RRGs, formations became few and far between. The need still
existed, and several notable RRGs were formed. At that point, regulators began
to notice that, with the formation of RRGs, taxes paid to their domicile, not
the home domicile of the RRG, were declining. (It’s always all about the money.)
Some regulators then began to challenge the preemptions of RRGs from state
taxation. These efforts were resisted heartily by the RRGs, notably through
one of their associations, the National Risk Retention Association (NRRA). Suits
were filed, and there was some success. A large case in Oregon for an auto warranty
firm was perhaps the peak of litigation victory for the RRGs.
But for every victory against a Department, another two taxes seemed to arise.
RRGs found themselves in a constant battle over small taxes. They fought back
on principle, expending material sums for legal fees.
This seeming litigious nature of the beast, required by the persistent actions
of regulators, did not go unnoticed. Insureds considering forming RRGs were
sometimes turned off by the litigation and the possibility that their vehicle
could be caught up in battles unrelated to their basic mission.
However, RRGs retained their original structure, which features the ability
to operate without being admitted to write insurance in all but the home domicile.
The adroit RRG could establish itself in a friendly domicile (Cayman and Barbados
were popular until the 1986 revision removed those choices) and write business
elsewhere with no restrictions on rate, form, claims policy, counter signature,
or licensing. This was, and is, a tremendous advance in regulation in favor
of the commercial consumer.
RRGs likewise retained the limitations on lines of coverage, being liability
only. They are not permitted to write workers compensation or property coverage.
Commercial automobile can be written, but there are often so many state restrictions
that the effort is not worth the result.
In today’s market, where risk sharing partners to provide admissibility and
credit worthiness ("fronts") are few and shy, more people are realizing that
these 2-year-old-plus vehicles can provide an excellent structure if their need
is for liability protection. Now, instead of beleaguered manufacturers, we see
doctors, lawyers, hospitals and other groups forming RRGs. Suddenly, medical
professionals who commit to risk management discipline and financial support,
can take control of their risk destiny without becoming entangled with fronts.
This development has quietly caused a veritable flood of applications in
to domiciles perceived to be "friendly," such as the District of Columbia and
South Carolina. The volume has become such that the regulators of those domiciles
are concerned about not only their ability to handle the flow, but their ability
to separate the wheat from the chaff.
In addition to liability protection, however, the RRG structure provides
immediate admission of paper through the federal preemption. An RRG admitted
in one domicile must be admitted in all other domiciles. This has become a huge
point of difference. Not all RRG owners need the certification of admitted paper,
and some do not need such certification beyond the borders of the domicile state.
Starting an RRG is a complex matter, requiring the services of knowledgeable
professionals. One is indeed starting an insurance company, with all that implies.
All policyholders are owners, so issues of shareholder relations and corporate
governance become more important than in a standard captive. Policy wordings
must be carefully crafted, and claims management must be responsive to various
state regulations on fair claims practices. But the rewards of achieving a high
level of risk control are compelling to many—and a great solution for risk challenges.
Some state regulators continue, and have indeed increased efforts to oppose,
delay, restrict, and otherwise deter RRGs. Taxes that clearly do not apply are
applied at virtual gunpoint. Indeed, it has been opined that a 50-state RRG
must pay over 650 separate taxes and fees, and that is with a federal preemption.
There is a very active movement afoot to expand the LRRA. Many firms believe
that the RRG structure would work well offering workers compensation and property.
The National Association of Insurance Commissioners (NAIC) has passed a strongly
worded resolution opposing such expansion, and it faces a tough fight in Congress.
It is clear that even if Congress does not respond positively this Session,
the issue will rise again.
At the end of the day, the RRG structure does provide some very significant
advantages, and it is my hope that more regulators will see that their constituency
is helped by using such a technique. In addition to relative freedom of form,
rate, claims, and taxation, the RRG provides admitted paper for those firms
in need of such. With fronting in such a difficult state, RRGs can provide relief
for regulators who are being forced to overlook certificate inadequacies, and
for insurers whose capital and resources are stretched too thin to respond to
the needs of the market.
The author has an ownership position in three captive management
companies, but is not in a captive management position.
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