The Intelligent Quarterly from the publishers of The Insurance Insider

Winter 2017 / 2018

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The Rhode ahead

Dan Ascher

America's smallest state, Rhode Island, has stolen headlines over the past year with news that a new piece of legislation that allows insurers to transfer whole books of business to other carriers has gained traction with legacy companies.

Insurance business transfers, as they're known, are Rhode Island's answer to the UK's Part VII transfers and could enable insurers to hive off and sell their old liabilities - something that has been almost impossible in the US until now.

News of the legislation has attracted the attention of other states, which now want a piece of the action. Both Oklahoma and Connecticut have proposed their own bills that could also prove a boon for the legacy sector as well as their own state economies. But the legislation is controversial and, if enacted, would pit the three states against each other as the domicile of choice for transferring business.

However, it may be that conformity rather than competition among states is the greatest driver of legislative quality, which is what the legacy companies they are trying to attract should be demanding.

When it introduced its law in 2015, Rhode Island picked up where Vermont - another state not known for its burgeoning financial services industry - left off.

A year earlier, Vermont introduced a law that gave live carriers the ability to transfer books of legacy business to newly formed run-off companies. Unlike the UK's Part VII transfer mechanism, Vermont's Legacy Insurance Management Act did not require court approval and only applied to surplus lines books.

But while the general opinion of many in the sector suggests that less is more with regulation, it was not enough to tempt the legacy sector to Vermont.

Without court approval, insurers with run-off books could not achieve finality. Judicial say-so is required to interrupt a contract between insurers and their policyholder, so the Vermont legislation ended up looking more like an existing mechanism - the loss portfolio transfer - than it did a Part VII.

Cue Rhode Island. The Ocean State did the same thing, but better, with the insurance business transfer, which required court approval and extended beyond surplus lines.

Fever pitch
The Rhode Island legislation caught the attention of legacy executives. In fact, the excitement was palpable in the bars around run-off trade body Airroc's annual meeting late last year.

Talk of the law reached fever pitch when sister publication The Insurance Insider revealed that the likes of Swiss Re and Berkshire Hathaway were on the cusp of putting the legislation to the test with a $1bn deal.

That noise attracted the attention of other state regulators, which saw an opportunity to bolster their own financial services sector by attracting legacy carriers.

At present Oklahoma's bill looks like the love child of the laws introduced by Vermont and Rhode Island. While it is not restricted to surplus lines it only requires approval from the insurance commissioner and not the courts.

But that could change. Oklahoma's deputy insurance commissioner Buddy Combs tells Insider Quarterly: "We're going to hold the bill over until the 2018 legislative session, and in the interim hold meetings and discussions and bring everyone to the table and hear everyone's concerns before moving forward."

"I think we might have to go to court approval in future drafts of the legislation," he continues. "Our initial thinking was it would be good for the commissioner to approve just simply because we have the expertise in insurance transactions.

"But from a legal perspective I understand that there might be a need for court approval [...] to give it some finality and validity, especially if you're trying to enforce those transactions in other jurisdictions."

However, Mark Goodman, a partner at law firm Freeborn, questions whether the transfers are enforceable even with court approval.

He says there is uncertainty as to what would be required to terminate a contract, commenting: "I think there are questions as to whether you can even do it with judicial say-so."

Goodman warns that regulators in other states are "going to ask a lot of questions" before letting an insurer transfer a book of locally written business to the likes of Rhode Island or Oklahoma.

And he says that approval from "some Rhode Island judge" may not be enough to appease policyholders in those states if the legacy company that acquired the book goes bust or fails to pay a claim.

Good bank/bad bank
The Connecticut law, meanwhile, is very different. It creates what is effectively a reverse merger tool that would enable companies to divide their business into what Goodman compares to a "good bank" and a "bad bank".

The "bad bank" or legacy book could then be sold off to a run-off carrier, but the attorney says the regulator would take a thorough look at how the spun-off entity was capitalised.

"Those transactions would be hard to do, particularly the first ones," he warns, adding: "The regulator would be under scrutiny."

"The guarantee funds will be very interested in those transactions because they're the ones picking up personal lines and even some commercial obligations if said companies go broke," he continues.

Goodman says the regulator is likely to look at whether the book is going to be sold to a run-off company, how well-capitalised that carrier is and just how aggressive it is likely to be in paying claims.

That will also be a concern for insurance commissioners across the country who would be required to approve any transaction that would redomicile a book of business away from their own state - and their supervisory reach. These are the people Rhode Island and its peers should be tryin g to impress.

There is a further danger that one of the three states implementing these legacy rules may try to scupper a deal in the other. Why would Oklahoma allow a book to move to Rhode Island to be run off when it could be done at home?

"The other danger is a kind of reducing standards," says Goodman, imagining a situation in which states would compete to be the most lenient in order to become the domicile of choice.

There is nothing wrong with states carving out a niche and creating a core competency that will prove a boon for their own economies. But in a race to the bottom, everyone loses.

Like a lovelorn drunk at the bar, American states risk lowering their standards in the desperate search for a partner.

But if they want to make the relationship work, they should be aware of their worth so they don't end up feeling used.

This article was published as part of issue Summer 2017

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