Regulatory Stringency and New York Licensed Life Insurers

Pottier, Steven W., Sommer, David W., Journal of Risk and Insurance

INTRODUCTION

The state of New York is generally acknowledged to have the most rigorous insurance regulatory scheme of any jurisdiction in the United States (Meier 1988; Cummins and Sommer 1996). Besides general stringency, a unique feature of New York insurance law is its extraterritoriality; an insurer licensed to do business in New York must substantially comply with any requirement applicable to similar domestic insurers in every state in which the insurer does business. For example, New York investment laws and agent compensation rules must be followed nationwide by insurers licensed in New York. The extraterritorial application of New York insurance law originated with an administrative ruling in 1900 known as the "Appleton Rule," which was made part of the New York insurance code in 1939 (Vaughan and Vaughan 1995).

The impact of New York regulation on the life insurance industry is potentially far reaching considering that over fifty-eight percent of life insurer assets in 1995 were held by New York licensed life insurers. Further, many industry authorities believe that being licensed to operate in New York is a positive indicator of financial quality (Black and Skipper 1994, 307). However, many insurers appear to intentionally avoid becoming licensed in New York. In 1995, 138 life insurers were licensed in forty-nine states of the United States. In 134 (97.1 percent) of these cases, the single state in which the insurer did not have a license was New York.

As a consequence of the apparent unique importance of New York regulation, many empirical researchers have attempted to control for the impact of such regulation in studies of various insurance issues, typically by including a binary variable signifying whether an insurer is licensed in New York (for example, Brewer, Mondschean, and Strahan 1997; Pottier and Sommer 1997a; Cummins and Sommer 1996; Wells, Cox and Gaver 1995; and Boose 1990). Despite this widespread recognition of the importance of New York regulation, no previous study has focused specifically on the characteristics of New York licensed life insurers. The purpose of this study is to identify these characteristics.

Previous research on New York regulation is very limited. Weisbart (1975) used New York licensure as an independent variable in seven separate regressions to explain observed commissions, expenses, growth, and rates of return. His regression analysis included a total of sixty-five life insurers. A survey of companies not licensed in New York revealed that eighty-five percent stated they did not seek admission to New York to avoid the Appleton Rule (Weisbart 1975, 43). Harrington (1982) examined New York Regulation 49, which limits general agency expense allowances. He conducted a survey of fifty-one insurers to determine the potential costs and benefits of Regulation 49. We use a much larger data set than these two earlier studies. In addition, this is the first study to simultaneously examine the relation between a broad array of firm-specific characteristics and the probability of being licensed in New York. Given the widespread assertion that New York regulated insurers are somehow different, it is important to know the extent to which this is true, and to know in exactly what ways they tend to differ from other insurers.

The remainder of the paper is organized as follows. The next section describes the two primary ways of entering the New York insurance market. The following section discusses hypotheses regarding the expected relationship between specific firm characteristics and the probability of being licensed in New York. Next, the sample, data and methodology are described, and the empirical results are presented. The final section contains a summary and conclusions.

ENTRY INTO THE NEW YORK INSURANCE MARKET

Insurers can enter New York as a domiciled or foreign insurer. An existing insurer domiciled outside New York can either establish a subsidiary domiciled in New York or obtain a license to operate in New York as a foreign insurer. Whichever method of entry is used, any insurer licensed in New York must substantially comply with the New York insurance code not only in New York, but in all other states where the insurer does business (the so-called Appleton Rule). The legal costs of incorporation and the maintenance of books and records provide an incentive to operate as a foreign insurer rather than to establish and maintain a New York-domiciled subsidiary. On the other hand, the extraterritorial dimension of New York's stringent insurance law, with the accompanying high regulatory compliance costs, provides an incentive to enter New York via a domiciled subsidiary in order to avoid subjecting the insurer's nationwide operations to New York regulations (Petroni and Shakelford 1995).

In the empirical analysis to follow, our primary interest is in examining the systematic differences between insurers that are licensed in New York, and thus subject to New York regulation wherever they operate, and those that are not. As a secondary issue, we further test for systematic differences within the subset of insurers licensed in New York; namely, differences between New York domiciled insurers and New York foreign insurers. Klein (1995, 381) claims that "states tend to concentrate solvency oversight on their domestic insurers and defer the responsibility for other insurers to their domiciliary jurisdiction." Thus, the application of New York regulation may differ between foreign and domestic insurers even where the formal written regulations do not. If New York domiciled insurers are systematically different from other New York licensed insurers then this would be evidence consistent with differential effects of domiciliary regulation versus extraterritorial regulation.

HYPOTHESES REGARDING NEW YORK LICENSED LIFE INSURERS

In this section, we discuss expected differences in specific firm characteristics between insurers that are licensed in New York …

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Publication information: Article title: Regulatory Stringency and New York Licensed Life Insurers. Contributors: Pottier, Steven W. - Author, Sommer, David W. - Author. Journal title: Journal of Risk and Insurance. Volume: 65. Issue: 3 Publication date: September 1998. Page number: 485. © 2009 American Risk and Insurance Association, Inc. COPYRIGHT 1998 Gale Group.

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