Magazine article Risk Management

NAIC Considers Efficacy of Anti-Fronting Bill

Magazine article Risk Management

NAIC Considers Efficacy of Anti-Fronting Bill

Article excerpt

The National Association of Insurance Commissioners continues to consider a model act that would restrict the ability of licensed insurers to reinsure with unlicensed reinsurers. The latest draft of the Limitations on Reinsurance Activities of Insurers Model Act contains several exceptions, including one intended to apply to business reinsured to captives:

"The policyholder whose business is ceded under the reinsurance agreement controls or is affiliated with the unlicensed assuming insurer ... is a corporation that has and maintains a net worth of more than $50 million as evidenced by a financial statement certified by an independent certified public accountant, which statement shall be submitted on an annual basis to the licensed insurer; and such corporation [i.e., the insured] agrees, in writing, that it will indemnify the licensed insurer or its estate for any losses resulting from failure of the unlicensed assuming insurer to meet its obligations under the agreement..."

The exception does not sufficiently deal with captive situations for several reasons. First, many entities that form wholly owned captives or participate in group captives do not have $50 million in net worth. Thus, this requirement will prevent many smaller businesses from participating in captives.

Second, the indemnification requirement may eliminate insureds' ability to deduct premiums paid to captives regardless of such recent decisions as Humana, Inc. v. Commissioner and The Harper Group, et al. v. Commissioner. If an insured must guarantee the risk payment it has insured with the fronting company, the Internal Revenue Service will probably argue that no transfer existed and, consequently, no premium deduction will be afforded.' Instead, losses will be deductible when paid. Third, the requirement will also cause many corporations to seek waivers of loan indentures and other contract provisions that preclude such guarantees.

The 'Regulatory' Exclusion

The 1991 Minnesota case of St. Paul Fire and Marine Insurance Co. v. FDIC considered whether the "insured vs. insured" exclusion or the regulatory" exclusion in a directors' and officers' liability policy purchased by a financial institution precludes recovery against the insurer. The issues have been considered in other cases with varying results.

In this case, however, St. Paul initiated an action against the Federal Deposit Insurance Corp. seeking a determination that it is not obligated to insure either the former State Bank of Greenwald, MN, or certain former officers and directors. …

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