The surplus and surplus traces insurance coverage market is a rapidly-growing avenue for the position of insurance coverage insurance policies in america.
Many alien (non-U.S.) insurance coverage carriers write surplus traces insurance coverage protection by way of their inclusion on the NAIC IID Quarterly Itemizing of Alien Insurers, and there was exponential progress within the formation of “home surplus traces insurers” which can be U.S.-based insurers approved for the specific goal of writing solely surplus traces insurance coverage.
Nonetheless, one of many principal boundaries to the position of insurance coverage insurance policies by surplus traces insurers has been the “diligent effort” or “diligent search” requirement imposed on surplus traces brokers. A situation in most states for putting insurance coverage by way of the excess traces market is the utilization of a surplus traces dealer that should first search the admitted marketplace for accessible insurance coverage protection. Whereas some business contributors see this requirement as an antiquated hurdle of yesteryear, others view this requirement as important for shielding the standard, highly-regulated admitted market.
Within the previous days, the excess traces market was historically deployed for bespoke, hard-to-place insurance coverage dangers, which at present embody cyber insurance coverage, representations and warranties insurance coverage for mergers and acquisition (M&A) transactions, and insurance coverage for cannabis-related companies.
At this time, nonetheless, the excess traces market additionally more and more helps danger exposures historically inside the purview of the admitted market, akin to owners protection and industrial car insurance coverage (to the extent permissible underneath motorcar legal guidelines). As well as, the explosion of “insurtech” carriers and brokers has elevated the demand for app-based “on demand” binding of protection. As such, the diligent search requirement has turn into extra essential to think about than ever.
This text identifies a couple of of the ceaselessly requested questions and areas of compliance deficiencies within the market that ought to be thought-about when working a surplus traces brokerage agency or in any other case performing due diligence referring to the acquisition of a surplus traces dealer licensee.
Is the diligent search requirement nonetheless round in most states?
Sure, though many states include exemptions and some have eliminated it altogether. To our data, at the least 4 states (Louisiana, Mississippi, Virginia and Wisconsin) have eradicated the requirement. Furthermore, some states are starting to exempt surplus traces brokers from the diligent search requirement with respect to industrial dangers when a retail producer is concerned. For instance, in Illinois, underneath 215 Ailing. Comp. Stat. 5/445, a surplus traces producer might procure industrial traces protection by way of the E&S market with out conducting a diligent search of the admitted market “if the danger was referred to the excess line producer by an Illinois-licensed insurance coverage producer who shouldn’t be affiliated with the excess line producer.”
Are regulatory filings required to proof satisfaction of the diligent search?
In lots of states, sure. Some states, like New York, even require {that a} producing retail dealer, if within the chain of sale, full and signal a separate affidavit verifying the satisfaction of the completion of the diligent search requirement and file it with a state insurance coverage division or a surplus traces “stamping workplace” (though such affidavit is filed by the surplus line dealer in New York). Another states, in contrast, merely require that satisfactory information be maintained by the excess traces dealer evidencing satisfaction.
How can a declination be obtained?
Most states don’t direct surplus traces brokers as to how the declination should be obtained; for instance, New York’s required affidavits solely ask for the date of declination and the explanation why the dealer believes that the insurer would have thought-about writing the protection. Florida’s “Assertion of Diligent Effort” kind expressly requires the attachment of any declinations obtained electronically, and plenty of states expressly acknowledge the permissibility of oral declinations obtained from a consultant of the insurer or the insurer’s agent, though the excess traces dealer ought to hold written information of those declinations as nicely.
Does the diligent search have to be performed each time a coverage is issued or renewed?
Some states expressly point out that the diligent search requirement be happy on a “per danger” foundation, together with each time an insurance coverage coverage is renewed. For instance, per steerage promulgated by the Extra Line Affiliation of New York, “[a] diligent effort should be carried out for every coverage being positioned — a declination will not be used for a number of insurance policies. Likewise, a brand new diligent effort should be undertaken upon the renewal of a coverage.” Equally, underneath steerage printed by the California Surplus Strains Affiliation, “[a diligent] search should be carried out on all new and renewal insurance policies (even when the insured needs to stay with the excess traces insurer).” In Florida, per Fla. Stat. § 626.916, “[d]eclinations should be documented on a risk-by-risk foundation.”
There may be enforcement historical past on this difficulty. For instance, underneath a 2018 New York consent order, the New York Division of Monetary Providers discovered {that a} surplus traces dealer “solely obtained declinations from three approved insurers as soon as yearly for a single coverage … after which relied upon the one annual declination with respect to all different insureds who obtained insurance policies” in violation of New York insurance coverage legal guidelines.
There are some states that do, nonetheless, permit for the diligent search to be “recycled” in restricted conditions. In Illinois, underneath 215 Ailing. Comp. Stat. 5/445, the place the excess traces producer has contracted to position “program” enterprise with a service for insureds with related traits receiving related contract phrases, the diligent search want solely be performed yearly reasonably than individually for every contract. In states that don’t expressly require that the diligent search be accomplished on a per-risk foundation, there’s an argument that recycling a search may very well be applicable if there’s a cheap foundation to imagine that admitted market availability has not modified, however such apply comes with regulatory compliance danger.
What number of declinations are required?
Many states expressly require that at the least three declinations be obtained from licensed insurers as an affordable proxy for demonstration that protection shouldn’t be available within the admitted market (though some states, like Ohio, require 5 or extra declinations), however that is solely a mandatory reasonably than enough situation in some states. For instance, in Florida, per ICR Bulletin 89-100 (April 11, 1989), the requirement to acquire three declinations shouldn’t be a most, however a minimal “stage of effort that should be exerted in an try to seek out a certified service.”
Some states require fewer or higher variety of declinations relying on the kind of insurance coverage protection. For instance, Florida solely requires one declination referring to property protection for residential constructions which have a dwelling substitute value over $700,000. However, some states require further declinations from danger swimming pools; in California, per Cal. Ins. Code § 1763.5, personal passenger car protection should first be submitted to the California Car Assigned Danger Plan earlier than being exported to the excess traces insurance coverage market.
Some states don’t impose a minimal variety of admitted market declinations, and whereas this will likely at first blush seem to offer extra leniency for the excess traces dealer, such silence imposes a higher burden in a couple of states. For instance, in Maine, underneath Bulletin 457 (April 14, 2021), “doing a particular variety of inquiries doesn’t imply that the producer has fulfilled this requirement. Moderately, it is a perform of many variables, together with for instance the kind of insurance coverage sought and the protection limits wanted.” In actual fact, in Maine, if the protection “exists within the admitted market” in any respect, the protection shouldn’t be exportable, “even when a producer is blocked from putting an account with a certified insurer … .”
Can any licensed service present a declination?
No, as many states require that the excess traces dealer have a “cause to imagine” the licensed service might write the protection. In New York, N.Y. Comp. Codes R. & Regs. tit. 11, § 27.3 contains the next as “causes to imagine” that a certified insurer would possibly take into account writing the kind of protection desired: (1) latest acceptance by the insurer of comparable protection, (2) promoting by the insurer or its agent that the insurer is keen to think about related protection, (3) media communications indicating the insurer is keen to just accept related protection, (4) communications with insurance coverage professionals, danger managers, commerce or surplus traces associations, or the New York Division of Monetary Providers that might point out the approved insurer would possibly take into account writing the protection, or (5) every other legitimate foundation for making such choice.
Moreover, per New York’s regulation, declinations from a number of approved insurers underneath frequent management is not going to rely as a number of declinations except such insurers function as distinct and autonomous entities, and for underwriting functions, compete with one another for a similar sort of protection or class of insurance coverage. Moreover, in some states, akin to West Virginia, protection will not be positioned with a surplus traces insurer that’s an affiliate of a licensed insurer from which the declination has been obtained, see W. Va. Code § 114-20-4.
What variations between an admitted and a surplus traces insurance coverage coverage could also be used to justify a declination?
Initially, many states expressly state that worth (premium quantity) alone shouldn’t be a permissible cause for a surplus traces dealer to acquire a declination from a certified service. As well as, a couple of states determine different variations which can be inadequate to show a real declination. For instance, in California, a declination doesn’t qualify when the protection is artificially divided into a number of contracts for the aim of avoiding admitted market availability; nonetheless, if a portion of protection is actually not accessible within the admitted market and it may be proven {that a} surplus traces insurer will settle for all the protection however not the rejected portion alone, all the class of danger could also be exported solely with insurance coverage commissioner’s approval. See Cal. Code Regs. tit. 10, § 2137 and Cal. Code Regs. tit. 10, § 2138.
How is the diligent search happy for group insurance policies?
That is an space not addressed underneath most state insurance coverage codes; nonetheless, one state that provides specific leniency is Illinois. Beneath 215 Ailing. Comp. Stat. 5/445, “[f]or a grasp coverage insurance coverage contract, a licensed surplus line producer might make the required diligent effort to obtain the insurance coverage from approved insurers yearly for the grasp coverage reasonably than individually for every insured that’s added throughout the coverage interval.” New York supplies flexibility for some (however not all) forms of teams, together with certificates issued by way of danger buying teams (RPGs) whereby declinations could also be obtained for all members of the group when protection is procured inside a 30-day interval (see N.Y. Comp. Codes R. & Regs. tit. 11, § 301.6). Sure different states utterly exempt the excess traces dealer from the diligence search requirement as to protection issued to and thru RPGs.
There may be typically enhanced danger {that a} state would require a diligent search to be accomplished as to a member residing therein when the time period “dwelling state” is outlined for functions of surplus traces regulatory jurisdiction to incorporate members of teams that pay premium “from their very own funds” or related terminology, even when the grasp policyholder is situated in one other U.S. jurisdiction. As well as, simply because the state the place the grasp coverage is issued might present leniency as to the diligent search requirement within the group context doesn’t imply that one other state the place a gaggle member might reside will adhere to such relaxed method.
Who’s liable for conducting the diligent search?
Many states permit a retail (non-surplus traces) dealer to conduct the diligent search, however this doesn’t essentially absolve the excess traces dealer from legal responsibility for the failure of a surplus traces insurance coverage placement to be supported by correct declinations. For instance, in Florida, per Bulletin 97-7 (June 16, 1997) “[s]urplus traces brokers should train prudent enterprise judgment when evaluating the reasonableness of the manufacturing agent’s assertion of diligent effort. Failure to take action might lead to disciplinary motion, together with revocation of the agent’s license.” Against this, some states, akin to Connecticut, put the burden solely on the retail agent (see Bulletin SL-4, July 25, 2013). Some states, on the face of their surplus traces statutes or in different steerage, require that the excess traces dealer conduct the diligent search irrespective of satisfaction by a retail dealer or different third celebration.
Are there extra basic exemptions from the diligent effort requirement?
Sure. Initially, the Nonadmitted and Reinsurance Reform Act of 2010 stipulates {that a} surplus traces dealer shouldn’t be required to conduct a diligent search of the admitted market if the insured is an “exempt industrial purchaser,” assuming sure disclosure necessities are met. Some states have further “industrial insured” exemptions that, in some conditions, additionally alleviate the position from different surplus traces regulatory requirements. Various states keep “export lists,” that are compilations of coverages that the relevant commissioner has decided haven’t any admitted market availability. Surplus traces brokers can’t make this dedication on their very own; solely a state can affirmatively exempt such coverages by way of inclusion on their export lists.
These are simply a few of the many points to think about when striving to adjust to the excess traces diligent effort requirement throughout the varied U.S. jurisdictions.
This text was first printed on January 22, 2024. Copyright Insurance coverage Journal 2024.
