Participants in the excess and surplus lines market have been watching legal and regulatory developments in a number of states this year, including the three with the most E&S premium volume–California, Florida and New York.

A California lawsuit that could force surplus lines insurers to almost double the amount of taxes they pay the state headlines a host of state and local issues.

The suit, filed by several lawyers, contends a state agency that assesses taxes is wrongly failing to collect premium taxes from insurers who serve the state's nonadmitted market. The suit Silvers and Gold v. State Board of Equalization, Lexington, and John Does 1 through 500, No. BC388468, was filed in the spring against the agency and Lexington Insurance Company, but would also affect the approximately 160 other insurers who serve the state's nonadmitted market, experts say.

Oral arguments on a motion to dismiss the suit were heard July 10 by Judge Elihu Berle, a State Superior Court judge hearing the case in Los Angeles. It is unclear when the judge will rule on the motion.

According to officials of the Kansas City, Mo.-based National Association of Professional Surplus Lines Offices, Ltd., the suit is being filed under a law allowing private citizens to sue to force the state to collect taxes which the private parties believe the state is owed but not collecting.

In 2006, brokers representing nonadmitted insurers paid $187 million in taxes, equivalent to a 3 percent levy on $7.2 billion in premiums reported to the state's stamping office.

But plaintiffs Stephen Silvers and Steven Gold allege in the suit that nonadmitted insurers also owe the state for the 2.34 percent statutory premium tax levied against admitted insurers.

In a friend-of-the-court brief filed in connection with the case, lawyers for NAPSLO, the American Association of Managing General Agents and the California Insurance Wholesalers Association, argue that the plaintiffs make claims in the lawsuit “that fundamentally misconceive the jurisdictional and structural differences between the admitted market and the surplus market.”

Moreover, the brief claims, requiring the state to impose the tax “would eviscerate the state legislature's considered judgment regarding appropriate tax policy for California's surplus lines market and have dangerous ramifications for California's economic infrastructure.”

The brief also argues that if the suit is upheld, it would “presumptively” subject the state's nonadmitted insurers to the same rate and form regulatory requirements applicable to admitted insurers.

“The surplus lines market represents the only insurance market for key segments of California's complex economic infrastructure. It is a highly sophisticated market with a well-established insurance distribution system that can and does accommodate the myriad, ever-changing, specialized risks for which California's admitted market has no appetite,” the brief argues.

“Freedom of rate and form–the ability to tailor coverage and limits to unique or specialized risks and price accordingly–is the sine qua non of the nonadmitted market,” the brief explains. “If subjected to rate and form requirements, the surplus lines market simply could not function. That would leave many California industrial and commercial insureds, as well as governmental entities, without access to essential insurance protection,” the brief adds. Moreover, “unlike admitted insurers, surplus line insurers need no regulatory approval to cease insuring California risks,” it points out.

Florida legislative action, especially a decision to expand the authority of the state-backed insurer of last resort to sell commercial insurance, is roiling the state's surplus lines market.

The decision in May 2007 to lower the threshold for Citizens Property Insurance Corporation to offer commercial insurance effective in January has exacerbated the problems already generated by a slowing economy and softening rates, according to a Jacksonville broker.

Daniel O'Leary, chairman of Shelly, Middlebrooks & O'Leary, Jacksonville, said allowing Citizens to provide insurance at below market rates “is having an adverse effect on our business.

“We are finding it difficult to compete with them,” he said.

In addition, a new Florida law requiring surplus lines insurers to file forms and rates if a policy a broker issues covers more than three condo associations is also raising hackles, according to NAPSLO's director of government relations, Steven Stephan.

At the same time, the industry is breathing a sigh of relief because the state legislature killed before adjourning last Spring bills introduced in both the state House and Senate that would have provided rate and form deregulation for admitted insurers that would have issued non-assessable policies for nonresidential commercial property in the state.

Among the opponents of the bill were officials of the Citizens Property Insurance Corporation, the entity designed to reduce the cost of insurance to the catastrophe-prone state.

“Officials of Citizens opposed it because the funding mechanism for paying off a large hurricane would have been revoked for those policies,” Mr. Stephan said. “In effect, the legislature would have been shrinking the mass of policies that could be surcharged,” he said.

He also noted that it would have placed surplus lines insurers at a competitive disadvantage because they are subject to the assessment.

As for the law requiring rate and form filings when a policy covers more than three condo associations, Mr. Stephan said, “We oppose it while it was being debated, and still oppose it.”

A three-condo program is “an unusual program,” he said. “At the moment, the impact is limited,” he said, reporting that he doesn't believe there are any brokers writing any policies covering more than three condo associations.

In contrast, the May 2007 decision of the state legislature to expand Citizens' authority to the commercial market is substantive–and punitively affecting surplus lines brokers and carriers, according to Mr. O'Leary.

Citizens is now allowed to offer commercial insurance if rates offered by other insurers are 15 percent higher than that offered by Citizens. Prior to that, the differential was 25 percent.

The new law provision also freezes Citizens' rates through 2009.

The revised program went into effect in January.

“It is a price-driven market at this point,” Mr. O'Leary said. “We are seeing that consumers are purchasing the least expensive policies they can buy.”

“We are unable to serve them because the carriers we represent follow modeling criteria and they are purchasing reinsurance pre-event coverages,” he said. In contrast, he explained, Citizens relies on post-event financing, making it difficult to compete with Citizens.

(For discussion of a favorable development in Florida, see related article in the August edition of E&S/Specialty Lines Extra.)

Efforts to expand New York's export list may bear fruit in the near future, according to the New York insurance department.

In June, the department held a hearing to determine whether some hard-to-place risks, including homeowners on Long Island and certain construction risks, could be placed with E&S carriers without agents having to first obtain three declinations from standard carriers.

Retail and wholesale agents contended that offering carriers risks in lines that the carriers have no interest in writing just to obtain the appropriate declinations creates an unnecessary, time-consuming burden.

The department panel was concerned that moving lines of coverage onto the export list would encourage agents to shift more risks to the E&S market without first checking availability in the standard market, .

Agents countered that market forces, such as failing to meet volume demands of their standard markets and having to split commissions with E&S brokers, would prevent them from doing that.

After the hearing, Tim Dodge, a representative for the Independent Insurance Agents and Brokers of New York, said in comments to National Underwriter, “We would prefer to see as little restriction as possible.” He noted that whether the risks are on the export list or not, a lot of them will end up in the E&S market anyway, and agents will be forced to go through the administrative process of obtaining the declinations.

Robert Pastel, legislative representative for the Professional Insurance Wholesalers Association, said that the idea of limiting the risks to those along the coast has been around for a while, and he said that such a plan would be acceptable.

Both Mr. Pastel and Mr. Dodge felt that the testimony provided at the hearing effectively countered department concerns that agents may fast-track risks to the E&S market if they are added to the export list. They also said that the department's questions, while challenging, were respectful and constructive.

Insurance department spokesperson Andy Mais said the department has reviewed the transcript from the hearing, and has also looked over all of the submitted testimony. He said the department has an internal proposal on expanding the export list ready, and will seek feedback from ELANY “in the very near future.”

(For more details of the June hearing, see related article in the June edition of E&S/Specialty Lines Extra.)

o Fla. OIR: No Form Mandate For Surplus Lines in August E&S/Specialty Lines Extra

o N.Y. Regulators Hear Argument For E&S Export List Expansion

Special Reports /

California Suit, Florida Issues Cause Concern

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