Cash-strapped states are having a historically hard time balancing their budgets. Over and over again, officials face difficult–almost unacceptable choices–of cutting beneficial or vital programs, or raising revenue through direct and broad tax increases

Seeking to avoid the need to make such difficult calls, many government officials strive to identify creative ways to raise revenues. Increasingly, the insurance industry has become the target of innovative efforts to close budget gaps. While not surprising under the circumstances, these efforts are short-sighted and ill-advised.

State efforts to raise revenue from insurance can take a variety of forms. The most direct method is to raise the state's premium tax. This is commonly the initial action contemplated by legislators eyeing insurers as a source of additional revenue, but their enthusiasm typically is muted when the legislators come to understand that because of retaliatory taxation, raising the premium tax typically triggers the unintended consequence of putting that state's domestic insurer at a competitive disadvantage in other states in which they do business.

Another common method of obtaining funds is to increase special fees or assessments that insurers pay for various reasons, such as to fund the operations of the state insurance department. In some cases, legislators place surcharges on insurance policies to fund programs they view as sufficiently closely related to insurance, such as policy and fire training. In other cases, state officials have gone after insurance funds that have accumulated, such as in a residual market mechanism or guaranty fund.

Troubling example

Perhaps the most troubling example of such activity, both in terms of magnitude and method, has played out in New York. A statute known as Section 332 authorizes assessments on domestic insurance companies to defray “the expenses of the [insurance] department.” But the budget of the New York Insurance Dept. itself has not been limited to its own expenses for many years. Through an obscure and highly questionable practice known as “sub-allocation,” funds from the department's budget have been used for a variety of programs that are not administered by the department and which have little if anything to do with insurance.

Sub-allocation has gone on in New York for some time, but the size of the amounts diverted through this process has grown to extreme levels as the state's budget situation has become more dire. The department's budget for 2007-2008 provided for approximately $200 million in assessments and more than $74 million in sub-allocations. The next year's budget provided for about $240 million in assessments, supporting about $111 million in sub-allocations. But that excessive amount was not the end for 2008-2009, thanks to a deficit reduction plan adopted in February, which added $180 million in assessments.

The method by which Section 332 assessments have grown has been problematic, as has the magnitude of the assessments. The amount determined in a given budget cycle is arrived at arbitrarily, and assessments are made without sufficient notice. Such practices constitute an extreme burden on insurers as they try to manage finances during a fiscal year.

Although New York offers probably the worst example of raising fees or assessments, it isn't the only state to do so. Last year in Ohio, for example, the general assembly enacted legislation to increase the fee paid by insurers for motor vehicle records from $2 to $5.

Some states considered but ultimately did not enact legislative provisions to increase assessments on insurers. In North Carolina, House and Senate members considered but resisted adopting provisions in the state's budget bill that would have increased the premium tax from 1.9 percent to 2.25 percent; removed the premium tax offset for guaranty fund payments; increased the regulatory fee for insurers from 5.5 percent to 6 percent; and created a tax on repair, maintenance and installation services that include auto collision repair and property restoration, increasing claims costs up to 4.75 percent.

Appropriation of funds

In addition to raising fees and assessments, a common way for legislators to go after insurance money is to raid a fund that has been stored for a specified purpose. In Arizona, a case is pending at the state Supreme Court over the state's treatment of an insurance guaranty fund.

In New Hampshire, the state legislature became aware that the state's medical malpractice joint underwriting association (JUA) had built up a sizeable surplus and decided that, because the JUA was created by the state, the state could simply appropriate funds amounting to $110 million to balance the state's budget.

Not surprisingly, the association's policyholders challenged this in court, and a Superior Court judge issued a ruling in July that the law transferring the funds was unconstitutional. NAMIC has joined with the New England Legal Foundation in filing an amicus brief supporting the position of the JUA's policyholders who challenged the validity of the law.

Short-sighted practices

While these budgeting measures might be attractive to policymakers striving to close budget gaps, budgeting practices that place excessive and inequitable burdens on insurers are short-sighted. Although the immediate impact may be increased revenue for state coffers, the long-term impact of such actions cannot be ignored.

Hiking fees and assessments increases costs for insurers that are ultimately borne by businesses and individuals who purchase insurance. As such, it is not inaccurate to consider them a hidden tax assessed through the insurance mechanism. Meanwhile, raiding funds, in addition to being an illegitimate and possibly unconstitutional taking, means less security for the entities that the fund was meant to serve. Such actions also discourage the establishment of other funds that may be good solutions to public policy problems.

Such practices also fail to recognize that insurers already pay substantial amounts directly through premiums taxes. According to the Insurance Information Institute (III), insurance companies paid $15.7 billion in premium taxes in 2008, or $52 for every person living in the U.S.

Excessive fees, assessments and other practices also fail to recognize the vital role insurers play in the economy. Most significantly, they perform insurers' fundamental function of providing coverage that enables economic activity. In addition, they provide jobs amounting to approximately 2.3 million, III states. Insurers also have significance as investors, and they pay claims that allow individuals and organizations to continue functioning as productive members of society.

Political and fiscal realities are what they are, and insurer representatives expect to see more rather than fewer proposals in the 2010 legislative sessions to get money from the insurance system. In difficult fiscal times, however, policymakers should focus on ensuring the preservation of a healthy business environment rather than taking actions that could harm an industry that is a foundation of the economy.

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More states turn to insurers to plug budget gaps

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