(This article was derived from a presentation at the Third Annual Target Markets Program Administrators Summit, which was held in October in Tempe, Arizona.)
PROGRAM administrators have a number of options for obtaining insurance for their programs. They can work with admitted or nonadmitted insurers in the customary fashion. They also can pursue "alternative market" mechanisms, like captives and rent-a-captives. Yet another option-and one we'll explore in this article-is to form a purchasing group.
Purchasing groups and risk retention groups were first authorized by the federal Product Liability Risk Retention Act of 1981. It permitted the formation of these entities for insuring product liability or completed operations risks. Five years later, Congress approved the Liability Risk Retention Act, which extended the concept to most commercial liability risks.
Risk retention groups essentially are captive insurance companies owned by the businesses or professionals the RRGs insure. A risk retention group is formed as a regular insurance company in one state. It is then free to operate like an admitted or nonadmitted company in all other states. Purchasing groups, on the other hand, are vehicles that allow multiple, homogenous risks to buy insurance from the traditional insurance marketplace on a group basis. The members of a purchasing group are required to be in similar trades or professions, and have similar or related risk exposures. Often managing general agents, program administrators and even retail agents organize and administer purchasing groups. They obtain insurers for the groups and sell coverage to prospects.
The federal laws, which were passed in response to insurance availability crises, were intended to make it easier for businesses to obtain coverage by exempting risk retention groups and purchasing groups from certain state insurance laws and regulations, including countersignature requirements and nonresident licensing requirements. The laws also were intended to free risk retention groups and the insurers of purchasing groups from state rate and form filing requirements (although that goal has not been entirely met). In the case of purchasing groups, the laws also preempted state "fictitious group" laws and statutes that barred the writing of property-casualty insurance on a group basis. (A carrier issues a master policy to a purchasing group; individual members then receive certificates of insurance affirming their coverage under the master policy.) It also was thought that by allowing members of a purchasing group to buy their insurance collectively, they would be more attractive to insurers than they would be if they were required to obtain insurance individually.
In the years since the passage of the Liability Risk Retention Act of 1986, state countersignature requirements and laws preventing agents from obtaining surplus-lines licenses in states in which they are not residents have pretty much disappeared (due to another federal law, the Gramm-Leach-Bliley Act). Purchasing groups still have their advantages, however, including relief in some states from filing rates and forms for groups that use admitted carriers. Purchasing groups also are free to use surplus-lines carriers without going through the usual hoops of seeking declinations from a few carriers admitted in the states in which the groups do business. They also can openly market the names of their surplus-lines carriers. All this makes doing business on a national basis with a surplus-lines company much easier.
Another advantage of a purchasing group is that it can give its administrator more control over its program. Many program administrators or MGAs work with association programs; such a program typically is "owned" by the association, which is free to bid it out whenever it wishes. But by creating its own purchasing group, a program administrator can control the program. It also can brand it and work to give it national recognition.
The rate of purchasing group formation has remained steady or even has increased over the years. One reason is that purchasing group programs can often be brought to the market relatively quickly. Assuming all the paperwork is in good order, 30% of the states will approve a purchasing group in 30 days, another 30% in 60 days and another 30% within 90 days (my "30-30-30 rule"). The remaining four or five states always seem to take considerably longer for one reason or another.
Rate and form relief
As previously mentioned, an admitted insurer for a purchasing group is free from rate and form regulation in many states. While this freedom is broad, it is not absolute. Purchasing groups using nonadmitted carriers do not have to file, except, perhaps, in the insurer's state of domicile. Many states have taken the position that a purchasing group insurer is exempt from filing. (Those states include Texas and Virginia, where filing is usually burdensome.) In other states, e.g., Oregon and Mississippi, purchasing group insurers file for information purposes only. For a purchasing group using a master policy and certificates (which some states could otherwise prohibit), I believe there is even greater availability for rate and form relief, with rates and forms ultimately required in as few as six states. In a purchasing group's state of domicile, I recommend that the purchasing group file everything that may be a part of the master policy and certificate-every endorsement used in every state, including all the standard amendatory endorsements for cancellation or nonrenewal.
Every insurance company has its own compliance procedures, which are part of its overall corporate culture. Some insurance companies take a very conservative approach to the issue. They feel they must file rates and forms in every state under all circumstances. Other carriers will take a more liberal approach and try to avoid filing wherever they believe that they rightfully can, and still others will fall somewhere in between.
Coverages allowed
The federal law allows a purchasing group to offer any kind of commercial or professional liability insurance, with a few exceptions: workers compensation insurance (referred to in the law as "employers liability insurance"), personal lines and first-party property coverage. The definition of "liability" under the federal law is expansive and is specifically designed to be broader than that in many state laws-and many groups have made good use of that flexibility. Consider employment practices liability. When EPL policies began to be developed in the early 1990s, some states maintained that the liability they were meant to address did not qualify under the Liability Risk Retention Act. These states had to be shown that employment practices liability was altogether different from employers liability, as defined in the federal law. Since employment practices liability insurance didn't even exist in 1986, when the Liability Risk Retention Act became law, the law could hardly have excluded it.
Insurers and purchasing groups
The Risk Retention Act imposes a few additional requirements on insurance companies. One is that they must track purchasing group business separately for financial reporting purposes. In their annual statements, insurers are required to disclose their total premium for each state and then separate out the amount derived from purchasing groups. Insurance companies need to code their purchasing group business so that these numbers are easily obtainable for the annual report. There is no minimum or maximum premium volume required by law for a purchasing group. In fact, the federal law preempts state minimum premium requirements. Some insurers, however, require a minimum of $500,000, $1 million or some other figure. If a purchasing group is projected to be stable at $200,000, it could be difficult to interest a carrier; however, a program starting at $200,000 with a substantial growth potential might well be of interest to a carrier.
Registration and premium taxes
A purchasing group must register in every state in which it plans to do business. Every state insurance department has forms for registration. Many states require an annual renewal or annual report. The registration fees run from nothing (e.g., Florida) to $500 (e.g., Alaska), with the average being $100. The renewal fees run from nothing (e.g., Michigan) to $200 (e.g., Wyoming), with the average again being $100. Only about half of the states impose a renewal fee. The cost to register a purchasing group in all 50 states is currently $5,286; to renew it nationwide costs $2,785.
In most states, everything an insured pays to a purchasing group must be considered as part of the premium-and the insurer must pay state premium taxes on the full amount. That includes the administrative fee, program management fee or broker fee that many program administrators levy. However, a membership fee to belong to an association or organization is not usually considered part of the insurance transaction. Many purchasing groups charge a membership fee (which is separate from premium and thus not subject to premium tax) and use these funds to pay for the administrative overhead (e.g., marketing), legal expenses, state fees or other costs associated with the formation and maintenance of a purchasing group.
While there are many other details to attend to in creating a purchasing group, this has been a brief overview of how such a group works. A purchasing group is not the answer for every program, but it can be just the right approach for an administrator looking to take a homogenous program nationwide quickly.
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