The landscape for the alternative risk-transfer market is both exciting and perilous, as interest in ART continues unabated for "traditional" captives of single parents and associations–used for ever-expanding transactional and market gap needs.
Association captives have shown tremendous growth, particularly for construction and health care risks. Although this growth is helpful for commerce, it is apparent that regulatory and tax structures are struggling to deal with it.
Over the past few months, the U.S. General Accountability Office has weighed in on risk retention groups, the Internal Revenue Service has requested comments on four specific areas of risk finance, and the National Association of Insurance Commissioners has held several discussions about proper regulation. While these are all worthwhile and challenging issues, they all will change the face of risk management–some with unintended consequences.
As an industry participant at the ground level in consulting, formation and management of alternative solutions, it's my observation that some of these regulatory ventures are subject to differing agendas and expectations. When a private business determines that a captive is the most cost-effective structure by which to finance a particular risk, for example, there exists no universal or comprehensive set of governing rules or guidelines.
Certainly domiciles that license captives have rules, laws or guidelines. Those that do not, however, struggle with how to distinguish captives. If a state does not grant licenses to RRGs, how then does its regulatory structure recognize an RRG wishing to do business in the state?
The convergence of these regulatory events has brought to attention the critical importance of arriving at a set of rules recognizing the need to protect policyholders, shareholders and any members of the public who may be exposed to the insured transaction. Serious consideration should be given to developing a general agreed-upon set of regulations for captives and RRGs–and there should be two separate sets.
While examples can be given of failures of captives and RRGs that cost money and caused grief and aggravation, this is the case with any insurance structure. What's more, the failure of a half-dozen RRGs does not begin to compare to the failure of a major traditional carrier in terms of time expended to deal with claims and monies owed in unearned premiums.
Even as regulation strives to deal with new structures using old rules, so does the traditional market struggle with the changing face of risk.
The never-ceasing quest of the plaintiff's bar causes many, if not all, traditional carriers to stay away from construction defect coverage in certain Western states, while the same goes for health care liability in the American Medical Association's 21 "hot" states. This is a natural and expected consequence of a free market.
We also can expect continued withdrawing of coverage in coastal storm zones–perhaps this is a need that can be addressed by the alternative market? We can't blame the shareholders of a publicly held insurer for wanting to avoid unmanageable losses.
While it's well and good to lay down rules for reinsurance and capitalization and transparency of ownership and governance, at the end of the day the commercial aspects cannot be ignored. The builders must build, and the doctors heal and treat. Lenders want homes insured, hurricane zone or not.
When doctors, clinics or hospitals determine the only economic, workable course of action is to finance their own risk, with their own capital and resources, and they still are unable to find any reinsurance, should they stop practicing medicine? (This, by the way, is a far more frequent occurrence than the collapse of an RRG.)
While rules are circulated and promoted for regulating RRGs, they do not always clarify the differences and needs of doctors financing their own liability through an RRG, or a Fortune 100 company isolating exposures on a single transaction through a captive. They are both treated the same under the regulations, and this should not be.
Much good and serious work is being done by regulators around the country, and it should continue. Members of the public, third-party investors and policyholders unrelated to the ownership and management of the alternative structure have a right to be protected and enjoy confidence in the regulation. Members of the ART community should work with regulators as they face these challenges.
Commerce won't shut down because State "D" will not accept policies from an entity in State "X." I submit that what should be placed foremost is the rapidly changing face of risk–driven by technology, finance and innovation.
The inability of regulators to reconcile perfectly legitimate and appropriate accounting standards should not be a bar to obtaining needed coverage. Commerce will find a "fix"–which the regulators will then have to confront. We all need to work together to find new and better ways to face our risks.
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