The term “service company” has several meanings because there has been no standardization of terminology in the service company area.

A service company in the property and casualty industry performs part of the self-insurer's administrative duties, including general administrative services and support services. The term third-party administrator (TPA) is often used to refer to all service companies. Usually, a TPA is able to do one or more of the following:

1.     Investigate, review, adjust, negotiate, and pay claims;

2.     File governmental reports; and

3.     Provide the self-insurer with periodic status reports. 

It is not necessary that a company have the authority to write claim checks in order to be a TPA. Not every TPA is able to provide every service.

In most states third party administrators are persons who handle transactions in connection with life insurance, health insurance, or annuities. This includes someone who:

1.     pays claims,

2.     collects premiums,

3.     maintains records, or

4.     sells coverage.

If coverage is solicited, a third party administrator must be a licensed resident agent or work with one.

The definition of third party administrator in some states, however, is not limited to the life, health, and annuity areas. In Ohio the definition includes a person who handles self-insurance programs. In Minnesota it includes persons who handle insured or self-insured plans for groups or individual employers in the areas of life, health, workers compensation, other liability, and property and casualty insurance. New Mexico 's definition is similar. In Missouri the definition of TPA includes a person who handles life, health, annuities, and workers compensation.      

Required Application and Related Forms. Every state that licenses TPAs requires an application to be completed. Some states also require biographical affidavits or surety bonds. Some may also require a background check, including fingerprints.

Special Taxes and Fees. All states charge a fee to obtain a TPA license or certificate. Some states require that certain employees of a TPA, such as managers, be approved or licensed by the state. When this occurs, fees that cover the cost of filing the application and checking fingerprints may be charged.

Definition of Administrator. The definition of a TPA varies by state. Usually, the definition does not include:

1.     insurers;

2.     employers;

3.     unions;

4.     insurance agents selling coverage;

5.     plans subject to the Employee Retirement Income Security Act;

6.     creditors acting on behalf of debtors with respect to insurance coverage on a debt;

7.     financial institutions subject to state or federal regulation;

8.     attorneys settling claims but not collecting charges or premiums; or

9.     licensed adjusters.

Records That Must Be Retained by Administrators. Some states divide the documents administrators are required to retain into two categories: (1) books and records and (2) agreements. When a state makes this type of distinction, books and records usually have to be maintained for five years from the date they are produced. Agreements between TPAs, insurers, and employers usually have to be kept for five years from the date the agreements are terminated.

Other states do not segregate books, records, and agreements into separate categories. They require that all documentation be maintained for five years from the time any relationship ends. (While most states require that books, records, and agreements be maintained for five years, a few states have a six year requirement. One state, Wyoming , has a three year requirement.)

Administrators also must maintain a fiduciary account for the deposit of funds. Administrators representing more than one insurer must maintain accurate records of deposits and withdrawals for each client (account). Claims usually cannot be paid from a general fiduciary account; separate claim accounts must be established for each client. Funds can then be transferred from the client's fiduciary account to its claim account.

Security or Bonding. Most states require that TPAs post security for their clients' funds. The amount of the security or bond required is usually the higher of a fixed dollar amount or a percentage of the funds handled during the preceding year. This may be a calendar or fiscal year. If no funds were handled in the previous year, the percentage is applied to the anticipated volume of funds the TPA will handle in the current year. The anticipated amount usually is an estimate provided by the applicant.

Initial Application and Renewal Requirements. Most states allow an applicant to apply on its own behalf. Wyoming , however, requires that a certificate of registration be sought by an insurer on behalf of the third party administrator.

Revocation and Suspension. In most states, a TPA's license cannot be revoked or suspended without a formal hearing and an opportunity for the administrator to present its case. License suspensions are automatically lifted after one year in some states, but suspensions can be continued at the discretion of the regulatory agency.

In addition to the power to revoke and suspend licenses, most state statutes give the regulator the right to levy fines against administrators for violations of statutes or improper conduct. Fines can be used in conjunction with license revocations or suspensions, or they can be imposed separately.

The following should be considered when selecting a TPA: certification; expertise; bonding; hold harmless agreements; overpayments and subrogation; information gathering and reports; service compensation; advertising; fiduciary accounts; and responsibility for TPA actions.

Certification. A TPA must comply with licensing requirements of the states in which it will operate for the self-insured. However, certification does not guarantee the service company is competent or financially sound. It does indicate, however, that the TPA is subject to governmental review and, in most cases, is bonded in accordance with state requirements.

Expertise. It often is difficult for an inexperienced self-insurer to evaluate a service company. Sound business practices call for a careful examination of the TPA's business record and performance. The TPA industry is one of the fastest growing segments of the self-insurance industry. Some companies have been in business only a few years and lack a track record to evaluate.

Nonetheless, it is prudent to ask for a client list. Clients should be contacted for recommendations. In addition, a potential self-insurer should check with other self-insurers in its industry about the TPA's reputation.

Size is less important than experience, client recommendations, and excess carrier approval. The company should be well-versed in the areas of coverage being self-insured. Self-insureds should meet the TPA staff that actually will handle the account before hiring the company. Flexibility to handle the self-insurer's unique needs, as well as information systems capabilities are very important attributes.

Bonding. Always use a bonded TPA. States that regulate service companies normally require a minimum bond. However, the amount of the bond should reflect the amount of business the service company handles. A TPA with a $500,000 bond handling accounts valued at $1 million may not be adequately bonded.

Hold Harmless Agreements. Any contract between a service company and the self-insurer should be reviewed carefully before being executed. The agreement should outline the services being provided and claim-handling guidelines.

Some TPAs include a hold harmless agreement in their contract. Self-insuring firms need not avoid hold harmless agreements at all costs, but they should scrutinize them carefully. The most unacceptable hold harmless agreements require that the self-insurer hold the TPA harmless for the service company's gross negligence.

Generally, only smaller service companies will agree to defend the self-insurer against third-party liability claims or to purchase liability coverage to protect the self-insurer. When a hold harmless agreement is not backed by insurance, it may be of little value. 

Large and medium-size service companies, as a rule, are not willing to defend the self-insurer against third-party actions or to list self-insured clients as additional insureds on their liability policies. However, such arrangement may be negotiated.

Overpayments and Subrogation. Any contract should stipulate which party will pursue overpayments and subrogation. Overpayments may occur when a medical provider submits several bills for the same procedure or when subsequent bills list current and previous charges. Medical utilization review and bill review may be important aspects of a TPA's role in the claim procedure. Outside utilization review and medical-bill review companies may be hired because they specialize in these areas. Certain lines of coverage have medical fee schedules, which cap payments for certain procedures. The TPA should adhere to these schedules. 

Overpayments can also occur when a health-care provider is paid for the same procedure by several parties. If the total payments exceed the cost of the service, one or more of the parties has the right to be reimbursed for part of its payment. Finally, overpayments occur when health-care providers charge for services they did not provide.

Subrogation arises more often in property and casualty cases. The self-insurer may pay a claim to an injured party and then be granted his or her right to take legal action against a third party who was at least partially responsible for the injury. State laws often establish which line of insurance is primary. For example, an employee may be injured in an auto accident while working. State law may or may not set the priority of coverage between auto and workers compensation in such situations. In situations with a clear at-fault party who has auto insurance, the law in most states allows the workers compensation carrier a lien on any proceeds paid to the injured worker by that auto insurer. The issue is less clear when the injured worker collects uninsured or underinsured motorists benefits under his own policy.

Few states laws either specifically allow for such recovery or specifically prohibit such recovery. In those states, courts have had to examine the subrogation language in the state codes and in the policies in question.

New Hampshire , for instance, is a state where the workers compensation insurer is entitled to a lien on any UM/UIM benefits an injured worker may obtain.

As mentioned above, most state codes do not address this issue directly. In Alabama, a court ruled that a workers compensation insurer could recover a UM/UIM settlement “to the extent the employee's receipt of uninsured motorist benefits would otherwise result in a double recovery” (Jackson v. Weaver, 516 So. 2d 702 ( Ala. App. 1987)).

New Jersey , on the other hand, allows a recovery by the workers compensation insurer of UM/UIM benefits paid under a policy purchased by the employer (Montedoro v. Asbury Park, 416 A.2d 433 (N.J. Super. 1980)). North Carolina courts have ruled that there is no distinction between a policy purchased by the employer and one purchased by the employee. Thus, North Carolina also allows recovery by a workers compensation insurer of such payments (Buckner v. City of Asheville, 438 S.E.2d 467 (N.C. App. 1994)).

There are, also, states where the statutes prohibit recovery by a workers compensation insurer of UM/UIM benefits. In Florida , the statute specifies that UM/UIM coverage may not benefit a workers compensation insurer. In Volk v Gallopo, 585 So. 2d 1163, (Fla. App. 1991), the court ruled that a workers compensation insurer was entitled to a pro-rata recovery because of a third-party tortfeasor's inadequate coverage or an employee's comparative negligence. It went on to rule that UM/UIM carrier was not such a tortfeasor.

Service contracts vary on the issues of overpayment and subrogation. Contract guidelines should establish how overpayments and subrogation rights will be pursued and how much the service company will charge for such efforts.

Information Gathering and Reports. A service company should be able to give the self-insurer the data it needs in an acceptable form. Many companies want both hard copy and a computer database, although electronic delivery is becoming more prevalent. Specific reports to be provided should be listed in the service contract. Online systems often provide access to the database so that the self-insured can generate its own reports.

In most states where TPAs are regulated, all contracts and records must be maintained by the TPA for up to five years after the relationship between the TPA and the self-insurer has ended. It also is mandatory that TPAs maintain fiduciary claim accounts, which are separate accounts for handling clients' claim funds.

Service Compensation. As with the purchase of any product or service, one should be extremely cautious when considering a service company with a cost that is too low. The first cost factor considered should be the method of compensation. General services are frequently billed as a flat fee. Claim services, on the other hand, are usually billed in one of the following ways:

1.     a flat charge for each claim handled;

2.     a percentage of paid (or incurred) claims;

3.     a fixed fee; or

4.     a combination of 1, 2, or 3.

The flat fee usually results in adequate handling of basic services, such as setting up a file and making an initial effort to settle a claim. However, it does not encourage a firm to handle claims quickly or to pay close attention to complex claims, since the flat fee does not respond to unusual efforts.

The flat charge per claim encourages a service firm to handle claims quickly so that it can get paid. Unfortunately, if a service company focuses on handling claims quickly without paying attention to quality control, the self-insured can find that claim costs rise. This can occur, for example, because too much may be paid by the service company for small claims and too little investigation and attention may be provided on large claims. In the latter case, claim handling may result in higher awards.

If compensation is based on a percent of the claim amount, a service firm usually will pay closer attention to claims. However, this method of payment may encourage an increase in reserves and payments because payment is based on them.

Another item to consider is how long the TPA is responsible for individual claims. Some contracts specify that a flat fee per claim is paid in exchange for a finite period of time, such as two years. In this type of arrangement, the TPA handles the claim for two years. If it remains open at the end of that time, either an additional fee must be paid or another TPA must be hired to take it over. Other contracts, which may include a higher fee, may provide cradle to grave claim handling. In this arrangement, the TPA handles the claim from when it is initiated until it is closed. When long-term exposures are being handled— such as general liability or workers compensation—cradle to grave arrangements often are preferred.

The self-insured usually must provide the TPA with sufficient funds from which to pay claims. The claim-payment fund is replenished as claims are paid.

State statutes often control the method of payment for TPAs. Most laws stipulate that TPAs cannot charge a fee based solely upon claim experience. However, this rule would not prohibit a compensation system based upon the number of claims paid. Incentives designed to encourage superior service may be built into TPA contracts. The theory behind such systems is that they ultimately will save the self-insured money because fewer claims will escalate into problems.

Advertising. A self-insurer should not allow a TPA to use its name in advertising or promotional material without prior review and approval. Most states that regulate TPAs require that they obtain approval from insurers before advertising an insurer's program.

Fiduciary Accounts. States usually require TPAs that handle funds to maintain a fiduciary account for the funds. A TPA with more than one client must keep separate records of each client's deposits and withdrawals. However, separate bank accounts are not required for each client.

It is preferable to have a fiduciary claim account from which to pay claims, separate from the general fiduciary account. Transfers are then made from the general fiduciary account to the fiduciary claim account and claims are then paid from there. Confusion over the expenditure of funds is avoided by having a detailed record of the source of the money for each claim and to whom such money was paid.

Responsibility for TPA Actions. Self-insurers that use a TPA should consistently monitor its activities. The failure of a service company to properly handle a claim could expose a self-insurer to liability regardless of any provisions to the contrary in the service agreement.

Insurance companies know from experience the costs that can arise from the failure to handle claims promptly and fairly, especially if punitive damages are imposed by a court. Consider the case of Aetna Life Insurance Company v. Lavoie, 505 So. 2d 1050 ( Ala. 1987). Aetna contested the payment of a hospital claim on the grounds that it was not medically necessary. Aetna also denied payment for some procedures which it claimed were not usual and customary based on the attending physician's diagnosis. As a result, Aetna paid $1,579.74 of a $3,028.25 bill.

An Alabama jury found that Aetna had acted in bad faith. The plaintiff was awarded the amount of the medical bills plus $3 million in punitive damages. The case was heard four times by the Alabama Supreme Court and went all the way to the U.S. Supreme Court, which found that one of the Alabama Supreme Court justices had a conflict of interest. Despite this, the Alabama court ultimately denied all appeals and the verdict was upheld.

There are several important aspects to the case. First, partial payment by Aetna did not prevent a finding of bad faith. Second, the plaintiff was allowed to give testimony about his poor financial condition, influencing the jury's decision about the amount of damages. Third, one of the major points in the finding of bad faith by the courts was that Aetna denied the claim without reviewing complete medical information. The Alabama Supreme Court said:

“It is conclusive evidence that, at the time the first of the four denials was made of the Lavoies' claim, Aetna had no legal justification for denial of the claim at all, having established by its own testimony that a medical opinion is required in order to properly deny such a claim, and the evidence clearly and convincingly shows that such a medical opinion was not obtained before the denial was made.”

TPAs can be vulnerable to third-party suits when providing services for a self-insurer. The case law in this area is divided.

In Fred S. James & Company of Georgia, Inc. v. King, 288 S.E.2d 52 (Ga. App. 1981), a Georgia court ruled that it saw “. . . no logical reason why a service company which is responsible for the administration of a self-insured employer's workers compensation program should not be included under the umbrella of immunity provided by the [Workers Compensation] Act”. Thus, the service company was protected, as was the employer, from employee suits.

In Gallichio v. Corporate Group Service, Inc., 227 So. 2d 519 (Fla. App. 1969), however, a Florida court ruled that a service company was not protected by the immunity provided by the Longshore and Harbor Workers Compensation Act to the employer in regard to performing safety inspections.

An unpleasant situation also can arise for a self-insurer should its TPA be sued by an employee. If the case is won by the employee, the workers compensation immunity enjoyed by the self-insurer would not protect it against a suit by the service company. However, terms of the service contract could alleviate this potential problem.

Advertising. When a third party administrator works with an insurer, states generally require that advertisements produced by the TPA be approved by the insurer. This is a desirable practice for the TPA because it reduces the possibility that the insurer will claim that its product was misrepresented. It is desirable for the insurer because it protects against the possibility that the TPA might make false or inflated claims about the insurer's products.

Fees and Payments. Many states stipulate that the payment received by a TPA cannot be based on the amount of claims paid. This is important to insurers and employers because TPAs whose pay is based on the value of claims paid might be tempted to inflate claim payments.

Payment Responsibility. Many states' statutes say that employer or employee payments to a TPA for an insurer are assumed to have been received by the insurer; that is, the insurer is assumed to have constructive receipt of the funds. However, if an insurer makes payments to a TPA for an employer or an employee, the reverse is not true. The employer or employee generally does not have receipt of payments until they are actually received. This is very important to insurers; even when insurers make payments, their liability is not satisfied until the employer or employee actually receives the funds.

Accreditation. The National Association of Insurance Commissioners (NAIC) established a program to evaluate the caliber of regulation provided by a state's insurance department. If a state meets the following criteria set by the NAIC, it becomes an approved state under the NAIC accreditation program. These are listed on the NAIC's Web Site, http://www.naic.org:

1.     Adequate solvency laws and regulations in each accredited state to protect insurance consumers.

2.     Effective and efficient financial analysis and examination processes in each accredited state.

3.     Appropriate organizational and personnel practices in each accredited state.

As of November, 2009 all fifty departments had been accredited by the NAIC.