The surplus and surplus traces insurance coverage market is a rapidly-growing avenue for the position of insurance coverage insurance policies in the US.
Many alien (non-U.S.) insurance coverage carriers write surplus traces insurance coverage protection by way of their inclusion on the NAIC IID Quarterly Itemizing of Alien Insurers, and there was exponential development within the formation of “home surplus traces insurers” which can be U.S.-based insurers approved for the categorical goal of writing solely surplus traces insurance coverage.
Nevertheless, one of many principal obstacles to the position of insurance coverage insurance policies by surplus traces insurers has been the “diligent effort” or “diligent search” requirement imposed on surplus traces brokers. A situation in most states for putting insurance coverage by way of the excess traces market is the utilization of a surplus traces dealer that should first search the admitted marketplace for obtainable insurance coverage protection. Whereas some business members see this requirement as an antiquated hurdle of yesteryear, others view this requirement as important for shielding the normal, highly-regulated admitted market.
Within the outdated days, the excess traces market was historically deployed for bespoke, hard-to-place insurance coverage dangers, which presently embody cyber insurance coverage, representations and warranties insurance coverage for mergers and acquisition (M&A) transactions, and insurance coverage for cannabis-related companies.
Right now, nonetheless, the excess traces market additionally more and more helps danger exposures historically inside the purview of the admitted market, comparable to householders protection and business car insurance coverage (to the extent permissible beneath motorcar legal guidelines). As well as, the explosion of “insurtech” carriers and brokers has elevated the demand for app-based “on demand” binding of protection. As such, the diligent search requirement has change into extra vital to think about than ever.
This text identifies a number of of the regularly requested questions and areas of compliance deficiencies within the market that needs to be thought of when working a surplus traces brokerage agency or in any other case performing due diligence regarding the acquisition of a surplus traces dealer licensee.
Is the diligent search requirement nonetheless round in most states?
Sure, though many states include exemptions and some have eliminated it altogether. To our data, not less than 4 states (Louisiana, Mississippi, Virginia and Wisconsin) have eradicated the requirement. Furthermore, some states are starting to exempt surplus traces brokers from the diligent search requirement with respect to business dangers when a retail producer is concerned. For instance, in Illinois, beneath 215 In poor health. Comp. Stat. 5/445, a surplus traces producer might procure business traces protection by way of the E&S market with out conducting a diligent search of the admitted market “if the chance was referred to the excess line producer by an Illinois-licensed insurance coverage producer who is just not affiliated with the excess line producer.”
Are regulatory filings required to proof satisfaction of the diligent search?
In lots of states, sure. Some states, like New York, even require {that a} producing retail dealer, if within the chain of sale, full and signal a separate affidavit verifying the satisfaction of the completion of the diligent search requirement and file it with a state insurance coverage division or a surplus traces “stamping workplace” (though such affidavit is filed by the surplus line dealer in New York). Another states, in contrast, merely require that satisfactory data be maintained by the excess traces dealer evidencing satisfaction.
How can a declination be obtained?
Most states don’t direct surplus traces brokers as to how the declination should be obtained; for instance, New York’s required affidavits solely ask for the date of declination and the explanation why the dealer believes that the insurer would have thought of writing the protection. Florida’s “Assertion of Diligent Effort” kind expressly requires the attachment of any declinations obtained electronically, and plenty of states expressly acknowledge the permissibility of oral declinations obtained from a consultant of the insurer or the insurer’s agent, though the excess traces dealer ought to hold written data of those declinations as nicely.
Does the diligent search should be carried out every time a coverage is issued or renewed?
Some states expressly point out that the diligent search requirement be glad on a “per danger” foundation, together with every time an insurance coverage coverage is renewed. For instance, per steering promulgated by the Extra Line Affiliation of New York, “[a] diligent effort should be carried out for every coverage being positioned — a declination is probably not used for a number of insurance policies. Likewise, a brand new diligent effort should be undertaken upon the renewal of a coverage.” Equally, beneath steering revealed by the California Surplus Traces Affiliation, “[a diligent] search should be carried out on all new and renewal insurance policies (even when the insured needs to stay with the excess traces insurer).” In Florida, per Fla. Stat. § 626.916, “[d]eclinations should be documented on a risk-by-risk foundation.”
There may be enforcement historical past on this difficulty. For instance, beneath a 2018 New York consent order, the New York Division of Monetary Companies discovered {that a} surplus traces dealer “solely obtained declinations from three approved insurers as soon as yearly for a single coverage … after which relied upon the only annual declination with respect to all different insureds who acquired insurance policies” in violation of New York insurance coverage legal guidelines.
There are some states that do, nonetheless, enable for the diligent search to be “recycled” in restricted conditions. In Illinois, beneath 215 In poor health. Comp. Stat. 5/445, the place the excess traces producer has contracted to put “program” enterprise with a provider for insureds with comparable traits receiving comparable contract phrases, the diligent search want solely be carried out yearly reasonably than individually for every contract. In states that don’t expressly require that the diligent search be accomplished on a per-risk foundation, there’s an argument that recycling a search could possibly be applicable if there’s a affordable foundation to consider that admitted market availability has not modified, however such follow comes with regulatory compliance danger.
What number of declinations are required?
Many states expressly require that not less than three declinations be obtained from licensed insurers as an affordable proxy for demonstration that protection is just not available within the admitted market (though some states, like Ohio, require 5 or extra declinations), however that is solely a essential reasonably than enough situation in some states. For instance, in Florida, per ICR Bulletin 89-100 (April 11, 1989), the requirement to acquire three declinations is just not a most, however a minimal “stage of effort that should be exerted in an try to search out a certified provider.”
Some states require fewer or better variety of declinations relying on the kind of insurance coverage protection. For instance, Florida solely requires one declination regarding property protection for residential buildings which have a dwelling substitute price over $700,000. Then again, some states require extra declinations from danger swimming pools; in California, per Cal. Ins. Code § 1763.5, non-public passenger car protection should first be submitted to the California Car Assigned Danger Plan earlier than being exported to the excess traces insurance coverage market.
Some states don’t impose a minimal variety of admitted market declinations, and whereas this will likely at first blush seem to offer extra leniency for the excess traces dealer, such silence imposes a better burden in a number of states. For instance, in Maine, beneath Bulletin 457 (April 14, 2021), “doing a particular variety of inquiries doesn’t imply that the producer has fulfilled this requirement. Fairly, this can be a operate of many variables, together with for instance the kind of insurance coverage sought and the protection limits wanted.” In actual fact, in Maine, if the protection “exists within the admitted market” in any respect, the protection is just not exportable, “even when a producer is blocked from inserting an account with a certified insurer … .”
Can any licensed provider present a declination?
No, as many states require that the excess traces dealer have a “motive to consider” the licensed provider might write the protection. In New York, N.Y. Comp. Codes R. & Regs. tit. 11, § 27.3 contains the next as “causes to consider” that a certified insurer may contemplate writing the kind of protection desired: (1) latest acceptance by the insurer of comparable protection, (2) promoting by the insurer or its agent that the insurer is keen to think about comparable protection, (3) media communications indicating the insurer is keen to simply accept comparable protection, (4) communications with insurance coverage professionals, danger managers, commerce or surplus traces associations, or the New York Division of Monetary Companies that will point out the approved insurer may contemplate writing the protection, or (5) another legitimate foundation for making such resolution.
Moreover, per New York’s regulation, declinations from a number of approved insurers beneath frequent management won’t depend as a number of declinations except such insurers function as distinct and autonomous entities, and for underwriting functions, compete with one another for a similar sort of protection or class of insurance coverage. Moreover, in some states, comparable to West Virginia, protection is probably not positioned with a surplus traces insurer that’s an affiliate of a licensed insurer from which the declination has been obtained, see W. Va. Code § 114-20-4.
What variations between an admitted and a surplus traces insurance coverage coverage could also be used to justify a declination?
At the start, many states expressly state that worth (premium quantity) alone is just not a permissible motive for a surplus traces dealer to acquire a declination from a certified provider. As well as, a number of states establish different variations which can be inadequate to show a real declination. For instance, in California, a declination doesn’t qualify when the protection is artificially divided into a number of contracts for the aim of avoiding admitted market availability; nonetheless, if a portion of protection is really not obtainable within the admitted market and it may be proven {that a} surplus traces insurer will settle for the complete protection however not the rejected portion alone, the complete class of danger could also be exported solely with insurance coverage commissioner’s approval. See Cal. Code Regs. tit. 10, § 2137 and Cal. Code Regs. tit. 10, § 2138.
How is the diligent search glad for group insurance policies?
That is an space not addressed beneath most state insurance coverage codes; nonetheless, one state that provides categorical leniency is Illinois. Underneath 215 In poor health. Comp. Stat. 5/445, “[f]or a grasp coverage insurance coverage contract, a licensed surplus line producer might make the required diligent effort to acquire the insurance coverage from approved insurers yearly for the grasp coverage reasonably than individually for every insured that’s added through the coverage interval.” New York gives flexibility for some (however not all) varieties of teams, together with certificates issued by way of danger buying teams (RPGs) whereby declinations could also be obtained for all members of the group when protection is procured inside a 30-day interval (see N.Y. Comp. Codes R. & Regs. tit. 11, § 301.6). Sure different states fully exempt the excess traces dealer from the diligence search requirement as to protection issued to and thru RPGs.
There may be typically enhanced danger {that a} state would require a diligent search to be accomplished as to a member residing therein when the time period “dwelling state” is outlined for functions of surplus traces regulatory jurisdiction to incorporate members of teams that pay premium “from their very own funds” or comparable terminology, even when the grasp policyholder is positioned in one other U.S. jurisdiction. As well as, simply because the state the place the grasp coverage is issued might present leniency as to the diligent search requirement within the group context doesn’t imply that one other state the place a bunch member might reside will adhere to such relaxed method.
Who’s answerable for conducting the diligent search?
Many states enable a retail (non-surplus traces) dealer to conduct the diligent search, however this doesn’t essentially absolve the excess traces dealer from legal responsibility for the failure of a surplus traces insurance coverage placement to be supported by correct declinations. For instance, in Florida, per Bulletin 97-7 (June 16, 1997) “[s]urplus traces brokers should train prudent enterprise judgment when evaluating the reasonableness of the manufacturing agent’s assertion of diligent effort. Failure to take action might end in disciplinary motion, together with revocation of the agent’s license.” Against this, some states, comparable to Connecticut, put the burden solely on the retail agent (see Bulletin SL-4, July 25, 2013). Some states, on the face of their surplus traces statutes or in different steering, require that the excess traces dealer conduct the diligent search regardless of satisfaction by a retail dealer or different third social gathering.
Are there extra normal exemptions from the diligent effort requirement?
Sure. At the start, the Nonadmitted and Reinsurance Reform Act of 2010 stipulates {that a} surplus traces dealer is just not required to conduct a diligent search of the admitted market if the insured is an “exempt business purchaser,” assuming sure disclosure necessities are met. Some states have extra “industrial insured” exemptions that, in some conditions, additionally alleviate the position from different surplus traces regulatory requirements. Quite a lot of states keep “export lists,” that are compilations of coverages that the relevant commissioner has decided don’t have any admitted market availability. Surplus traces brokers can’t make this dedication on their very own; solely a state can affirmatively exempt such coverages by way of inclusion on their export lists.
These are simply a few of the many points to think about when striving to adjust to the excess traces diligent effort requirement throughout the assorted U.S. jurisdictions.
This text was first revealed on January 22, 2024. Copyright Insurance coverage Journal 2024.
