17th May 2017
Risk Retention Group (RRG)
A Risk Retention Group refers to a limited-liability association whose only persons comprising membership are those in a “risk” engaged in similar business activities to which members are exposed by virtue of any similar, common trade, product, services or operations. See 15 USC § 3901(4)(A-E). A risk retention group is a creation of federal statute. See 15 USC § 1301-1305. Risk retention groups are not full-fledged-multi-lines insurance companies. Risk retention groups are limited operations providing coverage only to member companies and only for a narrow group of coverages. [60 Drake Law Rev. 67, fn. 28] In contrast, first part property of third party liability policies are non-statutory private agreements between insureds and insurers. These private policies may be limited by legislative action or court decisions. They do not arise from nor are they a product of legislative enactments. See discussion § P120 PUBLIC POLICY [§ P120:1], [§ P120:3 – § P120:8].
The regulation of insurance is a matter generally left to the states, and most insurance companies must be certified by the regulating agency in each state in which they wish to offer insurance. Compare § I45 INSURANCE COMMISSIONER [§ I45:2 Commissioner’s authority to adopt rules and regulations]. But federal law affords some nationwide regulation of risk retention groups (RRGs), which are, in essence insurance cooperatives through which members can self-insure. In 1981, Congress enacted the Products Liability Risk Retention Act (PLRRA) to encourage for formation of risk retention groups for manufacturers who needed product liability insurance at affordable rates. See Public Liability Risk Retention Act of 1981, Pub. L. No. 97-45, 95 Stat. 949. In 1986 Congress enacted the Liability Risk Retention Act (LRRA) to expand the benefits of the PLRRA to other companies in need of insurance. [Restoration Risk Retention Group, Inc. v. Ross (2016) 2016 W.L. 9208615, page 2] Under the LRRA, an RRG must be chartered in at least one state, where it will be subject to that state’s insurance regulation. But once chartered in its home state, RRG can offer insurance to its members in other states, subject to certain register and disclosure requirements. The federal law however preempts most state regulations of RRGs, but with exceptions. [Restoration Risk Retention Group, Inc. v. Ross (2016) 2016 W.L. 9208615, page 2] Under an exception to federal preemption, the LRRA allows a state, as part of its financial responsibility to its state citizens, to “… include or exclude insurance coverage obtained from … a risk retention group. See 15 USC § 3905(d). Additionally, the so-called least power exception allows the states to impose financial responsibility requirements:
“Subject to the provisions of § 3902(a)(4) of this title relating to discrimination, nothing shall be construed to preempt the authority of a State to specify acceptable means of demonstrating financial responsibility where the State has required a demonstration of financial responsibility as a condition for obtaining a license or permit to undertake specified activities. Such means may include or exclude insurance coverage obtained from an admitted insurance company, and excess lines company, a risk retention group, or any other source regardless of whether coverage is obtained directly from an insurance company or through a broker, agent, purchasing group or other person.” [15 USC § 3902(a); see discussion Restoration Risk Retention Group, Inc. v. Ross (2016) 2016 W.L. 9208615, page 5, approving state laws requiring dwelling contractors to demonstrate financial responsibility by having either a bond or an insurance policy issued by a company authorized to do business in the state of Wisconsin.]
Under this exception to preemption, state law may prohibit risk retention groups from selling reimbursement insurance policies to automobile dealers. [National Warranty Ins. Co. RRG v. Greenfield (2000) 214 F. 3d 1073 (9th Cir. construing and upholding an Oregon statute imposing such limitations)]
Pursuant to such commercial concerns, states also resisted the expansion of RRGs to policies covering commercial property. [60 Drake Law Rev. 67, 92]
California Insurance Guarantee Association; “non-coverage” for RRGs
A risk retention group is exempt from any state law requiring or permitting a risk retention group to participate in any insurance insolvency guaranty association to which an insurer licensed in the state is required to belong. [15 USC § 3902(a)(2)] In accordance therewith, California Insurance Code designated as the Foreign Risk Retention Group required policies issued by a risk retention group contain a notice which states:
This policy is issued by your risk retention group. Your risk retention group may not be subject to all of the insurance laws and regulations of your state. State insurance insolvency guaranty funds are not available for your risk retention group.” [Ins. Code § 132(g)]
The purpose of Congress excluding participation in state guaranty funds set up by state governments to provide assistance to claimants in the event of the insured’s insolvency, was that such ban would encourage RRGs to set and establish adequate premiums and reserves because there would be no other source of funds to pay claims. [60 Drake Law Rev. 67, 72]
If a nonadmitted surplus lines company becomes insolvent, its insureds are not protected by the California Insurance Guarantee Association (CIGA). [Ord & Norman v. Surplus Line Assoc. Of California (1995) 38 Cal. App. 4th 1276, 1278]
State concerns regarding RRGs’ financial conditions
As of 2011 financial reports reflect that RRGs generate over $2.5 billion in annual premiums in addition to insuring a wide range of businesses, including a significant portion of the healthcare entities. [60 Drake Law Rev. 67, 70]
California, like many other states, impose financial requirements on insurers seeking approval to do business and sell policies in California. See § C7 CAPITAL REQUIREMENT OF INSURERS IN CALIFORNIA. In California risk retention groups must submit to the Commissioner information about its business, states in which the group is chartered, a copy of its plan of operations, registration filing fee accompanying the statement of registration, a requirement that any group’s annual financial statement be submitted to the State, copies of any audits performed outside the state, and that the risk retention group is subject to taxation. [Insurance Code § 132(a)(b)(c)] For obvious reasons, RRGs are attracted to states requiring minimal capital and surplus requirements engaging in lax supervision of policy forms. This has led to a regulatory environment characterized by widely varying state standards and limited regulator confidence in the system. A 2011 GAO report recognizes that lower capitalization requirements continue to be a factor in regard to the domicile of RRGs. States have little ability to protect insureds outside the domiciliary stage affected by the RRG’s insolvency. [60 Drake Law Rev. 67, 71] For these reasons including the lack of guaranty fund protection for RRGs, regulators express concern regarding the financial stability of RRGs. [60 Drake Law Rev. 67, 98] Additionally, potential purchaser of RRGs may not be advised specifically of one of the main reasons for excluding RRGs from statutory guaranty funds which is: “First risk retention groups are not full-fledged multi-lines insurance companies, but limited operations providing coverage only to member companies and only for a narrow group of coverage”.
Due to the fact that RRGs are not approved insurers in California, such insurance can only be sold by “surplus-lines-brokers”. A surplus line broker is a broker authorized to transact business with insurers that are not admitted to do business in California. See § S127.06 SURPLUS LINE BROKERS [§ S127.06:1 In general].
◆ OBSERVATION: Before placing coverage with a non-admitted insurer, a surplus lines broker must attempt to place coverage with an insurer admitted to do business in California. [Insurance Code § 1763] See also § N21 NONADMITTED INSURER [§ N21:1].
References in bold are to Mr. Cornblum’s text CALIFORNIA INSURANCE LAW DICTIONARY AND DESK REFERENCE, 2017 Edition, published by ThomsonReuters (1-800-344-5008 to order 3-Volume text).