Vermont’s New Law Seeks to Attract Runoff Businesses

By Young Ha | February 18, 2014

A new law in Vermont would soon authorize the state to license and regulate specialized Vermont-based companies whose only purpose would be to assume and manage closed blocks of non-admitted commercial insurance policies and reinsurance agreements.

The legislation, Vermont’s Legacy Insurance Management Act (H. 198), passed the state House last year and passed the state Senate two weeks ago. Gov. Peter Shumlin, who has been a vocal supporter of the bill, is scheduled to sign it into law on Wednesday, Feb. 19. While this type of transfer mechanism is new to the U.S., it’s a well-known concept in overseas markets, according to industry observers.

Gov. Shumlin’s administration has been bullish on this bill, which has been three years in the making. In his budget address on Jan. 15, Gov. Shumlin offered a glimpse of the new industry, describing it as a new opportunity for Vermont’s financial services sector.

‘A New Opportunity’

“This year, we have a chance to get a jump start on a new opportunity. The Legacy Insurance Management Act – called LIMA – creates specialized Vermont-based insurance companies that help other companies consolidate policies and redeploy capital,” Shumlin said in his budget speech.

“This could be the next success in our efforts to serve as a specialized global financial services destination,” Shumlin said. “Patterned after Vermont’s captives sector, LIMA would add tax revenue and skilled, well-paying financial jobs.”

The bill also includes protections for the policyholders. It requires the companies assuming the closed blocks of non-admitted commercial insurance policies and reinsurance agreements to provide “direct written notices” to all policyholders and reinsurance counterparties and allow them to opt out of the transfer transactions.

Vermont Gov.: 2013 Was a Terrific Year for Captive Insurance

Where Vermont makes its money is that these new runoff companies will be based in Vermont. These companies will be charged 1 percent of the first $100 million of the gross liabilities transferred and 0.5 percent of gross liabilities transferred in excess of $100 million, said Vermont state Rep. Warren Kitzmiller (D), one of the sponsors of the bill.

“The idea is, there are many commercial lines of insurance that companies no longer sell. I’ve always used the example of a company that may have insured asbestos mines or other businesses that were a going concern back in the ’60s or ’70s. A company may have a block of policies still on its books that have a very long tail,” Kitzmiller said.

“And I should emphasize that these are only blocks of commercial policies. These are not personal lines at all,” Kitzmiller added. “These are sophisticated companies. They are perfectly capable of protecting themselves and they will come to an agreement on what the prices should be for transferring blocks of these policies to new companies.”

“There are also fees on doing the paperwork. And we get Vermont companies that have employees and attorneys and have meetings, so there is that economic benefit to the state as well,” Kitzmiller explained. “I would like to think it will be successful. It’s a concept that’s very familiar to much of the European Union, especially in Germany, Italy and England.”

“We think it’s a good idea because we can understand why companies would want to relieve themselves of these old contingent liabilities that may never amount to a new claim,” Kitzmiller said. “But they are sitting there on their books as a liability and they would like to be rid of them at some point.”

Under the bill, the commissioner of the Vermont Department of Financial Regulation would review the assuming company’s solvency before and after the implementation of the proposed transfer of closed legacy insurance business. The commissioner would also review the assuming company’s ability to comply with all requirements of the policies and inward reinsurance agreements, including the assuming company’s capacity regarding the administration of claims.

Industry Reactions

“Basically, what you have is a new process in which closed books of business will be run off by a dedicated entity that would be based in the state of Vermont,” said Frank O’Brien, vice president of state government relations at the Property Casualty Insurers Association of America. O’Brien said the insurance industry, PCI and others, initially had a number of concerns with the measure when it was first introduced.

“Indeed, we opposed it vigorously,” O’Brien said. But over the course of the legislative process, a number of changes were made regarding the bill’s scope, notice requirements and the regulatory overview that would be imposed by the Vermont Department of Financial Regulation. And it came to a point where eventually PCI no longer opposed the bill, he said.

“What remains to be seen is, whether the business model envisioned by this will indeed be something that is viable and produce economic developments in Vermont,” O’Brien said. The next step after the bill signing is the development of regulations by the Vermont Department of Financial Regulation. “We intend to monitor and participate in the process,” he added.

O’Brien said PCI members with the knowledge of similar mechanisms in other countries have told him the results overseas have been mixed. “Quite frankly, my members have told me that there have been mixed results from this. The Vermont concept is based on the concept that has been in place in Europe and I believe in other parts of the world as well,” he said. “The experience has been mixed, so we will wait and see. I think what will happen is that the companies will take a wait-and-see attitude. Some may take advantage of it. Some may not. We will just have to see how it develops.”

O’Brien also said it is interesting that Vermont is taking an entrepreneurial view in the insurance industry. “And while we did have some concerns with the legislation, it certainly is encouraging when a state seeks to enhance its insurance sector,” O’Brien said.

Gary Henning, vice president for state affairs for the Northeast region at the American Insurance Association, said that although AIA is still leery of anything that incentivizes the creation of runoff companies, AIA is appreciative of the work the Vermont legislature and the Vermont Department of Financial Regulation did to improve this bill since it was first introduced in 2011.

For AIA and its member companies consisting of primary insurers, one important revision was the inclusion of the op-out provision for policyholders and reinsurance counterparties from transfer transactions. If a reinsurer plans on transferring a closed book of reinsurance business to a runoff company under this new law, the primary insurers that would be affected by that transfer have an absolute right to opt out of that transfer and stay with the original reinsurer, AIA noted.

“AIA believes that through the amendments to this legislation, enough protections for insurers and reinsurers are present in the legislation so that we can remain neutral,” Henning said. “AIA has confidence that the Department of Financial Regulation will do a good job regulating these entities.”

An industry participant who declined to be identified also said one of the concerns is that the newly licensed runoff companies would have a finite amount of capital, with no means to raise new capital or redirect capital from other operations if something unforeseen happens, and that the companies may or may not be able to meet all of the liabilities.

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