What is the Cost of Solvency Compliance?
New York WC Self Insured Groups
The news out of the Empire State frequently includes big numbers. Sometimes that is good like a slugger’s batting average and sometimes it’s not like workers compensation claim costs. For self insured workers compensation groups, the numbers have been bad for quite awhile. The estimate of unfunded liabilities for all self funded groups is between $500 and $800 million. Big enough to cause the state’s regulators and legislators to take notice and get involved with litigation and new laws. Most recently, new self insured groups have been legislated out of existence and established self insured groups or trusts must satisfy new onerous reserve requirements. It should come as no surprise that when bad numbers are released or “put up” as they say in baseball, something will change. For New York’s 18 or so self insured groups, the change will make their insurance purchase more expensive from both a loss funding and compliance perspective. The subject of this article is the consideration of the best way to fund these higher costs going forward.
How Much For Compliance?
Regulators do not like unfunded claims or insolvencies no matter what kind of insurance facility made the claim payment promise. Generally, solvency oversight and management includes making sure there are funds on deposit to pay incurred and estimated claims. Audits of the claims and accounting functions also work to provide the regulator with some assurance the insurer can pay claims. Traditional insurers have incurred these regulatory oversight charges as part of their business for a long time. When these traditional solvency monitoring techniques are applied to the self insured trust, costs will necessarily go up.
How much will the new rules cost? A good estimate would be something close to what a primary insurer charges for fronting services. After all, the primary insurer’s cost to issue coverage includes reimbursement for the expense of assuring regulatory compliance. Considering that most of the new regulatory oversight requirements being imposed upon New York self insured groups are taken right from the regulator’s handbook, the costs of claim, premium and operation audits will most likely cost the self insured groups in added administration expense as much as 7% of premium.
These new solvency rules will also increase the required reserve funding for the self insured groups. SIGs will no longer be able to conduct insurance business with little or no surplus reserves. Capital contributions above incurred claims that are the norm for the traditional insurer will now become the rule for SIGs as well. The $500 to $800 million shortfall created by a few poorly managed SIGs will cause the others to reduce their premium writing leverage and contribute additional capital to assure the regulators there is a cushion should the reported claim or premium numbers prove inaccurate. How much, again a look to the traditional insurer marketplace may lend some guidance. New York like most states likes to see insurers with surplus capital equal to premium writings and certainly not less than one-third of the written premium. How many of the SIGs in New York have this level of surplus capital and how much is required to be contributed under the new solvency rules? We may find out over the next twelve months as many of the SIGs consider their existence and whether there is a better way.
Is a Group Captive a Better Way?
One of the primary objections when the trustees or other managers of a SIG, look at a captive arrangement is the added expense resulting from policy issuance by a fronting insurer. The 7% fronting fee is an added expense for a Group Captive program that typically makes a SIG more attractive from an administrative expense perspective. The benefits of multi-state policy issuance authority and financial responsibility have not been enough for these groups to move the Group Captive structure. Will this change under the new SIG laws in New York that essentially will make regulatory compliance akin to being a full-fledged admitted insurer? Some certainly believe so after reviewing the new rules of engagement in New York for existing self insured trusts.
The Group Captive offers most of the same benefits of a SIG along with a built in compliance program in the form of a regulated policy issuing company or front. Risk sharing, customized claims and loss control, experience underwriting and premium savings are all available from a Group Captive program. An added benefit to the Group Captive approach is capital and surplus demands that are more flexible and attractive than the state’s regulatory requirements of one to one or even three to one. Mix this benefit with the complexity and cost of claim, premium and operational audits and the 7% fronting fee looks like a bargain compared to the new regulatory environment for SIGs in New York.
Only time will tell as the New York laws are effective in the coming new year, but our estimate is that many of the SIGs will go away or move into an arrangement like the Group Captive. Why not, they would maintain the benefits of self insurance and be assured of satisfying the regulatory requirements at a fixed cost they probably cannot equal on their own.
Who is Roundstone?
Roundstone Management, Ltd. based in Westlake, Ohio is an insurance organization focused on the development, underwriting and servicing of insurance programs, including captives, rent-a-captives and other specialty insurance programs. Roundstone offers intermediaries and buyers an expertise in the captive and specialty program marketplace with an unbundled services approach.
Michael A. Schroeder is President of the Roundstone organization. Mike offers more than twenty years of insurance industry management experience with responsibilities in the captive market, self insurance pools and trusts, publicly held insurance companies and the regulatory environment. Mike is also a member of the Workers’ Compensation Committee of SIIA.