December 15, Public Input on the Report to Congress on How to Modernize and Improve the System of Insurance Regulation in the United States

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1 VIA ELECTRONIC SUBMISSION Mr. Michael McRaith, Director MT Pennsylvania Avenue, N.W. Washington, D.C Re: Public Input on the Report to Congress on How to Modernize and Improve the System of Insurance Regulation in the United States Dear Mr. McRaith: The National Risk Retention Association ( NRRA ) welcomes this opportunity to submit comments on how to modernize and improve the system of insurance regulation in the United States, specifically as it relates to the regulation of risk retention groups ( RRGs ) pursuant to the Liability Risk Retention Act, 15 U.S.C et seq. ( LRRA ), and relevant state laws. Background Founded in September 1987 as a 501(c)(6) non-profit trade association, NRRA represents RRGs and purchasing groups before legislative bodies, executive agencies, and the courts. NRRA advocates the interest of its members, which include 69 RRGs, pertaining to the correct interpretation of the Product Liability Risk Retention Act of 1981 ( PLRRA ), Pub.L. No , 95 Stat. 949 (1981), as amended by the LRRA. Its central mission is to promote RRGs as a practical, economical, efficient and financially sound option for providing liability insurance to RRG member insureds. The NRRA has participated in federal court litigation on behalf of the RRG industry both as a party, e.g., Nat l Risk Retention Ass n v. Brown, 927 F. Supp. 195 (M.D. La. 1996), and as an amicus curiae, e.g., Alliance of Nonprofits for Ins. RRG v. Barratt, No (9th Cir. Notice of Appeal filed July 22, 2011); Alliance of Nonprofits for Ins. RRG v. Barratt, No. 02:10- cv (D. Nev. July 22, 2011) (order granting summary judgment in favor of RRG); Auto Ventura Blvd., Suite 1055 Encino, CA (800) Ext. 102 Fax: (800)

2 Page 2 Dealers Risk Retention Group, Inc. v. Poizner, No (E.D. Cal. Mar. 7, 2008) (order granting preliminary injunction); Attorneys' Liability Assurance Soc y, Inc. v. Fitzgerald, 174 F. Supp.2d 619 (W.D. Mich. 2001); Charter Risk Retention Group Ins. Co. v Rolka, 796 F. Supp. 154 (M.D. Pa. 1992). NRRA also regularly represents the interests of RRGs through direct contact with state regulators. In the last two years alone, the NRRA advocated for RRGs in Nevada, Connecticut, North Carolina, Oklahoma, Oregon, and Texas. Advocacy and education of non-domiciliary states is a core NRRA function, and NRRA has served this role since its inception in The LRRA Scheme of Regulation The premise of the LRRA regulatory structure is the concept of lead state regulation under which the RRG s state of domicile has full authority under its laws to regulate the RRG and non-domiciliary states are limited in their regulatory authority. See 15 U.S.C Solvency Regulation. Like traditional commercial insurers, RRGs are primarily subjected to solvency regulation by their states of domicile. The state of domicile is the state where the insurer or RRG is chartered and where the insurer or RRG's financial information is filed and examined. A traditional commercial insurer cannot issue insurance in any state other than its domicile unless it is licensed by such other state. In order to become licensed, the insurer has to pass the standards imposed by the non-domiciliary state for solvency, market conduct, management, and other matters that may vary from state to state. By contrast, an RRG does not need to be licensed to provide insurance in a nondomiciliary state. The LRRA offers an alternative system of solvency and market conduct regulation, which is, in part, based upon the premise that RRGs consist only of similar or related businesses which are able to manage and monitor their own risks U.S.C. 1 As stated in the Report of the Committee on Energy and Commerce: Because risk retention groups will be providing insurance coverage only to their members, and not to the public at large, it is believed that regulation by the chartering jurisdiction will be sufficient to provide adequate supervision of these groups. In addition, regulation by a single commissioner is essential to the elimination of duplicative and conflicting regulatory requirements of different states.

3 Page (a)(f). An RRG must file with the non-domiciliary state a plan of operation or a feasibility study which includes the coverages, deductibles, coverage limits, rates, and rating classification systems for each line of insurance it intends to offer before it may offer insurance in that state. 15 U.S.C. 3902(d). It must also provide any revisions to such plan or study, Id., and a copy of its annual financial statement, which must be certified by an independent public accountant and contain a statement of opinion on loss and loss adjustment expense reserves. Id at 3902(d)(3). If a non-domiciliary state believes that it needs further information to determine the financial condition of the RRG, it can request the information from the state of domicile. See NAIC Risk Retention and Purchasing Group Handbook III-3. If the non-domiciliary state believes that an examination is required, it may request that the state of domicile conduct such an examination. If the state of domicile refuses or fails to do so, the non-domiciliary state can conduct such examination so as long as it is coordinated to avoid unjustified duplication or repetition. 15 U.S.C. 3902(a)(1)(E); see NAIC Risk Retention and Purchasing Group Handbook III-3. In addition, a non-domiciliary state commissioner has the authority to obtain an order from a state or federal court with competent jurisdiction to enjoin the solicitation or sale of insurance by, or the operation of, a risk retention group that is in hazardous financial condition or is financially impaired. 15 U.S.C. 3902(e)(2). Further, any such order issued by a U.S. District Court is binding upon the RRG and its officers, agents, and employees throughout the United States. Id. at This is broader authority than a non-domiciliary state commissioner has against a conventionally licensed insurer. Solvency regulation was given a great deal of thought by the drafters of the LRRA, as evidenced by the extensive discussion in the legislative history. 2 H.R. Rep. No , at 12 (1986), citing S. Rep. No , at 13 (1981). 2 The Committee intends for the framework established under the bill to strike a balance between the risk retention groups need to [be] free of unjustified requirements and the public s need for protection from insolvencies. The 1986 Act contains several different provisions regarding remedies to deal with financially troubled risk retention groups. Section 7 of the 1986 Act (added by Section 9 of the bill) provides that Federal courts can issue injunctions with nationwide effect stopping the operation of a group that is in hazardous financial condition. Section 3(e) of the 1986 Act (added by Section 7 of the bill) states that a Federal or State court can enjoin the solicitation or sale of insurance by, or operation of, a group in hazardous financial condition or financially impaired. Section 3(a)(1)(E) and (F) of the 1986 Act

4 Page 4 Market Conduct. The breadth of the exemption from the law of non-domiciliary states is clearly set forth in Section 3902(a). In the words of the U.S. Court of Appeals for the Eleventh Circuit: The authority of a non-domiciliary state to license and regulate risk retention groups is largely preempted Congress carefully drafted a scheme which, on the one hand, provided for broad preemption of a non-domiciliary state s licensing and regulatory laws but which, on the other hand, explicitly preserves those states several very important powers. State of Fla. Dept. of Ins. v. Nat l Amusement Purchasing Group, Inc., 905 F. 2d 361, (11 th Cir. 1990). (amended by Section 5 of the bill) provides that a State may conduct a financial examination if the chartering State has not initiated one and may require compliance with an order in a delinquency proceeding if there has been a finding of financial impairment. Section 3(a)(1)(H) of the 1986 Act (added by Section 5 of the bill) provides that a State may require compliance with an injunction based on a finding of hazardous financial condition or financial impairment. It is the Committee s intent that upon a finding by a court of hazardous financial condition any State may obtain an injunction without first meeting the prerequisites for a financial examination or of finding financial impairment stated in Section 3(a)(1)(E) and (F). This is in keeping with the Committee s intent to provide nonchartering States with a remedy before financial impairment or insolvency occur. Subject to the terms of Section 3(f)(1) of the 1986 Act (regarding enforcement) as added by Section 8(A) of this bill, the States retain all their powers and procedural authority in seeking to address the financial condition of risk retention groups. In addition to their ability to order that a risk retention group cease operation, the States and the Federal courts also retain the flexibility in an injunctive action dealing with hazardous condition or financial impairment or in a delinquency proceeding, to impose requirements on a risk retention group with respect to its liabilities and assets so that deficiencies can be corrected. Orders in such proceedings may be limited or conditional. For example, such an order may prohibit the operation of the group until certain deficiencies are corrected. It should be noted that, except as otherwise specifically provided in the 1986 Act, in dealing with the financial condition of a risk retention group, the chartering State retains all the powers and authority provided under the chartering State s laws, including the authority to apply the standards that the State employs in delinquency proceedings. H.R. No , at (1986).

5 Page 5 To summarize, an RRG is subject to all applicable laws of its state of domicile, but is only subject to those non-domiciliary state laws that are specified in the LRRA. See 15 U.S.C The list of applicable non-domiciliary state laws includes unfair claim settlement practices laws, assessment of premium and other taxes, participation in mandatory assigned risk plans, registration of an agent solely for purposes of service of process, financial examination under specified circumstances, compliance with a lawful order issued in a delinquency or dissolution proceeding, compliance with deceptive, false, or fraudulent acts or practices requirements, compliance with a court injunction determining operation in a hazardous financial or financially impaired condition, and providing a specified notice regarding the regulation of RRGs. Id. at 3902(a). Taxation. As noted above, a non-domiciliary RRG is subject to any applicable premium and other taxes which are levied on admitted insurers and surplus lines insurers, brokers, or policyholders under the laws of the State, which are assessed on a nondiscriminatory basis. Id. at 3902(a)(1)(B). While the state of domicile of the RRG is not restricted by this language and can impose fees or assessments to support the cost of regulation or other purposes, a non-domiciliary state is limited to the assessment of taxes. Case law has well established that non-domiciliary states do not have the authority to charge fees. Nat l Risk Retention Ass n. v. Brown, 927 F. Supp. 195 (M.D. La. 1996), aff d. without opinion, 114 F. 3d 1183 (5 th Cir. 1997) (application and policy form review fees prohibited); Attorneys Liability Assurance Soc y v. Fitzgerald, 174 F. Supp. 2d 619 (W.D. Mich. 2001) ( regulatory fee of.5% of premium in addition to 2% premium tax preempted). The National Association of Insurance Commissioners ( NAIC ) has not only acknowledged this conclusion of law but has admonished the states to have counsel review their state law assessment provision to determine their permissibility under the LRRA. 3 3 REGISTRATION AND OTHER FEES The LRRA enumerates the powers of non-domiciliary states when they are dealing with risk retention groups from other jurisdictions. The relevant portion of the LRRA for purposes of determining whether states can charge registration and other fees provides as follows: any State may require [a risk retention group] to pay, on a nondiscriminatory basis, applicable premium and other taxes which are levied on admitted insurers and surplus lines insurers 3902(a)(1)(B). This language used in the LRRA does not specifically mention or authorize non-domiciliary states to charge fees.

6 Page 6 Regulatory Concerns in Non-Domiciliary States As discussed above, the LRRA established a regulatory structure that would vest domiciliary states with primary regulatory powers with limited exceptions granted to nondomiciliary states. Despite the narrow exceptions, non-domiciliary state regulators have repeatedly, and at great cost to RRGs, exceeded their authority to regulate non-domiciliary, or foreign, RRGs. Additionally, some domiciliary states have misinterpreted provisions of the LRRA, including the definition of liability and impermissible taxes and fees. See e.g., Auto Dealers Risk Retention Group, Inc. v. Poizner, No (E.D. Cal. Mar. 7, 2008). Although federal courts have addressed some of these issues, application of those court decisions and the provisions of the LRRA remain inconsistent. Registration Requirements Violating the LRRA. The most common and clearly egregious non-domiciliary state violation of the LRRA is the imposition of registration requirements for foreign RRGs beyond those delineated in the LRRA. These practices not only violate the express terms of the LRRA but also undermine the congressional intent to simplify nationwide operations for RRGs. Under the LRRA, in order to do business in a non-domiciliary state, a risk retention group is only required to submit to that non-domiciliary state a filing containing the information Most courts draw distinction between taxes and fees. It is likely that any court reviewing a state law assessment to determine whether it is a tax or a fee preempted under the LRRA would apply federal common law principles. Under federal common law principles, the distinction between a tax and a fee is usually determined by the purpose for the assessment and power to impose it. Generally, taxes raise revenue, are involuntary and may be, but are not always, based on the income or volume of business conducted by the taxpayer in the jurisdiction. Fees, on the other hand, are charged for a particular governmental service that directly benefits the payer, are voluntary (i.e. one can choose whether to use the service) and are collected to compensate the governmental entity providing the services. The distinctions listed above are not exclusive and whether a given assessment is a tax or a fee is not always obvious. The court in the recent case of NRRA v. Brown found that the LRRA does not authorize a non-domiciliary state to charge fees. The court in that case held that non-domiciliary states could not assess annual, application or policy form review fees against a risk retention group domiciled in another state. Given the language in the LRRA and this most recent case, States are urged to have counsel review their state law assessment provisions to determine their permissibility under the LRRA. Even if the assessment is considered to be a tax it must be levied on a nondiscriminatory basis to be permitted under the LRRA. NAIC Risk Retention and Purchasing Group Handbook (March 1999), II-7.

7 Page 7 delineated in Section 3902(d) of the LRRA. 4 Those items are limited to copies of the RRG s business plans and annual financial statement as submitted to the RRG s domicile state. Id. The LRRA expressly and broadly preempts any other non-domiciliary state regulation unless it falls within one of the specified exceptions to preemption under Section 3902(a)(1). Id. at 3902(2). The exceptions to preemption relate primarily to unfair trade practices, premium taxes, registration of an agent, injunctions from a court of competent jurisdiction, and a notice on policies informing policyholders that the RRG may not be subject to all of the insurance laws of the state and is not a member of the state guaranty fund. Id. at 3902(a)(1). Despite these provisions of the LRRA, many states currently impose a variety of filing, fee, response to impermissible information requests, and approval requirements on nondomiciliary RRGs. For instance, the California Department of Insurance requires foreign RRGs to (1) wait 60 days after delivery of its registration filing before it may commence operation in the state, (2) file a recurring annual registration renewal, (3) pay registration ($898) and renewal ($300) fees, (4) submit additional information as conditions for the Department s approval, and (4) make changes to documents filed and approved in the RRG s domiciliary state before the Department will approve the RRG s registration in California. The registration process for foreign RRGs in California may take one to three years to complete. Alabama, Alaska, Louisiana, North Carolina, and South Carolina each require an initial registration and/or renewal fees of $1000 or greater. 4 (d) Each risk retention group shall submit.... (2) to the insurance commissioner of each State in which it intends to do business, before it may offer insurance in such state (A) a copy of such plan or study (which shall include the name of the State in which it is (B) chartered and its principal place of business); and a copy of any revisions to such plan or study as provided in paragraph (1) (B) (which shall include any change in the designation of the State in which it is chartered); and (3) to the insurance commissioner of each State in which it is doing business, a copy of the group s annual financial statement submitted to the State in which the group is chartered as an insurance company U.S.C. 3902(d).

8 Page 8 Florida employs one of the most extensive registration processes by requiring responses to multiple rounds of 4-7 page requests and inquiries, including requests to file policy forms, marketing materials and other documents already approved by domicile states. Foreign RRGs are also required to appoint Florida agents and pay related appointment fees. California and Michigan have each attempted to deny foreign RRG registrations on the basis that the RRGs do not provide liability insurance as defined under the LRRA, even though their domiciliary states had deemed otherwise. See, e.g., Attorneys Liability Assur. Soc y, Inc. v. Fitzgerald, 175 F. Supp. 2d 619 (W.D. Mich. 2001); Auto Dealers Risk Retention Group, Inc. v. Poizner, No (E.D. Cal. Mar. 7, 2008) (order granting preliminary injunction). Aside from erring substantively on their interpretations of the LRRA s definition of liability insurance, the states fundamentally violated the limit on non-domiciliary regulation under the LRRA. These practices violate the LRRA. Two federal court decisions expressly concur with this position: Attorneys Liability Assurance Society, Inc. v. Fitzgerald, 175 F. Supp. 2d 619 (W.D. Mich. 2001) and National Risk Retention Association v. Brown, 927 F. Supp. 195 (M.D. La. 1996). In Fitzgerald, the court rejected a non-domiciliary state s attempt to regulate foreign RRGs. First, the court found that the state improperly concluded that the foreign RRGs did not qualify as RRGs under the LRRA. Fitzgerald, 175 F. Supp. 2d at Secondly, the court found that the LRRA preempted a regulatory fee which the non-domiciliary state attempted to assess against foreign RRGs. Id. at 636. Specifically, the court found: The LRRA s purpose would be thwarted if every state could exact a regulatory fee... from non-resident risk retention groups.... Congress could have provided an exception for non-chartering states to collect a fee, over and above allowing collection of premium taxes. But it did not, which requires the conclusion that the regulatory fee was preempted. Id. Thus, the court recognized the importance of limiting the regulatory powers of nondomiciliary states as Congress intended under the LRRA. In Brown, the non-domiciliary state attempted to impose requirements not specified in Section 3902(d) of the LRRA as conditions for the registration of foreign RRGs. The conditions included a required minimum capital and surplus of $5 million, posting of funds or a bond of $100,000 with the commissioner, and an annual submission of a plan of operation along with a

9 Page 9 $1,000 examination fee. The court held that the non-domiciliary state exceeded its authority over foreign RRGs: The burden imposed by the application process for a non resident risk-retention group is broader than is allowed by the LRRA. Section 3902(d) sets out the documents which are to be submitted to the insurance commissioner in the state in which it intends to do business but is not chartered.... risk retention groups are exempted from any further requirements under Section 3902(a)(1). Brown, 927 F. Supp. at 201. Accordingly, unless a specific regulatory power has been conferred upon a non-domiciliary state under the LRRA, Section 3902 prohibits the non-domiciliary from directly or indirectly regulating the RRG. Additionally, the National Association of Insurance Commissioners ( NAIC ) recognizes that non-domiciliary states cannot utilize the registration process to regulate RRGs beyond the scope that the LRRA permits. 5 The Handbook also prohibits the assessment of fees. 6 Numerous states consistently ignore the NAIC s own publication for RRGs on regulatory compliance. 5 Section II, 2.(a), of the NAIC s Risk Retention and Purchasing Group Handbook (rev. 1999) (the Handbook ), states: Section 3902(a)(1)(D) of the LRRA provides that any state may require that a RRG doing business in the state register with and designate the insurance commissioner of each state in which it does business as the group s agent for the purpose of receiving service of legal documents or process. Registration is intended to provide states with an orderly mechanism to identify RRGs operating within their borders. Registration is not intended to provide non-chartering states with any regulatory powers over RRGs other than that provided in the LRRA. (emphasis added). 6 Specifically, regarding fees, the Handbook, provides: The relevant portion of the LRRA for purposes of determining whether states can charge registration and other fees provides as follows: any State may require [a risk retention group] to pay, on a nondiscriminatory basis, applicable premium and other taxes which are levied on admitted insurers and surplus lines insurers 3902(a)(1)(B). This language used in the LRRA does not specifically mention or authorize non domiciliary state to charge fees. Handbook, Section II.A.4, at 7. This same section of the Handbook notes the Brown decision and advises:

10 Page 10 Discriminatory Practices Violating the LRRA. Another prevalent and critical issue facing foreign RRGs is discriminatory practices, usually relating to whether or not foreign RRGs are authorized insurers. The LRRA expressly prohibits states from discriminating against RRGs. 15 U.S.C. 3902(a)(4). Discriminating parties often cite Section 3905(d) as permitting discrimination to further the showing of financial responsibility. However, the plain language of the statute is contrary to this position: Subject to the provisions of [15 U.S.C. 3902(a)(4)] relating to discrimination, nothing in this Act 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. Id. at 3905(d) (emphasis added). Because the provision is subject to the provisions of Section 3902(a)(4), any means of demonstrating financial responsibility must not discriminate against RRGs. This issue has been addressed by federal courts in Oregon, Pennsylvania, and Nevada, and is currently pending, once again, before the Ninth Circuit Court of Appeals. In National Warranty Insurance Company RRG v. Greenfield, 214 F.3d 1073 (9th Cir. 2000), cert. denied 531 U.S (2001), the U.S. Court of Appeals for the Ninth Circuit held that the LRRA preempted provisions of the Oregon Service Contract Act which unlawfully discriminated against RRGs by requiring automobile dealers to obtain liability insurance from a member of the Oregon Insurance Guaranty Association. 214 F.3d at Because RRGs are prohibited by federal law from being members of state guaranty associations, the law effectively excluded RRGs from providing liability insurance to automobile dealers. Importantly, Greenfield held that the state may exclude coverage from a particular RRG if it can show that a particular RRG is financially unsound or otherwise dangerous to those who The court in the recent case of NRRA v. Brown found that the LRRA does not authorize a non domiciliary to charge fees. The court in that case held that non- domiciliary states could not assess annual, application or policy form review fees against a risk retention group domiciled in another state. Given the language in the LRRA and this most recent case, States are urged to have counsel review their state law assessment provisions to determine their permissibility under the LRRA. Id. (emphasis in original).

11 Page 11 rely on insurance purchased pursuant to Oregon Service Contract Act, but it may not categorically exclude coverage from all RRGs. Id.; see also Charter Risk Retention Group Ins. Co. v. Rolka, 796 F. Supp. 154, 159 n.6 (M.D. Pa. 1992) (denying state regulator s motion to dismiss and noting that 15 U.S.C. 3905(d) permits a state to exclude a particular RRG if it fails to meet conditions of financial responsibility but discrimination against all RRGs violate the anti-discrimination provisions of the LRRA). Therefore, a state may not uniformly exclude RRGs from providing coverage based on whether it is authorized or registered to do business in the state. Despite the courts in Greenfield and Rolka correctly interpreting the LRRA and the congressional intent behind the LRRA, other courts have incorrectly decided similar issues and deemed the Greenfield and Rolka decisions to be non-binding. See, e.g., Ophthalmic Mutual Ins. Co. v. Musser, 143 F.3d 1062, 1070 (7th Cir. 1998); Mears Transport. Group v. Dickinson, 34 F.3d 1013, 1019 (11th Cir. 1994). These conflicting precedents have resulted in inconsistent and incorrect interpretations of the LRRA both in and outside of the 7th and 11th Circuits. One such instance is in Nevada, where Alliance of Nonprofits for Insurance, RRG v. Barratt, Case No. 2:10-cv (D. Nev. July 22, 2011) (order granting RRG s summary judgment), where the Nevada Division of Insurance ( NDOI ) improperly relied upon Musser and Mears to bar Alliance of Nonprofits for Insurance Risk Retention Group ( ANI ) from providing first-dollar statutory auto liability insurance to its non-profit members in Nevada. Although ANI, which is domiciled in Vermont, had been properly registered as a foreign RRG in Nevada and providing first-dollar auto liability insurance to its member insureds since October 18, 2001, on or about April 2010, the NDOI began excluding ANI from its list of authorized insurers 7 permitted to provide first-dollar insurance. As a consequence, ANI s members could not register their vehicles because they did not have the required insurance from an authorized insurer. Soon, ANI received a notice from NDOI prohibiting it from providing first-dollar auto insurance, and after a hearing, NDOI, relying upon Musser and Mears, entered a Cease and Desist Order, barring ANI from providing first-dollar auto insurance unless it used a fronting authorized insurer to operating. ANI appealed the decision to the federal district court. Not only did NDOI fail to sufficiently distinguish the binding precedent set by the Ninth Circuit Court of Appeals in Greenfield, but it also reversed its position after ANI had been providing first-dollar auto insurance in Nevada for nearly nine years. The monetary and irreparable reputational damage to ANI is indisputable. 7 Pursuant to Nevada law, an authorized insurer must hold a Certificate of Authorization from NDOI. NRS 679A.030.

12 Page 12 After hearing cross-motions for summary judgment, on July 22, 2011, the U.S. District Court for Nevada issued an order granting the RRG s motion for summary judgment, permanently enjoining NDOI from enforcing its cease and desist order, finding that the LRRA preempted Nevada law to the extent that it bars all non-domiciliary RRGs from providing firstdollar auto liability coverage in the state, and awarding ANI attorney s fees pursuant to 42 U.S.C Unfortunately, NDOI and the State of Nevada elected to protract the monetary and operational toll of this legal action by immediately appealing the decision to the Court of Appeals for the Ninth Circuit. The appeal is currently pending. C. Cease and Desist Orders In many cases, such as the ANI and Auto Dealers Risk Retention Group, the nondomiciliary state regulator enforces its position by entering an administrative cease and desist order against the RRG. This is clearly in violation of the LRRA, which requires that the regulator seek an injunction in a federal or state court of competent jurisdiction. See 15 U.S.C. 3902(f)(2). Congress contemplated that a non-domiciliary state might want to challenge the conduct of an RRG and mandated the method by which such a challenge could be made. See Id. at 3902(e), (f), and (g). Section 3902(g) is a savings clause that asserts that nothing in this chapter shall affect the authority of any State to bring an action in any Federal or State court. Id. at 3902(g). Section 3902(f) addresses State Powers to Enforce State Laws. It also is a savings clause that preserves any state s authority to make use of any of its power to enforce its laws with respect to which a risk retention group is not exempt under this Act. Id. at 3902 (f)(1). However, if the state is seeking an injunction, the injunction must be obtained from a federal or state court of competent jurisdiction. Id. at 3902 (f)(2). Section 3902(e) specifies that the LRRA does not limit the ability of a federal or state court to enjoin the solicitation or sale by an RRG that is in hazardous financial condition or is financially impaired. Id. at 3902(e)(2). A cease and desist order is an administrative injunction. Section 3902(f) clearly requires that if a state is to challenge an RRG, it cannot do so by way of a state administrative order but rather must do so by a proceeding in a state or federal court. Accordingly, state regulators who enforce their interpretations of the LRRA through cease and desist orders do so contrary to the requirements of the LRRA. As a consequence, RRGs must endure the additional expenditure of participating in an administrative hearing as well as federal court action.

13 Page 13 Effect of Impermissible Non-Domiciliary State Regulation. The financial impact of state regulatory practices on RRGs has been substantial. According to a 2009 survey by The Risk Retention Reporter, an industry journal, for an RRG operating in all states, the annual cost for registration fees is approximately $9,300, and the cost is $8,500 for annual renewal, filing, and/or other fees. Impact on Risk Retention Groups of State Encroachment of Liability Risk Retention Act Preemptions, The Risk Retention Reporter, Jan. 2009, at 8. One RRG reported in the survey that it has lost approximately $1 million in states where it has been required to use a fronting company because states have refused to register it as a foreign RRG on the grounds that the LRRA did not permit the type of liability coverage the RRG offered. Id. at 8-9. Moreover, states that impose approval and requirements beyond the scope of the LRRA force RRGs to incur significant compliance and legal costs to satisfy individual state regulators demands. The results of the Risk Retention Reporter s survey, which received responses from captive managers representing 118 RRGs, demonstrate that state regulatory violations of the LRRA are prevalent. Sixty-one percent of survey respondents reported that states had overreached by attempting to directly or indirectly regulate the operation of the RRG. The responses indicated that 39 states engage in some form of overreaching, with California, Florida, Massachusetts, Texas, Kentucky, Louisiana, and North Carolina being the most frequently cited overreaching jurisdictions. Legal Actions Regarding the Regulation of RRGs As discussed above, several legal actions have been taken by and against RRGs, particularly relating to non-domiciliary regulations. NRRA was party to National Risk Retention Association v. Brown, 927 F. Supp. 195 (M.D. La. 1996). As discussed above, in Brown, the Louisiana Commissioner of Insurance attempted to impose requirements, such as minimum capital and surplus amounts, for foreign RRGs beyond the registration requirements outlined in the LRRA. The court held that the LRRA preempted the Louisiana statutes, which were more expansive than permitted under the LRRA. Brown, 827 F. Supp The affected statutes were declared null and void, and the court enjoined the Commissioner from imposing any requirements on foreign RRGs beyond those allowed under the LRRA. Id. NRRA has served as amicus curiae in the following cases: Alliance of Nonprofits for Ins. RRG v. Barratt, No. 02:10-cv (D. Nev. currently pending), The case involving the exclusion of an foreign RRG for not being an authorized insurer is summarized above and decided in favor of the

14 Page 14 RRG. An appeal by the non-domiciliary regulator is currently pending in the Court of Appeals for the Ninth Circuit. Auto Dealers Risk Retention Group, Inc. v. Poizner, No (E.D. Cal. Mar. 7, 2008) (order granting preliminary injunction). This case, also discussed below, involved a non-domiciliary regulator rejecting the registration a properly chartered RRG on the basis of not being liability insurance as defined under the LRRA. The court entered an extremely favorable order to the RRG, granting its motion for a preliminary injunction. Due to unaffordable legal costs, the RRG had to withdraw from the legal action and use a fronting carrier in the state to provide insurance. Attorneys' Liability Assurance Soc y, Inc. v. Fitzgerald, 174 F. Supp.2d 619 (W.D. Mich. 2001). In Fitzgerald, a non-domiciliary state regulator (1) asserted that a properly chartered RRG did not provide liability insurance as contemplated by the LRRA and (2) required foreign RRGs to pay regulatory fees of one half percent on direct business for risks located in the state. The court held that based on legislative history and plain language of the LRRA, the RRGs were entitled to be RRGs and that the LRRA preempted the regulatory fees. Fitzgerald, 174 F. Supp.2d at 632, 634, 636. Ophthalmic Mutual Ins. Co. v. Musser, 143 F.3d 1062, 1070 (7th Cir. 1998). In Musser, Wisconsin required all medical malpractice insurance to be provided by a licensed insurer, for which foreign RRGs did not qualify. The court erroneously held that the Wisconsin statute (1) was within the proof of financial responsibility measures permitted by non-domiciliary grounds under the LRRA and (2) did not violate the LRRA s non-discrimination provisions because the state did not intend to discriminate against RRGs. Musser, 143 F.3d at 1068, As explained in Greenfield, this holding is contrary to both the plain language of the LRRA and congressional intent evidenced in the legislative history. Charter Risk Retention Group Ins. Co. v Rolka, 796 F. Supp. 154 (M.D. Pa. 1992). In Rolka, non-domiciliary regulator prohibited RRG from providing commercial auto insurance because it did not possess a certificate of authority from the non-domiciliary regulator, as required under the state s Public Utility Code. The court held that the Public Utility Code provision is preempted by the

15 Page 15 LRRA because it violated the Act s non-discrimination provisions. Rolka, 796 F. Supp. 154, NRRA did not participate in Mears Transport. Group v. Dickinson, 34 F.3d 1013, 1019 (11th Cir. 1994). In Mears, an RRG, which provided liability insurance to for-hire passenger transportation companies and its members brought a lawsuit against the State of Florida because the state refused to provide the member insureds with their financial responsibility certificates on the basis that a Florida statute required owners and operators of for-hire passenger transportation vehicles to obtain insurance from insurers who are members of the Florida Insurance Guaranty Association. All RRGs are barred by the LRRA from joining state guaranty associations. See 15 U.S.C. 3902(a)(2). The court incorrectly concluded that the provision did not discriminate against RRGs and is aimed at protecting the public; therefore, the requirement was permissible. Mears, 34 F.3d at Differences in Oversight and Regulation of RRGs Compared to Other Insurers and Implementation of Change in the Past Five Years The primary distinguishing aspect in regulating RRGs compared to other insurers is that they are largely only regulated by one state the chartering state. This was a purposeful aspect of the LRRA to promote the establishment of RRGs without cumbersome 50-state regulations. See 15 U.S.C. 3902(a)(1). As discussed below, the NAIC, in conjunction with the states and the industry, has made great strides in responding to the criticisms of state regulation in the 2005 GAO Report. Specifically, the Report recommended: In the absence of a federal regulator to ensure that members of RRGs, which are federally established but state-regulated insurance companies, and their claimants are afforded the benefits of a more consistent regulatory environment, we recommend that the states, acting through NAIC, develop and implement broadbased, uniform, baseline standards for the regulation of RRGs. These standards should include, but not be limited to, filing financial reports on a regular basis using a uniform accounting method, meeting NAIC s risk-based capital standards, and complying with the Model Insurance Holding Company System Regulatory Act as adopted by the domiciliary state. The states should also consider standards for laws, regulatory processes and procedures, and personnel that are similar in scope to the accreditation standards for traditional insurers.

16 Page 16 U.S. Gov t Accountability Off., Risk Retention Groups, Common Regulatory Standards and Greater Member Protections Are Needed, GAO (Aug. 2005). The NAIC has responded to all these challenges, as well as to the issue of corporate governance and control to make certain that RRGs are controlled by their members. All of this has been accomplished through the amendment of the NAIC State Accreditation Standards. Following the issuance in 2005 of the General Accountability Office s Report on RRGs, 8 the NAIC appointed two working groups the Risk Retention (C ) Working Group and the Risk Retention (E) Task Force. Over the course of the next several years, these groups worked hard to first study the regulation of RRGs in light of the GAO s analysis and then to develop model rules and accreditation standards which would improve their regulation. The Working Group finished its efforts first and adopted corporate governance standards. The full C Committee has recently agreed to examine the method by which those standards should be implemented. The Task Force engaged in a much more lengthy process and recently completed its review and proposed amendment of the Part A, B, and C accreditation standards in the context of RRGs. NRRA was a very active participant in all of these activities, including the NAIC quarterly meetings and interim conference calls. While the efforts of both the Working Group and the Task Force will have the effect of enhancing the consistency of RRG regulation by the states, there has been no effort to include within the accreditation standards any requirement that the non-domiciliary states conform to the Act. This request was presented to the NAIC in a letter from NRRA dated August 11, The response of the chair of the NAIC Risk Retention Group Task Force was that the accreditation process was designed to facilitate insurer solvency and not to regulate or even set standards for non-domiciliary state regulatory decision making. Therefore, the NRRA request was denied. This response by the NAIC clearly establishes the limits of the NAIC to control the behavior of state regulators. In brief, it has none. The NAIC is a voluntary body with no governmental authority over its members. Its only power is the power to deny "accreditation" to a state. Its unwillingness to even consider sanctioning a non-domiciliary state by assessing a demerit against its accreditation score demonstrates that the NAIC has neither the power nor any interest in addressing this common problem. 8 Risk Retention Groups: Common Regulatory Standards and Greater Member Protections are Needed (GAO , August 15, 2005).

17 Page 17 Proposed Amendments to the LRRA to Improve Regulation of RRGs In both the 110th and 111th Congresses, legislation was introduced that would change the LRRA. The most recent bill which has been introduced into the 112 th Congress, the Risk Retention Modernization Act (H.R. 2126) has three principal components: federal dispute resolution, expansion of coverage to commercial property and corporate governance. A federal agency-based dispute resolution process would facilitate uniform application of the LRRA and promote economic efficiency for all RRGs, but most effectively for relatively small-sized RRGs which populate a large portion of the industry. Due to high monetary and business costs associated with legal actions and appeals, many RRGs are forced to comply with requests and requirements that violate the LRRA. For example, in Auto Dealers Risk Retention Group, Inc., the court granted the plaintiff, Auto Dealers RRG, Inc. ( AD-RRG ) a preliminary injunction against the Commissioner of Insurance of the State of California (the Commissioner ). AD-RRG, which was properly domiciled in Montana as an RRG, filed the action after the Commissioner denied AD-RRG s notice of registration in California and issued a Cease and Desist Order on the basis that AD- RRG had not established that it was licensed exclusively as a liability insurance company and that its stop-loss insurance policies were not liability insurance as set forth in the LRRA. In its decision favoring AD-RRG, the court rejected the Commissioner s defenses and found, [T]he structure and purpose of the LRRA seemingly do not allow such second-guessing by a nonchartering state. Rather the LRRA provides that only the chartering state may regulate the formation and operation of an RRG. Case No , Mem. Op. at 15. Despite the overwhelmingly favorable opinion entered in favor of AD-RRG, the RRG had to withdraw its action against the Commissioner before a permanent injunction could be entered due to escalating costs of litigation against the state government. The RRG estimated that it would have had to spend $1 million to reach a final order. Subsequent to withdrawing the lawsuit, the RRG was forced to move to a fronted insurance program for its stop-loss coverage. Notably, the LRRA is a statute without any federal agency oversight. The only oversight of any sort that can occur is a Congressional oversight hearing. For all the reasons noted above, the only ways to reign in the non-domiciliary states which choose to ignore or misinterpret the federal law are: (1) persuasion (which NRRA has been working on since 1987) and (2) litigation. The latter tends to be so expensive and time consuming that it is rarely an adequate remedy. In fact, even when a court has entered a decision favorable to RRGs, non-domiciliary

18 Page 18 states have construed the decision narrowly, ignored it, or dismissed it as being binding only in the federal district or circuit in which it was issued. Accordingly, the creation of rulemaking authority regarding RRGs in the Treasury may be the only efficient way to deal with the trouble created by non-compliant non-domiciliary states. In regard to one of the other two issues addressed by H.R. 4802, please see the discussion of expansion to commercial property below. The issue of corporate governance has already been discussed in the context of NAIC activity. The benefit of corporate governance standards in federal law would be the creation of true (and enforceable) uniformity across state lines. Potential Risks and Benefits of Extending the LRRA to Commercial Property Insurance The potential benefits of allowing RRGs to provide commercial property insurance in addition to commercial liability insurance are significant. Numerous RRGs have gained the expertise to underwrite the complex liability risks of businesses, charities and medical practices and certainly have the skills necessary to do the same for the commercial property risks. As a line of insurance, property has a shorter "tail" (generally one year instead of multiple years for liability) and comparable, if not better, predictability. Property claims, however, can be substantial in size. This issue can be dealt with by the state of domicile, which can impose an increased capital requirement, lower policy limits, or reinsurance designed to attach at lower than normal levels and / or prevent catastrophic loss (e.g., "stop loss" reinsurance). These regulatory "tools" are standard for state regulators. Under the LRRA, the solvency of the RRG will remain the duty of the state of domicile, which will be well prepared to deal with these issues. Conclusion Congress intent in enacting the Product Liability Risk Retention Act in 1981 and then amending it in 1986 is absolutely clear: to allow businesses and charities to form RRGs which would be able to operate on a multistate basis without excessive and overlapping state regulation. Over the twenty-five years since the LRRA was last amended, that freedom of operation has been eroded by the states, as it documented herein. Other than the reports by the Department of Commerce as mandated by the 1986 amendments to the LRRA and the 2005 GAO Report, there has been no federal oversight of the LRRA. The issues raised in the GAO s 2005 report - inconsistent state regulation, inadequacies

19 Page 19 in corporate governance, and flaws in financial reporting - have been addressed by the states, the NAIC, and industry. However, the issue that remains to be resolved is the burden placed upon the RRG industry by non-domiciliary states that either do not understand federal preemption or simply choose to ignore it. As documented above, numerous states unlawfully assess fees for registration and other purposes, impose numerous requirements on registration in addition to those set forth in the LRRA including, in some cases, a prohibition on doing business without "approval", impose discriminatory requirements on RRGs in violation of the LRRA, and issue administrative injunctions (cease and desist orders) in contravention of the LRRA. Over the past twenty-five years, the industry has worked with the states and the NAIC to educate and persuade them that some of their regulatory actions are not consistent with the federal law. When necessary, it has gone to court and engaged in time consuming and expensive litigation. The results have been discouraging. Even though the law may be relatively clear, there is no immediate remedy for RRGs against state regulators for failure to obey it. The LRRA is one of the few federal laws without any federal agency oversight. This could be remedied by Congress enacting legislation providing such oversight and rulemaking authority to the Treasury. Very truly yours, NATIONAL RISK RETENTION ASSOCIATION Robert H. Myers, Jr.