New York Insurance Department Issues Finite Reinsurance Reporting Rules The New York Insurance Department recently issued Circular Letter No. 8 (2005), requiring Chief Executive Officers of all New York-licensed insurers (not just New York domestic insurers) to attest, in writing, under penalty of perjury with respect to all reinsurance contracts that: (I) there are no separate written or oral agreements that would under any circumstances, reduce, limit, mitigate or otherwise affect any actual or potential loss to the parties under the reinsurance contract; and (II) for each such reinsurance contract, the reporting entity has an underwriting file documenting the economic intent of the transaction and the risk transfer analysis evidencing the proper accounting treatment, which is available for review. 1 Expressing concern about the improper use of finite reinsurance to manipulate financial reporting results, the Circular Letter states that "these transactions can distort the underwriting and surplus positions of insurers entering into them when there is no actual transfer of risk or the transaction is accounted for improperly." The attestations are to be made available for examinations of insurers by the New York Insurance Department. What is finite reinsurance? Under traditional reinsurance, the ceding company transfers specified risks to the reinsurer and pays a premium to the reinsurer and the reinsurer indemnifies the ceding insurer for losses and allocated loss expenses incurred on the risks transferred. Under most reinsurance arrangements, the reinsurance receivable becomes an asset of the ceding insurer. Under finite reinsurance, although the transaction, on its face, has the appearance of a traditional reinsurance agreement, the finite reinsurer s risk is contractually limited so that its range of possible losses is relatively narrow. What may not Principal Office: 1900 Market Street Philadelphia, PA 19103 (215) 665-2000 (800) 523-2900 Atlanta (404) 572-2000 (800) 890-1393 Charlotte (704) 376-3400 (800) 762-3575 Cherry Hill (856) 910-5000 (800) 989-0499 Chicago (312) 382-3100 (877) 992-6036 Dallas (214) 462-3000 (800) 448-1207 Denver (303) 292-9080 (877) 467-0305 Houston (832) 214-3900 (800) 448-8502 London 011 44 20 7864 2000 Las Vegas* (800) 782-3366 Los Angeles (213) 892-7900 (800) 563-1027 New York Downtown (212) 509-9400 (800) 437-7040 New York Midtown (212) 509-9400 (212) 207-4938 Newark (973) 286-1200 (888) 200-9521 San Diego (619) 234-1700 (800) 782-3366 San Francisco (415) 617-6100 (800) 818-0165 Seattle (206) 340-1000 (800) 423-1950 Trenton (609) 989-8620 Washington, D.C. (202) 912-4800 (800) 540-1355 W. Conshohocken (610) 941-5000 (800) 379-0695 Wichita (316) 609-3380 Wilmington (302) 295-2000 (888) 207-2440 *Affiliated with the Law Offices of J. Goldberg & D. Grossman
be apparent, however, and what the New York Insurance Department is concerned with, is the potential existence of a side letter agreement between the ceding insurer and the reinsurer whereby the ceding insurer further limits or eliminates altogether the risk transferred under the reinsurance agreement. In effect, potential losses that appear to have been assumed by the reinsurer are retained by the ceding company but can be spread over multiple reporting periods. The net effect is a distortion of the insurer's balance sheet that makes the insurer look healthier financially than it actually is. In the March 29, 2005 Press Release issued with Circular Letter No. 8, Acting Superintendent Howard Mills stated: "Policyholders, investors, and regulators need assurances that insurers' finite reinsurance contracts are completely transparent...the Circular Letter we've issued today is a tough, necessary step that will help to restore confidence to the regulatory process. The Insurance Department is confident that the Letter's requirements will also prevent insurers from using finite reinsurance contracts as a way of hiding their company's true financial condition." In addition, the New York regulator has called upon the National Association of Insurance Commissioners to establish guidelines for appropriate transfers of risk. The New York Court of Appeals Reaffirms "No-Prejudice Rule" in Late Notice Situations The Court of Appeals, New York's highest court, has reaffirmed the "no-prejudice" rule that permits a liability insurer to decline coverage without having to show prejudice when it receives unreasonably late notice of a lawsuit against its insured. In a companion decision, the Court examined the no-prejudice rule in the context of a Supplemental Uninsured/Underinsured Motorist ("SUM") claim and held: "where an insured previously gives timely notice of the accident, the carrier must establish that it is prejudiced by a late notice of SUM claim before it may properly disclaim coverage." In The Argo Corporation v. Greater New York Mutual Insurance Company 2, a tenant fell on ice outside his building, sued his landlord in February, 2000, obtained a default judgment and a year later served the landlord with a notice that the case was ready for trial on the issue of damages. Eventually, in May, 2001 the landlord notified its insurer, Greater New York Mutual Insurance Company, of the existence of the action. After the insurer disclaimed coverage on the ground of late notice, the landlord commenced a declaratory judgment action challenging the disclaimer. The Court stressed that when an insurance contract requires notice "as soon as practicable" after an occurrence, failure to provide such notice is a failure to comply with a condition precedent and the insurer can disclaim coverage without having to show prejudice. Page 2
that: The Court concluded that the landlord-insured's delay was unreasonable as a matter of law and held A liability insurer, which has a duty to indemnify and often also to defend, requires timely notice of lawsuit in order to be able to take an active, early role in the litigation process and in any settlement discussions and to set adequate reserves. Late notice of lawsuit in the liability insurance context is so likely to be prejudicial to these concerns as to justify the application of the no prejudice rule. 3 In Rekemeyer v. State Farm Mutual Automobile Insurance Company 4, issued the same day as Argo, supra, the Court remitted the case to the trial court to give the insurer an opportunity to demonstrate that it was prejudiced by late notice of a SUM claim. Shortly after an automobile accident, the plaintiff notified her insurer, State Farm, of the occurrence and sought no fault benefits. She also sued the other driver. About two years after the accident, the other driver offered the full amount of his liability coverage to settle the action. At that point, the plaintiff made a SUM claim on State Farm, but State Farm disclaimed coverage based on plaintiff's failure to notify it of the SUM claim as soon as practicable and because the plaintiff failed to provide immediate notice of the lawsuit. In this declaratory judgment action to obtain coverage of the SUM claim, the Court agreed with State Farm that the plaintiff did not submit her SUM claim as soon as practicable. The Court found, however, that the initial notice of the accident to State Farm, the plaintiff's claim for no-fault benefits, an investigation of the accident by State Farm and State Farm's requests that the plaintiff undergo medical examinations amounted to timely notice and created a requirement for the insurer to establish that it was prejudiced by late notice of the SUM claim before it could disclaim coverage. Pending Legislation New York State Senate Considers Legislation to Limit Ability of Insurers to Disclaim Coverage on Late Notice Grounds A Bill is currently pending before the New York State Senate that would amend the New York Insurance Law to require an insurer to show substantial prejudice before coverage could be denied on late notice grounds. The key provisions of the Bill provide that: 2. An insurer shall not deny coverage for a claim based on the failure of an insured to give timely notice of a claim unless the authorized insurer or other insurer can demonstrate that it has suffered substantial prejudice as a result of the delayed notice. Evidence that the insurer had knowledge of the accident, Page 3
loss, injury or death that is the subject of the claim, including any communication from the claimant or the claimant's representative or health care provider, or from any other injured person or injured person's representative or health care provider, or from the insurer to the insured regarding the accident, loss, injury or death, shall create a rebuttable presumption that the insurer has not been prejudiced by delayed notice. Notice given to any licensed agent of the insurer in this state with particulars sufficient to identify the insured shall be deemed notice to the insurer. 3. The provisions of this section shall be liberally construed in order to effectuate the purpose hereof which is to mitigate against the potential for procedural denial of insurance coverage resulting in unreasonable loss of insurance protection for claimants. 5 The measure has been referred to the Insurance Committee of the New York State Senate. New York State Senate and Assembly Pass Legislation to Authorize Use of Assets from Estates of Insurance Companies in Liquidation and from Property/Casualty Insurance Security Fund to Replenish Depleted Workers' Compensation Security Fund. The New York State Senate and Assembly passed bills during the week of April 4 which authorize the use of assets from one or more estates of insurance companies in liquidation in New York as a source of loans to the depleted New York Workers' Compensation Security Fund ("WCSF"), not to exceed $70 million in the aggregate. 6 The Senate bill anticipates that the passage of the measure authorizing the loans will likely cause litigation to be commenced seeking to enjoin such loans. The Senate bill directs the New York Superintendent of Insurance to oppose any such litigation and to appeal any ruling unfavorable to the New York Insurance Department. The Senate bill further authorizes the Superintendent to make loans to the WCSF from the New York Property/Casualty Insurance Security Fund in the event loans from the estates of companies in liquidation are prohibited by court ruling. The Property/Casualty Security Fund is pre-funded by New York-licensed property/casualty insurers for the payment of certain categories of claims of insolvent property/casualty insurers. Both bills create a Workers Compensation surcharge account, and to fund that account, authorize an increase up to two percent from the current one percent assessment on net written premiums. The surcharge account is to be used for payment of WCSF claims, with at least one-quarter of such assessments to be used for repayment of any loans to the WCSF. In addition, the Senate bill authorizes borrowing from the estates of insurance companies in liquidation to repay any loans to the WCSF from the Property/Casualty Insurance Security Fund. It is the responsibility of the Superintendent of Insurance to devise a repayment plan for any loans to the WCSF. Another Assembly bill, introduced April 6, 2005, combines the provisions of the Assembly and Senate bills and adds, inter alia, provisions that require the state comptroller to examine the Page 4
New York Liquidation Bureau s administration to evaluate its capacity and future demands on the WCSF and the reasons for its current impairment, and consolidate the public motor vehicle liability security fund into the property/casualty insurance security fund. 7 The Memoranda accompanying the Assembly bills state that the estates of the insurance companies in liquidation in New York have estimated liquid assets of $783 million, adequate to fund the $70 million loan authorized by the legislation. The Memoranda also call for an examination of the circumstances leading to the depletion of the WCSF and the delay in reporting the crisis by the New York Insurance Department. If you would like more information on this or any other insurance, reinsurance or insolvency regulatory actions, please feel free to contact Francine L. Semaya, Esq., Chair, Insurance Corporate and Regulatory Practice Group, at (212) 908-1270, fsemaya@cozen.com or William K. Broudy, Esq. at (212)908-1289, wbroudy@cozen.com. Comments in this Insurance Corporate and Regulatory Alert are not intended to provide legal advice. Readers should not act or rely on information in the Alert without seeking specific legal advice. ENDNOTES 1. New York Insurance Department Circular Letter No. 8 (2005). 2. The Argo Corporation v. Greater New York Mutual Insurance Company, No. 42, N.Y. Court of Appeals, April 5, 2005, 2005 WL 756613. 3. The Argo Corporation, supra, Slip Opinion, p. 7. 4. Rekemeyer v. State Farm Mutual Automobile Insurance Company, No. 43, N.Y. Court of Appeals, April 5, 2005, 2005 WL 756620. 5. New York State Senate Bill S01770. 6. New York State Senate Bill S03937, New York State Assembly Bill A07008. 7. New York State Assembly Bill A07152-A. Page 5