Insurance Company Organization and Regulation
Terms you'll need to understand:
- Stock insurer
- Mutual insurer
- Assessment company
- Reciprocal insurer
- Lloyd's Association
- Fraternal benefit society
- Risk retention group
- Purchasing group
- Insurance agent
- Express authority
- Implied authority
- Apparent authority
- Insurance solicitor
- Insurance broker
- Admitted or authorized insurer
- Nonadmitted or unauthorized insurer
- Domestic insurer
- Foreign insurer
- Alien insurer
- Loss costs
Concepts you'll need to master:
- Lines of insurance
- Agency relationship
- Rate filings
- Government insurers
- Residual insurance markets
- Personal lines
- Commercial lines
- Field underwriting
- Exclusive or captive agency
- Direct writer system
- Direct response system
- Independent agency system
- Excess or surplus lines
- Loss and expense ratios
- State insurance regulation
- National Association of Insurance Commissioners
There are several types of insurance organizations and arrangements that provide insurance coverages. Not all of them are corporations (or companies) that are in business to make a profit, but most of them are. The various categories of insurers represent the different ways they raise the money necessary to begin business and enroll their prospects for insurance. Although you need to understand the nature and structure of for-profit insurance companies, you should also know that there are other markets and providers of insurance, including non-incorporated private organizations and the federal and state governments.
Types of Insurance Organizations
In this chapter, the major types of insuring organizations are reviewed first. Then we cover various aspects of insurance company operations and the nature of insurance regulation.
Stock and Mutual Companies
Let's begin with a review of the two most common types of insurance companies. The first type is called a stock company. When a stock company forms, it sells stock to stockholders to raise the money necessary to operate the business. Stockholders are not necessarily insured by the company, and insureds do not necessarily own stock in the company. The company is in the business of selling insurance. Profits attributed to the operation of the company are returned as dividends to the stockholders, not the insureds.
Nothing prohibits stockholders from buying insurance from their own company or insureds from buying shares of stock issued by their insurer. However, ownership of the company is completely independent from any contractual relationships the company has with policyholders as a provider of insurance.
The second type, a mutual insurance company, functions differently than a stock company. In a mutual company, there are no stockholders and the policyholders collectively are the owners of the company. As owners, they can vote to elect the management of the company. Profits are returned to the insureds in the form of dividends or reductions in future premiums.
Most mutual companies are advance premium companies that charge non-assessable premiumsthat is, policyowners are never required to pay anything in addition to their premiums even if losses for the group exceed the amounts paid in during the policy period. A small number of mutual companies are assessment companies, which charge members a pro rata share of losses at the end of each policy period. The cost of coverage from an assessment company will vary each policy period and can be small or large depending on the experience of the group. Assessment mutuals are far less popular than non-assessment mutuals because most people prefer to know that they will not be assessed additional amounts regardless of the group's loss experience. Assessment mutuals provide primarily fire and windstorm insurance for small towns and farmers.
Both stock and mutual companies are incorporated. Their marketing practices and internal operations are nearly identical. Their structures differ only in the areas of corporate ownership and management control.
Although not as common as stock or mutual insurers, coverage is also provided by reciprocal insurers or exchanges. A member of a reciprocal agrees to share the insurance responsibilities with all other members of the unincorporated group. In a sense, all members insure each other and share the losses with each other. A reciprocal is managed by an attorney-in-fact who is empowered to handle all of the business of the reciprocal.
Another type of insuring organization is called a Lloyd's Association. The term originated with the famous insuring group Lloyd's of London, but today a number of other similar groups exist based on the same model. These are not really insurance companies. They are voluntary associations of individuals, or groups of individuals, who agree to share in insurance contracts. Each individual, or "syndicate," is individually responsible for the amounts of insurance they write.
Fraternal Benefit Societies
Limited types of insurance are also provided by fraternal benefit societies. A fraternal benefit society is an incorporated society or order, without capital stock, that is operated on the lodge system and conducted solely for the benefit of its members and their beneficiaries, and not for profit.
A type of insurance used by fraternal benefit societies is an "open contract." Under this type of contract, the society's charter, constitution, and bylaws become part of the insurance contract, and any amendments to them automatically become amendments to the insurance contract. The society is contractually obligated to pay; no amendment can omit or diminish society benefits.
Fraternals offer insurance that is available only to their members. Most write only life and health insurance.
Risk Retention Groups and Purchasing Groups
In 1981, Congress passed the Liability Risk Retention Act to give product manufacturers more options when insuring against product liability. The Act enables product manufacturers to establish group self-insurance programs or group captive insurance companies, called risk retention groups (RRGs), to protect them against product liability exposures. Federal law also enables businesses in the same trade or industry with similar liability exposures to purchase liability insurance on a group basis through purchasing groups (PGs). Risk retention groups and purchasing groups are regulated in the states where they are domiciled, but once formed they can transact business in all other states.
Risk retention groups, as providers of insurance, must be licensed and authorized as liability insurers in at least one state where they operate. Purchasing groups, as buyers of insurance, are not required to be licensed or authorized.
Some businesses and individuals choose to self-insure. With this option, part or all the risk of loss is borne without the benefit of insurance coverage to fall back on if a loss occurs. Some large companies are self-insured because they have the resources to withstand losses and their claims experience demonstrates that it is cheaper to be self-insured than to pay for insurance coverage.
Private Versus Government Insurers
Providers of insurance can be privately owned or operated by the state or federal government. The insurers reviewed so far (stock, mutuals, reciprocals, and so on) are all examples of private insurers.
Historically, the government has often stepped in to provide insurance for catastrophic type losses that is not ordinarily available from private insurers. Sometimes it does this directly under government insurance programs; other times it makes coverage available by providing reinsurance or subsidies to private carriers. This type of insurance is sometimes called residual market insurance. Over the years, the federal government has provided such things as war risk insurance, nuclear energy liability insurance, flood insurance, and federal crop insurance. State governments have organized insurance pools to provide medical malpractice insurance and auto or property insurance for individuals who are such poor risks that they can't obtain coverage in the open market.
At the state level, governments have been involved in providing unemployment insurance, and in some cases, workers compensation and disability benefits, through various state funds.