Federal Risk Retention Group Legislation Could Effect Dramatic Changes

Federal Risk Retention Group Legislation Could Effect Dramatic Changes

  By Richard J. Fidei, Partner, Colodny, Fass, Talenfeld, Karlinsky & Abate

Pending before the U.S. House of Representatives, House Resolution 4802 would dramatically expand the coverage authority of risk retention groups.  Also known as the “Risk Retention Modernization Act of 2010 (‘Act’),” the legislation seeks to expand the authority of risk retention groups to write commercial property insurance coverage, in addition to their current authority to write liability coverage.

Trade industry groups supporting the Act have argued its merits, explaining that policyholders will receive long-term benefit through the ability to obtain both property and liability coverage from the same source.  Advocates say that the current law, which restricts a commercial insured to obtaining only liability coverage from a risk retention group, creates inefficiencies, extra costs and burdens policyholders, who must still obtain stand-alone property coverage from other carriers.  Others assert that the expansion of risk retention groups’ coverage authority to include commercial property insurance creates new, more significant risks for the risk retention groups and, as a corollary, their insureds.  Some even question the financial capacity and expertise of risk retention groups to handle commercial property risks.

Because of other priorities, Congress did not act on H.R. 4802 in 2010.  However, it appears likely that expanding the authority of risk retention groups to include commercial property coverage will remain an ongoing issue.  Appropriate use of risk retention groups as a viable solution to commercial property insurance coverage problems seems to have developed growing interest, at least in portions of the country where catastrophe risks such as earthquakes, hurricanes and floods, along with existing market capacity issues and pricing concerns make alternative mechanisms such as risk retention groups an appealing option.

The Act defines commercial property insurance coverage to include indemnity of a business, non-profit organization or governmental entity for damage, theft or destruction of real or business property owned or leased by an entity from all perils or causes of loss or damage.  It also provides for a disclosure that must be on the declaration page of each policy issued to a member of a risk retention group.  This disclosure would indicate the state in which the risk retention group is primarily regulated and that the coverage, as well as the risk retention group may not be subject to all of the insurance laws and consumer protections of the insured’s home state.  The disclosure would further provide that, if the risk retention group fails, it may not be protected by the state’s insurance insolvency guaranty fund.

The Liability Risk Retention Act of 1986, a predecessor to H.R. 4802, has strict prohibitions against non-domiciliary states regulating risk retention groups that have led to longstanding concern by these groups and their managers in regard to over-regulation by non-domiciliary states.  To address these concerns,  H.R. 4802 would authorize the  U.S. Secretary of the Treasury to survey and evaluate the extent of the problem and periodically report to the President and Congress on the non-domiciliary states’ compliance with the Liability Risk Retention Act of 1986.

The Act also provides for the U.S. Comptroller General to conduct a study of instances in which non-domiciliary states have attempted to unlawfully regulate—directly or indirectly—the operation of risk retention groups through unilateral cease and desist orders or other means.  The legislation also addresses the costs associated with these attempts, the ability of risk retention groups to afford the cost of challenging these attempts, and possible legislative solutions to reinforce the provisions of the Liability Risk Retention Act, which exempts risk retention groups and purchasing groups from the laws of any state other than its chartering state.

Under H.R. 4802, the U.S. Secretary of the Treasury would have authority to issue strict corporate governance standards applicable to risk retention groups in relation to matters such as the independence of the risk retention group’s directors, material relationships with directors and audit committee oversight of financial, compliance and risk management matters. 

In addition, the Act would require the Secretary of the Treasury to adopt a code of business conduct and ethics for risk retention group management and employees to address issues such as conflicts of interests, corporate opportunities, confidentiality and the proper use of assets.  Under the Act, risk retention group boards of directors also would have a fiduciary duty to operate in the best interests of the risk retention group.

Additional regulatory analysis from Rich Fidei.