Regulatory Challenges Regarding Self-Insured Groups: Failures Prompt New Regulation

Regulatory Challenges Regarding Self-Insured Groups: Failures Prompt New Regulation

By John Stahl, Esq.

An April 2012 International Association of Industrial Accident Boards and Commissions (IAIABC) report entitled Self-Insured Groups for Workers’ Compensation: Effective Regulatory Strategies on obtaining workers’ compensation coverage through a Self-Insured Group (SIG) “synthesize[d] the lessons that have been learned about the causes of failures [of SIGs], weaknesses in regulatory oversight, and how regulatory responses to SIG financial problems might be improved.”

The applicable definition of an SIG was “a hybrid risk financing mechanism” that combined elements of “retaining all or most of the risk of loss from [workers’ compensation] claims” and “purchasing first dollar insurance from a commercial insurer.”

Concerns that relevant regulations mirrored ones associated with individually self-insured employers. This boiled down to whether the entity that accepted responsibility for workers’ compensation claims adequately demonstrated an ability to fulfill that obligation.

Overview

One underlying issue was that states generally distinguished between SIGs and licensed commercial insurance “in law and regulatory oversight.” Related considerations were that many SIGs were “almost undistinguishable from a mutual insurance company operating in the property and casualty insurance market” and that other SIGs “can be quite different from a mutual insurance company, especially in terms of proactive loss control, pricing stability, and member cohesion and loyalty.”

“Joint and several liability” was an emphasized risk associated with an SIG; this created the possibility that an individual employer in the SIG would face personal liability for a claim against that SIG if the SIG’s assets were insufficient to meet that responsibility. Whether or not any employee who sought the relevant workers’ compensation benefits worked for an employer that sustained ultimate liability for those benefits was irrelevant regarding that risk.

This potential cost extended to “the unpaid assessments of other [SIG] group members in default.” This meant that every employer in the SIG would be jointly billed for a liability that the SIG could not satisfy but only the employers who met their obligation to cure that shortfall ultimately absorbed that expense.

This requirement reflected the underlying concern that an affected workers’ compensation claimant receive the benefits to which that person is entitled.

Principles of Regulating SIGs

Observed common elements of all regulation of SIGs were:

  • “The legal authority for group self-insurance and how this relates to licensed commercial insurance under the supervision of the commissioner of insurance;”
  • “A statement of who can participate in group insurance for workers’ compensation;”
  • “A statement of how the group is to be organized and managed;”
  • “Reporting and other regulatory constraints on the group;”
  • “Financial security requirement;” and
  • “Process to follow for financially hazardous SIGs”

The report emphasized that the commonality did not extend to a regulator’s ability to satisfy that person’s professional responsibilities. Findings included that “there are real differences in authority given to regulators to demand specific information, to do on-site examinations, penalize violations of law, and demand operating changes.” These variations contributed to SIG failures that prompted reforms.

Lessons from SIG Failures

The report defined “a failure” as “a SIG entity formally declared to have insufficient assets to cover claims obligations under workers’ compensation as they come due. The determination of asset shortfall is made by some regulatory authority, sometimes with resistance/denial by the SIG management.” States that the research on which the report was based contended with difficulty collecting SIG deficits that totaled at least $100 million.

Common elements of these failures were that they and “the size of the unfunded benefit obligations” surprised regulators and SIG members. This was attributed to a “lack of due diligence by all involved.”

It was discovered that employers liked the low cost of joining an SIG but did not realize the potential liabilities associated with that choice. Believing that state regulation properly protected against unforeseen consequences from joining an SIG was a common reason for the complacency.

Recommended Reform

The spoiler alert regarding regulatory reform of SIGs is that this essentially imposed the same standards that applied when an employer wanted to become individually self-insured. This reflected the realizations that an SIG was much more like self-insurance than a group, that a state generally merely needed to use the proper existing tool in its regulatory toolbox, and the more basic concept that a chain is only as strong as its weakest length.

One underlying principle of the report’s recommendations was that “it seems reasonable to allow [SIG] groups to form if they are able to provide a credible value proposition to a critical mass of charter members, and to demonstrate to regulators that they have the resources to be financially viable.” A related principle was that “groups should be allowed to dissolve if they do not perform and earn member alliance. Regulators are not responsible for the performance or success of a group.”

Recognizing that poor management of SIGs played a large role in many failures, the report recommended that the tools that a state provided regulators included authority to “monitor and test management practices to detect unorthodox, unethical, or dangerous practices.” This recommendation included granting the power needed to ensure that SIG administrators “meet minimum qualifications.”

The advocated management practices included requiring comprehensive disclosure to employers who considered obtaining workers’ compensation insurance coverage through an SIG. The model standard was based on a requirement under Florida Statutes Annotated § 440.585.

Florida Statutes Annotated § 440.585 provided specific size and color standards for a mandatory clause in a SIG application that stated that “This is a fully assessable policy. If the fund is unable to pay its obligations, policyholders must contribute on a pro rata earned premium basis the money necessary to meet any unfilled obligations. If the application is signed by the applicant, it must be conclusively presumed that there was an informed, knowing acceptance of the assessment liability that exists as a result of participation in the fund.”

A related recommendation was that a regulatory scheme have enough teeth to enforce any duty of an SIG member to pay an assessment if the SIG and/or other SIG members could not meet an SIG liability. This included the power to recoup amounts that a state guaranty fund distributed. A relevant related suggestion was that “the liquidator [of an insolvent SIG] should be allowed to pursue lawful collections administratively, without receiving court approval for every collection action.”

The report further addressed the need to ensure that an SIG charged its members rates that adequately reflected potential claims liability. The advocated standard was that “while regulation should not … straightjacket management discretion, there ought to be evidence that group manual rates are being reviewed, adjusted, and published annually.” In other words, states should follow the Reagan “trust but verify” doctrine.

Final Word

The most common-sense reform is that a regulated entity and its industry should do the right thing before the government requires doing so. This practice avoids the malfeasance and subsequent scrutiny that leads to the time-consuming and costly oversight that those conditions inevitably cause.

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