Declarations and Exclusions

The Commissioner Sez: “Sentence first -- verdict afterwards!”

Compensation of insurance agents and (particularly) insurance brokers has been in the news for months, largely thanks to the efforts of the ambitious Eliot Spitzer.   Never one to be left out of a high profile policy fracas, California Insurance Commissioner John Garamendi has taken time away from his crusade against "use it and lose it" underwriting [see below] to propose new rules prescribing the sorts of information that agents and brokers should be required to disclose to insurance buyers, particularly concerning the way in which those agents or brokers are going to be paid for placing the coverage.

Unlike the "use it and lose it" proposal, the text of which is still seemingly unavailable online, the latest draft regulation on agent/broker disclosure is readily accessible via the link at the end of this press release or directly, here [PDF].

The National Association of Mutual Insurance Companies [NAMIC] suggests that the Commissioner is getting ahead of himself, offering a solution without first finding a problem.

'The logical construct is that one should establish the existence of a problem before demanding a solution, said NAMIC State Affairs Manager Christian J. Rataj. 'To date, no evidence has been offered by the commissioner to support his conclusion that insurance producers are placing their desire for financial gain above the needs of their clients.'

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The original version of the regulations was released in October of 2004.  NAMIC and PIFC argued that the regulations were unworkable and that the California Department of Insurance (CDI) did not have the legal authority to change existing state law. While the revised proposed regulations are less onerous than the original, NAMIC asserts the fundamental position that the CDI should adopt only those regulations that are specifically tailored to address an 'actual documented' problem.

In the Commissioner's testimony before a U.S. Senate subcommittee [PDF] this past November, he acknowledged that it is not unlawful, in California or in most other jurisdictions, for an insurance broker to receive compensation both from the insurance buyer and from the insurer that issues the policy.  Rather, the question in the Commissioner's mind is whether it should be permissible for a broker to arrange compensation in that way without disclosing the arrangement to the customer:

Let me be clear.  I am not saying that the acceptance of a commission or a contingent commission from an insurer is, by itself, a violation of the law. . . .  [But] if a broker stands to receive more money by placing a client with one particular insurer as opposed to another, that action creates a potential conflict of interest because it gives the broker an incentive to favor that insurer.  Whether this should be made illegal is something that I am certain state legislatures will be considering as a result of this scandal.

But there should be no question that accepting such compensation in secret, or providing a disclosure that does not clearly tell the client what compensation the broker is receiving and from whom, is a violation of the broker’s duty to its client.  And deciding to recommend that a client buy insurance from a particular insurer, not because that insurer offers the best product for the client but because the broker will receive additional compensation, is illegal.

"Illegal?"  Not necessarily, but certainly not particularly ethical: an insurance broker acting on behalf of a prospective insurance buyer is that buyer's "agent" and as such owes fiduciary duties, including a general duty to disclose information relevant to the transaction and to place the interests of the client first.¹  Those general duties militate in favor of the broker revealing to the customer any facts -- such as a commission from one of several possible insurers -- that might affect the broker's judgment in recommending one policy over another.  In other words, the proposed regulations largely compel brokers to make disclosures they arguably ought to be making even without these regulations.

Absent the proposed regulations, a broker who receives undisclosed compensation from a third party only faces some consequence from that action if (1) the client discovers that it occurred and (2) the client can show that some actual damage to the client's interests resulted from the transaction.  Damage would generally be found only if the buyer could have obtained identical insurance coverage more cheaply if a different insurer -- one that was not paying extra compensation to the broker -- had been selected.  In a case of that sort, the measure of damages ought to be the difference between the premium the customer paid and the lower premium that "should have been" offered.²  This is likely to be a modest amount in most cases, though it could be more substantial in the case of a large commercial account. 

The proposed regulations, in contrast, would declare this sort of non-disclosure to be per se unfair or unlawful, effectively "crimininalizing" the conduct and exposing the broker to disciplinary action -- fines, restrictions on or withdrawal of the broker's license -- whether or not any measurable damage was done to the customer in a given case.

The issue boils down to one of regulatory philosophy.  Those who oppose regulation, such as NAMIC, would urge that this sort of conduct should be acted upon only in the particular cases in which it does harm.  Those, such as the Commissioner, of a more crusading bent would counter that the conduct is an evil in itself and should be punishable in every instance, including those in which "no one was hurt" by it.  Take your pick.

[Post title inspired by Lewis Carroll [C. L. Dodgson], Alice's Adventures in Wonderland: Chapter XII. Alice's Evidence.]

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UPDATE [1423 PDT]: 

 Business Insurance reports that proposed legislation on agent/broker disclosure requirements has failed in a state Senate committee:

The committee was originally scheduled to vote on a bill proposed by Sen. Joseph Dunn, D-Santa Ana, that would have imposed specified requirements on agents or brokers with respect to how they make inquiries of insurers, obtain coverage, disclose information to the client and charge fees to the client.  California Insurance Commissioner John Garamendi supported the bill.

Instead, the committee voted on a more limited bill that would have added new disclosure requirements.  It was defeated 5-2.

Information on the bill (SB 938), including the most recent version of the text, is available through the Legislative Counsel, here.  As the Business Insurance story notes, the bill existed independently of the Commissioner's proposed regulations discussed above.  Whether the regulations will be affected by the bill's failure remains to be seen.

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Notes:

¹  The terminology gets slightly confusing here.   An "insurance agent" is usually deemed to represent and to act for the insurer, while an "insurance broker" is usually deemed to represent and act for the prospective insurance buyer.  (That distinction was a major issue in the case discussed here.)  As a representative of the buyer, a "broker" is that buyer's agent in the generic, common law sense: one who acts for another and has the power to bind the client/principal or affect the client/principal's legal interests.  It is from that principal-agent relationship that the duties of loyalty, disclosure, etc., naturally flow.

²  A more serious case can be imagined if the broker, acting under the influence of the promise of extra compensation, placed the coverage with an insurer that later proved to be insolvent or if the coverage provided by the selected policy proved not to cover a loss to which the alternative policy would have responded, but those cases strike me as much less likely to occur than the sort of "I paid too much" claim described in my example.

"Use It and Lose It?" -- Commissioner Garamendi Eschews It

Decs&Excs previously reported on the Court of Appeal's rejection of California Insurance Commissioner John Garamendi's attempts to prohibit so-called "Use It and Lose It" underwriting, in which insurers writing homeowners policies refuse to renew based upon the insured having made, or having inquired about making, a claim.  The Court found that, whether or not they were directed to a laudable goal, the regulations exceeded the Department's authority under the Insurance Code.

I predicted at the time that this was a battle from which the Commissioner would not voluntarily retire, and now he has proven that prediction correct.  In a pair of near-identical Press Releases -- one on April 14 and another today -- he has announced new proposed regulations to address the disputed practices. 

The text of the proposed regulations has not yet appeared on-line.  Decs&Excs will provide a link to them when they eventually turn up in linkable form.  As described in the Press Releases, the new regulations would require:

• That insurers provide details on any information from a CLUE or A-Plus database report that has been used reject an application for insurance.

• That insurers inform potential policyholders of any and all excluded coverages.

• That insurers provide notification of any changes to rating or underwriting guidelines - before such changes takes effect - that may have a negative impact on the policyholder should the policyholder make a claim.

• That insurers take reasonable steps to verify claims history database information used to rate policies.

• That insurers file with the Commissioner, on an annual basis, a report detailing the "who, what, and where" of occasions when insurers apply use it and lose underwriting or deny eligibility where the potential insured has made a claim in the past.

Having been told by the Court that he has no power to prohibit these practices outright, and apparently having no confidence that Governor Schwarzenegger would sign any legislation granting him that power, the Commissioner is adopting an indirect, "Rube Goldberg with a Big Stick," approach to the problem.  He now proposes to require insurers to disclose the offensive practices to their insureds, apparently on the theory that the insurers will change their ways rather than admit to them.  He also seems to intend that the sheer burden of compliance, particularly with the proposed reporting requirements, should outweigh the perceived benefit to insurers of continuing their current practices. 

More to come . . .

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Related Calendar Note:  I will be commenting on this topic and on other recent developments in California insurance law on May 10, when I will be the speaker at the monthly lunch meeting of the Los Angeles Chapter of the CPCU [Chartered Property Casualty Underwriters] Society.  If you might be interested in attending, please drop an e-mail in my direction for details.

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UPDATE [4/22/05]: If you don't read the comments to this post, you will miss the link from Bob Sargent of Hartford, Connecticut's Tennant Risk Services to a post on his new Specialty Insurance Blog (which I have also added in the sidebar) compiling his own thoughts and providing a number of links to relevant comment by others (including the typically perceptive Martin Grace at RiskProf) on these issues.   

Now, if I could only track down an actual copy of those proposed regs . . . .

Romance and Antlers

From Bodice Rippers to Jewelry Rip-Offs

Insurance Journal reports that a New Orleans-based writer of romance novels -- Ruth L. Goodman, nom de plume Meagan McKinney --  finds herself accused of submitting a fraudulent insurance claim.   The New Orleans Times-Picayune sets the dramatic scene:

Enter the drawing room of a Garden District mansion, the St. Charles Avenue streetcar rattling just outside the parlor windows.  A well-traveled socialite has just added some exquisite pieces of jewelry to her collection of fine antiques and expensive Audubon prints.  Not just any jewelry, mind you, but two diamond-encrusted bracelets purchased at an estate sale in Switzerland and valued at $1.8 million by one of New York's finest appraisers.

Then disaster strikes.  During an outing at Oakwood Center mall on the West Bank, the bracelets are stolen by a purse snatcher.  The loss is profoundly painful, but the healing process is soothed by a $1.8 million insurance settlement.

Investigators say, however, that there is one problem with Ms. Goodman/McKinney's story: there is no record that she has ever been to Switzerland, let alone attended the sale at which the supposed jewels were ostensibly purchased.  Her attorney, who dismisses all claims against his client as "ridiculous," insists the jewels are real because he can produce the canceled check . . . to the appraiser in New York who placed the $1.8 million valuation on them.

Ms. Goodman/McKinney is also reported to have prior experience with large, well-insured losses of dubious provenance:

According to court records, Goodman faces another set of insurance fraud charges from September 2004.  In that case she is accused of defrauding State Farm Insurance of $432,560 by filing a false flood claim.  In court documents from the case, Goodman allegedly reported the loss of 10 John James Audubon prints from the "Autumn Waterfall" series that actually were undamaged, as well three pieces of 1850s antique furniture that actually turned out to be purchases from Hurwitz Mintz [a New Orleans purveyor of fine, but not antique, furnishings] in 1988.

Those who wish to contribute to the author's legal defense can show their solidarity by buying her books, which include such apt titles as The Fortune Hunter, Still of the Night, and No Choice But Surrender.    There is no truth to the rumor that Ms. McKinney's next novel will be Love's Inflated Valuations.

Beware of Cross Moose Crossing

From MSNBC: As Decs & Excs has noted before, risk comes in many shapes, some with hooves and antlers:

'We're investigating ways to manipulate the drivers and also ways to manipulate the animals,' said John Perry, a biologist with the Maine Department of Transportation.  'And when moose are involved, it might be easier to manipulate the driver.'

Moose, unlike deer and bear, are reluctant to use some of the new protective alternatives such as animal underpasses fashioned out of giant culverts, said Bill Ruediger, recently retired head of the U.S. Forest Service's highway ecology program.

And, since we are already on the subject of romance, drivers in Moose Country should heed this warning:

A bull moose in pursuit of his lady love is not going to pause to let a minivan pass. . . .

[This post marks the premiere of a new category, "Peculiar Risks," to be devoted to, well, risks that are peculiar.  More serious legal comment will resume shortly.]

Hairy Decisis

Sometimes a Judge simply cannot resist the urge have some fun with the facts of the case before him.   The Honorable Barry G. Silverman of the Ninth Circuit U.S. Court of Appeals succumbs to temptation today in ruling on a case of alleged trademark infringement.

The holding in the case will be welcomed by many, and especially by angry consumers with Web access.   The Court holds that the non-commercial use of a trademark as the domain name for a web site critical of the trademark owner is not an infringement of the trademark under the Lanham Act.   

Here is the introductory portion of Judge Silverman's opinion, which includes the Judge's moment of weakness:

Defendant Michael Kremer was dissatisfied with the hair restoration services provided to him by the Bosley Medical Institute, Inc.  In a bald-faced effort to get even, Kremer started a website at www.BosleyMedical.com, which, to put it mildly, was  uncomplimentary of the Bosley Medical Institute.   The problem is that 'Bosley Medical' is the registered trademark of the Bosley Medical Institute, Inc., which brought suit against Kremer for trademark infringement and like claims.  Kremer argues that noncommercial use of the mark is not actionable as infringement under the Lanham Act.  Bosley responds that Kremer is splitting hairs.

Like the district court, we agree with Kremer.  We hold today that the noncommercial use of a trademark as the domain name of a website — the subject of which is consumer commentary about the products and services represented by the mark — does not constitute  infringement under the Lanham Act.

(Italics added.)  Later in the opinion, Judge Silverman makes clear that he is not jesting in concluding that Bosley Medical is overreaching in its effort to use its intellectual property rights against Kremer and his critiques:

Any harm to Bosley arises not from a competitor's sale of a similar product under Bosley's mark, but from Kremer's criticism of their services.  Bosley cannot use the Lanham Act either as a shield from Kremer's criticism, or as a sword to shut Kremer up.

The news is not all good for Kremer: the Court also finds that the trial judge acted prematurely in dismissing Bosley Medical's "cybersquatting" claims, and in finding that Bosley Medical's state law claims are barred by California's Anti-SLAPP statute.

The Court's full opinion in Bosley Medical Institute v. Kremer (April 4, 2005), Case No. 04-55962, is available from the 9th Circuit's site at the following link in PDF format.

Art and Risk: Terror Tariff Topples Tate Turner Tour

As reported in the Cleveland Plain Dealer here, the high cost of insurance -- particularly insurance against terrorism-related risks -- has resulted in the quiet cancellation of a major traveling exhibition of paintings by the great 19th century British artist, J.M.W. Turner.  The tour, organized by London's Tate Gallery, would have brought some 80 major Turner works to Cleveland, New York, Washington and [*sigh*] Los Angeles in 2006.  The paintings carry an estimated value approaching $1 billion, and the premiums for the necessary insurance have thus far proven prohibitive, despite the relatively low frequency of major art losses:

'The history of risk shows that it's very small,' said Graham Beal, director of the Detroit Institute of Arts. 'The incidence (of payments) over history is minuscule.'

A factor contributing to the cost of terrorism insurance is that in 2006, the federal Terrorism Risk Insurance Act will expire. The act, passed by Congress after Sept. 11, authorizes the government to reimburse insurance companies for up to $100 billion for losses above a $15 billion threshold.

Because insurers are uncertain about whether the act will be renewed, they're passing along higher costs to customers, said Robert Hartwig, chief economist for the Insurance Information Institute in New York. He said those higher costs undoubtedly affected the Turner show.

In Cleveland, insurance would have accounted for $800,000 of the $2 million cost of the show, Domine said. The costs were higher for the museums in New York and Washington because both cities had suffered terrorist attacks, she said, although she did not have figures. In Los Angeles, the problem was higher insurance premiums for earthquakes.

Turner himself knew a little something about risk: he famously witnessed the spectacular fire that consumed the Houses of Parliament in October 1834, and produced several notable paintings of the event, one of which is reproduced above.