Order Code IB10106
CRS Issue Brief for Congress
Received through the CRS Web
Insurance Regulation:
Background and Issues
Updated May 14, 2003
Carolyn Cobb, Insurance Consultant
Baird Webel, Analyst in Economics
Government and Finance Division
Congressional Research Service ˜ The Library of Congress

CONTENTS
SUMMARY
MOST RECENT DEVELOPMENTS
BACKGROUND AND ANALYSIS
Present Regulatory Structure
Factors Promoting Change
State Regulatory Response
Recent Legislative Activity
Formal Proposals
Hearings
Possible Future Legislative Activity
FOR ADDITIONAL READING


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Insurance Regulation: Background and Issues
SUMMARY
Insurance companies make up a major
products. While banks can roll out their new
segment of the U.S. financial services indus-
products nationwide in a matter of weeks, it
try. However, unlike banks and other finan-
sometimes takes 2 years or more for an insurer
cial institutions that are regulated primarily at
to obtain the necessary state approvals for a
the federal level, insurance companies are
national launch of a similar product. As a
regulated by the states. As financial services
result, many insurers selling such products are
have converged in response to globalization
calling upon Congress to pass legislation
and other market factors, the seemingly arbi-
reinstating the federal government’s insurance
trary distinctions separating various financial
regulatory role.
products and services, as well as their provid-
ers, have broken down.
Legislation presented in the 107th
Congress was modeled on the dual
In 1999 Congress passed the Gramm-
state/federal regulation that now exists for the
Leach-Bliley Act (GLBA) to reflect market-
banking industry. The 107th Congress did not
place changes and to overhaul the laws gov-
address either measure, but it is anticipated
erning financial institutions. Rather than
that proposals for increased federal involve-
changing the regulatory structures for the
ment in insurance will garner some consider-
various financial institutions, GLBA embraced
ation in the 108th Congress. Such consider-
the concept of “functional” regulation. It
ation is expected by some observers to be
specifically reaffirmed the regulation of insur-
informed by analysis of the perceived
ance by the states as granted by the 1945
effectiveness, or ineffectiveness, of the states
McCarran-Ferguson Act. Since 1945 Con-
assuming the duties conferred on them in the
gress has reviewed the jurisdictional steward-
Terrorism Risk Insurance Act of 2002.
ship entrusted to the states under McCarran-
Ferguson on various occasions. Until re-
Finally, the sunset of the Fair Credit Reporting
cently, however, efforts to transfer insurance
Act’s preemption of state laws on sharing
regulatory authority back to the federal gov-
credit information among affiliates will likely
ernment were opposed by both the states and
lead to a debate over who should regulate
a united insurance industry.
insurers’ use of medical and financial
information. Insurers’ use of credit scoring in
Some insurers now claim that in view of
underwriting homeowners and automobile
the growing convergence of financial services
insurance may be a part of that debate, as may
and products, they find themselves at a com-
the absence of uniform privacy protections
petitive disadvantage because of the ineffi-
among the states. Critics of GLBA’s privacy
ciencies associated with being regulated by the
provisions will also join the discussion. At
states. For example, life insurers selling
issue will likely be the both the effectiveness
products aimed at retirement and asset accu-
and efficiency of state regulation.
mulation must now compete with similar bank
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MOST RECENT DEVELOPMENTS
A series of hearings on insurance in the House Financial Services Committee has begun
with subcommittee hearings on April 10 and May 6, 2003. In an effort mandated by
Congress in the Terrorism Risk Insurance Act of 2002, federal and state regulators continue
to cooperate closely to make the marketplace for terrorism insurance work for businesses,
consumers, and insurers. During the 107th Congress, legislation providing for optional
federal chartering was introduced in the House and presented in the Senate, but neither piece
of legislation was acted upon. Various insurance interests are currently working on updating
their own proposals to modernize the regulation of insurance.
BACKGROUND AND ANALYSIS
Present Regulatory Structure
Insurance companies comprise a major segment of the U.S. financial services industry.
However, unlike banks, insurance companies have been regulated solely by the states for the
past 150 years. This stems from a 1868 decision of the U.S. Supreme Court that insurance
was not interstate commerce and thus not subject to regulation by the federal government
under the Commerce Clause of the U.S. Constitution. Courts followed that precedent for the
next 75 years. Then, in 1944, the U.S. Supreme Court reversed its 1868 ruling and held that
insurance was interstate commerce and subject to federal oversight. By that time, however,
the state insurance regulatory structure was well established, and a joint effort led by state
regulators and insurance industry leaders to overturn the decision legislatively led to the
passage of the McCarran-Ferguson Act of 1945. That act relinquished to the states federal
authority to regulate insurance, subject to “effective” insurance regulation by the states, and
granted a limited federal antitrust exemption to the insurance industry.
After 1945, the jurisdictional stewardship entrusted to the states under McCarran-
Ferguson was reviewed by Congress on various occasions. Each time proposals were made
to transfer insurance regulatory authority back to the federal government, they were met by
opposition from the states as well as from a united insurance industry. Generally, such
proposals for federal oversight spurred a series of regulatory reform efforts at the state level
and by the National Association of Insurance Commissioners (NAIC). Such efforts were
directed at correcting perceived deficiencies in state regulation in order to forestall a federal
regulatory takeover, and they were generally accompanied by pledges from state regulators
to work for more uniformity and efficiency in the state regulatory process.
A major effort to transfer insurance regulatory authority to the federal government was
undertaken in the mid 1980s, following insolvencies of several large insurance companies.
Representative John Dingell, who chaired the House Commerce Committee that had
jurisdiction over insurance, questioned whether state regulation was up to the task of
overseeing such a large and diversified industry. He conducted several hearings on the state
regulatory structure and also proposed legislation that would have created a federal insurance
regulatory agency modeled on the Securities and Exchange Commission (SEC). State
insurance regulators and the insurance industry opposed his proposal and worked together
on a series of reforms at the state level and at the NAIC, including a new state accreditation
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program setting baseline standards for state solvency regulation. Under those standards, in
order to obtain and retain its accreditation, each state must have adequate statutory and
administrative authority to regulate an insurer’s corporate and financial affairs and the
necessary resources to carry out that authority. In spite of such reforms, however, another
breach in the state regulatory system occurred in the late 1990s, when Martin Frankel slipped
through the oversight of several states and looted a number of small life insurance companies
of some $200 million. Such a breach was a major embarrassment to state regulation, but it
did not have a long-term impact or bring additional calls for a federal regulatory system.
Factors Promoting Change
In 1999, Congress passed the Gramm-Leach-Bliley Act (GLBA – P.L. 106-102) which
instituted a massive overhaul of the federal laws governing U.S. financial institutions.
Support for the measure came largely as a result of changes in market forces, frequently
referred to as “convergence.” Convergence in the financial services context refers to the
breakdown of distinctions separating different types of financial products and services, as
well as the providers of once discreetly separate products. Drivers of such convergence are
generally considered to be such emerging market forces as globalization, new technology,
e-commerce, deregulation, market liberalization, increased competition, tighter profit
margins, and the growing number of sophisticated consumers. The goals behind these
driving forces, in turn, appear to be the increasing efforts of all financial services providers
to find growth, gain market share, create new revenue streams, and enter new markets. For
example, U.S. banks have looked to adjunct non-banking products such as insurance and
pension products to increase their profitability, pointing to European “bancassurers” that
generate 20% to 30% of their profits from the sale of insurance and investment products
integrated into core retail banking businesses.
GLBA repealed federal laws that seemed inconsistent with the way that financial
services products were actually being delivered, and removed many barriers that kept banks
or securities firms from competing with insurance companies. The result was the creation
of a new competitive paradigm in which insurance companies now find themselves in direct
competition with brokerages, mutual funds, and commercial banks. GLBA did not, however,
change the basic regulatory structure for insurance or other financial products. Instead, it
specifically reaffirmed the 1945 McCarran-Ferguson Act which had granted insurance
regulatory authority to the states, thereby recognizing state insurance regulators as the
“functional” regulators of insurance products and those who sell them. Some insurance
companies believe that in this new environment, state regulation places them at a competitive
marketplace disadvantage. They maintain that their new non-insurer competitors in certain
lines of products have far more efficient federally based systems of regulation, while they are
subject to the perceived inefficiencies of state insurance regulation, such as the regulation
of rates and forms as well as other delays in getting their products to market. For example,
life insurers with products aimed at retirement and asset accumulation must now compete
with similar bank products; however, banks can roll out such new products nationwide in a
matter of weeks, while some insurers maintain that it can take as long as 2 years or more to
obtain all the necessary state approvals for a similar national insurance product launch.
GLBA also addressed the issue of modernizing state laws dealing with the licensing of
insurance agents and brokers and made provision for a federal licensing agency, the National
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Association of Registered Agents and Brokers (NARAB), which would come into existence
only if the states failed to enact the necessary legislation for state uniformity or reciprocity.
State Regulatory Response
Following the passage of GLBA, state insurance regulators working through the NAIC
embarked on an ambitious regulatory modernization program in response to both the
mounting criticisms of state insurance regulation and the recognition of the growing
convergence of financial services and financial services products. In early 2000, NAIC
members signed a Statement of Intent: The Future of Insurance Regulation, in which they
pledged “to modernize insurance regulation to meet the realities of the new financial services
marketplace” and “to work cooperatively with all our partners – governors, state legislators,
federal officials, consumers, companies, agents and other interested parties – to facilitate and
enhance this new and evolving market place as we begin the 21st Century.” New NAIC
working groups were formed and charged with addressing the various changes needed to
implement those provisions of GLBA requiring regulatory action such as that needed to
prevent NARAB from coming into existence, and also to update and modernize state
regulation in other ways not required by GLBA but needed to deter growing industry support
for federal oversight. The NAIC’s new groups addressed such key issues as state privacy
protections, reciprocity of state producer licensing laws, promotion of “speed to market” of
new insurance products, development of state-based uniform standards for policy form
filings, and other proposed improvements to state rate and form filing requirements.
According to NAIC, the states are now well underway in their efforts to modernize state
regulation. NAIC maintains that states are better positioned than the federal government to
serve the interests of American insurance consumers, emphasizing that state regulators are
more able to make sure that the personal interests of consumers are not lost in the arena of
commercial competition. To support this position, the NAIC points out that during 2000, a
total of some 12,500 state insurance regulatory personnel were employed by the states at a
cost of $880 million, and the states handled approximately 4.5 million consumer inquiries
and complaints regarding their policies and their treatment by insurance companies and
agents. Also, it reports that as of May 2003 it had certified 38 states as reciprocal
jurisdictions – substantially more than the 29 states needed under GLBA to prevent the
establishment of NARAB. Critics note, however, that several large states, notably
California, New York, and Florida are not among this number.
The NAIC does concede that, in view of differing state legal systems, complete
uniformity may be an illusory goal, but state regulators believe that uniformity is not required
to maintain the level of effectiveness required by McCarran-Ferguson. The NAIC has
acknowledged, however, that the more national nature of life insurance products argues for
true uniformity. As a result, the NAIC recently endorsed an interstate compact to promote
regulatory uniformity for certain life insurance products, believing that such a compact is the
best mechanism to achieve uniformity within a state framework.
State regulators, in carrying out their pledge to modernize state insurance regulation,
hope to satisfy those within the insurance industry who feel that their needs would be better
served by a federal regulatory structure, or by a dual regulatory structure where insurance
companies could choose to be regulated either at the state or federal level. The insurance
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industry itself is divided, with smaller insurers committed to improving the state-based
regulatory structure, and larger insurers to supporting a dual regulatory system. Three
industry trade groups, the American Council of Life Insurers (ACLI), the American Insurance
Association (AIA), and the American Bankers Insurance Association (ABIA), have each
released draft legislation creating an optional federal charter for insurance companies. They
have recognized similarities among their proposals and interests and are now working
together to reach a common position. Other industry groups, including the Alliance of
American Insurers (the Alliance), the National Association of Independent Insurers (NAII),
and the National Association of Mutual Insurance Companies (NAMIC), are opposed to any
federal legislation, preferring that the needed regulatory improvements be made by the states.
Recent Legislative Activity
Formal Proposals
Legislation substantially changing the current regulatory structure for insurance has yet
to be introduced in the 108th Congress, although two far-reaching pieces of legislation were
proposed in the previous Congress.
Senator Schumer presented legislation in December 2001 to provide for an optional
federal charter for insurers; it was not assigned a number during the 107th Congress. The
legislation was modeled on the dual state/federal regulation that now exists for the banking
industry and would have enabled insurance companies and agencies to choose between state
and federal regulation. It would have created a new federal agency within the Treasury
Department to charter, license, supervise, and regulate insurers and agents electing federal
regulation. The new agency would also have had the powers to impose fees to fund its
operations, to establish solvency and accounting standards, to enforce market conduct
standards, to approve changes in control, and to license and regulate reinsurers. The
legislation would also have required all insurers electing federal regulation to participate in
either state insurance guaranty associations or a federal backup guaranty association. It
would not have given the new agency authority to regulate insurance rates or policy content,
nor would it have exempted federally regulated insurers from antitrust laws, except for very
limited purposes.

Representative LaFalce introduced H.R. 3766 in February 2002. It would have created
an optional federal charter for insurers, but not for insurance agents or brokers. Like Senator
Schumer’s proposal, it would have created a new federal agency within the Treasury
Department. It was generally similar to Senator Schumer’s proposal, but it differed in these
ways:
! H.R. 3766 would have allowed a federally regulated insurer to underwrite
both life insurance and property/casualty insurance in the same company.
! Though the new agency would have had general regulatory authority over
insurers electing federal regulation, only state insurance regulators would
have had authority to regulate rates.
! Though H.R. 3766 had no provision for the licensing of insurance
producers, the new agency would have had the authority to enforce rules on
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unfair and deceptive practices against state-licensed agents selling insurance
for federally regulated insurers.
! It would have encouraged federally regulated insurers to invest in the
communities where they sell policies.
! It would have required federally regulated insurers to file reports with
community sales data to combat insurance redlining.
There were no hearings, markups, or committee reports on either Senator Schumer’s
proposal or on Representative LaFalce’s H.R. 3766 during the 107th Congress.
Hearings
Continuing previous interest from the 107th Congress, the House Financial Services
Subcommittee on Capital Markets, Insurance, and Government Sponsored Enterprises held
its first hearing on insurance issues during the 108th Congress on April 10, 2003, entitled:
"The Effectiveness of State Regulation: Why Some Consumers Can’t Get Insurance."
Witnesses at the hearing addressed the general financial challenges facing the insurance
industry as well as specific states’ market experiences. A particular focus was on various
states’ regulatory policies. Positive experiences were highlighted in states, such as Illinois
and South Carolina, which have less regulation, especially less direct regulation of rates.
Negative experiences were highlighted in states, such as Louisiana and New Jersey, which
have a greater amount of regulation and generally require prior approval for insurance rates.
Much of the questioning revolved around what sort of role the federal government
might play in this area that has traditionally been left to the states. General support was
expressed for continuing a state role in regulation of insurance, but various ideas for federal
intervention were mentioned, including an optional federal charter, direct federal preemption
of some state regulation, and a NARAB-like approach where threatened federal preemption
might lead to changes by the states themselves. Chairman Baker closed the hearing by
indicating that he did feel that modifications to the current system were in order, but that the
shape of these modifications are yet to be determined.
The House Financial Services Subcommittee on Oversight and Investigations also held
a hearing addressing insurance issues. The May 6, 2003 hearing was entitled "Increasing the
Effectiveness of State Consumer Protections.
" This hearing focused on market conduct
examinations, which are exhaustive reviews by state insurance regulators of individual
insurance companies’ business practices and policies. The General Accounting Office
(GAO) and the National Council of Insurance Legislators (NCOIL) separately have been
studying issues relating to market conduct regulation and both presented preliminary findings
of their studies at this hearing. There was general agreement among the witnesses that the
current system of market conduct regulation needs improvement. Of particular concern was
the lack of uniform standards and coordination between the states in how and when the
examinations are conducted. Both NCOIL and NAIC are undertaking efforts to improve the
current system. Questions were raised by GAO, however, as to the effectiveness and speed
of these efforts; even when NCOIL or NAIC produce model legislation or practices, these
must be then adopted by each state individually. Continued state regulation was strongly
defended, but it was suggested that continuing congressional pressure might be necessary to
encourage adoption of suggested changes.
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Possible Future Legislative Activity
The Terrorism Risk Insurance Act of 2002 (TRIA), which created a federal backstop
for insured terrorism losses, offers a new challenge for state regulation and may affect the
debate over the effectiveness of state regulation. Under TRIA, the Secretary of the Treasury
will administer the backstop program but states will continue to regulate the business of
insurance. Some advocates of optional federal regulation of insurers anticipate that state
regulation may fail to provide uniformly available and affordable terrorism insurance.
Proponents of exclusive state jurisdiction anticipate that state regulation will prove adaptive
to local circumstances and therefore successful in providing coverage for terrorism insurance.
This debate may surface once Treasury completes its studies due under TRIA.
Other issues may arise during the 108th Congress that insurers favoring an optional
federal charter will present as support for their position. These include privacy of medical
and financial information generally, the lack of uniform protection among the states for that
information, and insurers’ use of credit scoring in underwriting automobile and homeowners
insurance. It is likely that all these issues – including the effectiveness of state insurance
regulation – will be raised during the oncoming debate over whether to renew the preemption
in the Fair Credit Reporting Act for sharing credit information among affiliates.
FOR ADDITIONAL READING
For additional information on the background of state insurance regulation and
proposals before Congress, see CRS Report RS21153, Optional Federal Chartering for
Insurers: Legislation and Viewpoints
, by S. Roy Woodall, Jr.
For additional information on the major insurance industry groups and how they differ
in their positions on federal chartering of insurers, as well other organizations with an interest
in federal chartering and regulation of the insurance industry, see CRS Report RS21172,
Optional Federal Chartering for Insurers: Major Interest Groups, by S. Roy Woodall, Jr.
For additional information on P.L. 106-102, see CRS Report RL30375, Major Financial
Services Legislation, The Gramm-Leach-Bliley Act: An Overview, by William D. Jackson
and F. Jean Wells.
For additional information on insurance scoring see CRS Report RS21341, Credit
Scores: Credit-Based Insurance Scores, by S. Roy Woodall, Jr.
For additional information on financial privacy laws and the Fair Credit Reporting Act,
see CRS Report RS21427, Financial Privacy Laws Affecting Sharing of Customer
Information Among Affiliated Institutions
, by M. Maureen Murphy.
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