Insurance Regulation: Background and Issues

Insurance Regulation: Background and Issues

Order Code IB10106
CRS Issue Brief for Congress
Received through the CRS Web
Insurance Regulation:
Background and Issues
Updated September 29, 2003
Baird Webel
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
Legislation
Hearings
Possible Future Legislative Activity
FOR ADDITIONAL READING

IB10106
09-29-03
Insurance Regulation: Background and Issues
SUMMARY
Insurance companies make up a major
products aimed at retirement and asset accu-
segment of the U.S. financial services indus-
mulation must now compete with similar bank
try. However, unlike banks and other finan-
products. While banks can roll out their new
cial institutions that are regulated primarily at
products nationwide in a matter of weeks, it
the federal level, insurance companies are
sometimes takes 2 years or more for an insurer
regulated by the states. As financial services
to obtain the necessary state approvals for a
have converged in response to globalization
national launch of a similar product. As a
and other market factors, the seemingly arbi-
result, many insurers selling such products are
trary distinctions separating various financial
calling upon Congress to pass legislation
products and services, as well as their provid-
reinstating the federal government’s insurance
ers, have broken down.
regulatory role.
In 1999 Congress passed the Gramm-
Legislation
presented
in
the
107th
Leach-Bliley Act (GLBA) to reflect market-
Congress
was
modeled
on
the
dual
place changes and to overhaul the laws gov-
state/federal regulation that now exists for the
erning financial institutions.
Rather than
banking industry. The 107th Congress did not
changing the regulatory structures for the
address either measure, but it is anticipated
various financial institutions, GLBA embraced
that proposals for increased federal involve-
the concept of “functional” regulation.
It
ment in insurance will garner some consider-
specifically reaffirmed the regulation of insur-
ation in the 108th Congress. The only such
ance by the states as granted by the 1945
proposal introduced in the 108th Congress to
McCarran-Ferguson Act. Since 1945 Con-
this date is a bill by Senator Hollings, S.1373,
gress has reviewed the jurisdictional steward-
which calls for mandatory federal regulation
ship entrusted to the states under McCarran-
of interstate insurance rather than the optional
Ferguson on various occasions.
Until re-
charter envisioned in the 107th Congress bills.
cently, however, efforts to transfer insurance
regulatory authority back to the federal gov-
Finally, the sunset of the Fair Credit Reporting
ernment were opposed by both the states and
Act’s (FCRA) preemption of state laws has
a united insurance industry.
sparked a debate over who should regulate
insurers’ use of medical and financial infor-
Some insurers now claim that in view of
mation.
Insurers’ use of credit scoring in
the growing convergence of financial services
underwriting homeowners and automobile
and products, they find themselves at a com-
insurance has been particularly addressed
petitive disadvantage because of the ineffi-
through committee amendments to H.R.2622,
ciencies associated with being regulated by the
a bill amending and extending portions of the
states.
For example, life insurers selling
FCRA.
Congressional Research Service
˜ The Library of Congress

IB10106
09-29-03
MOST RECENT DEVELOPMENTS
On September 23, 2003, the Senate Banking Committee marked up in Executive
Session the “National Consumer Credit Reporting System Improvement Act,” which has yet
to be introduced. Following this markup, the bill reportedly includes a provision calling for
a study that would include the negative aspects of the use of credit scores, such as insurers’
using credit scores to increase insurance premiums. On July 25, 2003, the House Financial
Services Committee reported H.R.2622, amending the Fair Credit Reporting Act. Among
other provisions, it includes a mandated study on insurers’ use of credit scores in setting
insurance premiums. On July 8, 2003, Senator Hollings introduced S.1373, a bill providing
for federal regulation of interstate insurance sales. S.1373 was referred to the Senate
Committee on Commerce, Science, and Transportation. The House Financial Services
Committee has also begun a series of hearings on insurance issues 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.
CRS-1

IB10106
09-29-03
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
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
CRS-2

IB10106
09-29-03
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
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
CRS-3

IB10106
09-29-03
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
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
Legislation
During the 107th Congress, two formal proposals were advanced providing for an
optional federal charter for insurers. Senator Schumer presented legislation in December
2001, which was not assigned a number, while Congressman LaFalce introduced a bill in
February, 2002, which was designated H.R.3766. While the two pieces of legislation
differed in their particulars, they both were roughly modeled after the current dual
state/federal regulatory system that exists for the banking industry. Such a system allows
institutions to be chartered at either a state or a federal level and would have enabled
insurance companies to choose between state and federal regulation. There were no hearings
for markups on either legislation during the 107th Congress. Senator Schumer has not
reintroduced such a bill in the 108th, while Congressman LaFalce retired following the 107th
Congress.
On July 8, 2003, Senator Hollings introduced S.1373, “A bill to authorize and direct the
Secretary of Commerce, through an independent commission within the Department of
Commerce, to protect consumers by regulating the interstate sale of insurance, and for other
purposes.” S.1373 creates a federal commission within the Department of Commerce to
regulate the interstate business of property/casualty and life insurance and requires federal
regulation of all interstate insurers. It thus preempts most current state regulation of
insurance. Single state insurance companies would continue to be regulated by the state
where the company is domiciled and operates. The federal commission would have full
regulatory powers, including licensure, rate and form approval, regulation of solvency, and
regulation of market conduct. S.1373 also repeals the antitrust exemptions in the McCarran-
Ferguson Act and creates a federal guaranty fund. S.1373 was referred to the Commerce
Committee; no hearings have currently been scheduled.
CRS-4

IB10106
09-29-03
Following a wide-ranging series of hearings and two markups, the House Financial
Services Committee reported H.R.2622 amending the Fair Credit Reporting Act on July 25,
2003. While the FCRA’s primary focus is on the regulation of credit information, the usage
of this information by insurers has drawn congressional interest. Congressman Gutierrez
previously introduced H.R.1473 to specifically regulate insurers’ use of credit information
and he offered an amendment at the subcommittee markup of H.R.2622 calling for a study
of the usage of this information. This amendment was accepted and included in the bill as
reported from committee.
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.
CRS-5

IB10106
09-29-03
Possible Future Legislative Activity
Issues that may capture attention during the 108th Congress and be used in debates
regarding federal chartering of insurance 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.
In addition, Treasury will be completing its study, under the recently enacted Terrorism Risk
Insurance Act of 2002 (TRIA), on the availability of group life insurance post September 11,
2001; whatever the study reports, it is likely to be used in the ongoing debate over how to
regulate insurers.
FOR ADDITIONAL READING
For additional information on the background of insurance regulation and proposals
before previous Congresses, see CRS Report RL31982, Optional Federal Chartering for
Insurers: History and Background of Insurance Regulation, by Carolyn Cobb.
For additional information on the major insurance industry groups and their positions
on federal chartering and regulation of the insurance industry, see CRS Report RS21172,
Optional Federal Chartering for Insurers: Major Interest Groups, by Baird Webel.
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 Baird Webel.
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.
CRS-6