Insurance Commissioner Dave Jones issued a sweeping condemnation of the way Berkshire Hathaway’s (BRK.A NYSE) Applied Underwriters subsidiary has been doing business with its EquityComp program in California. He said it is a warning to other carriers which are not filing collateral or ancillary agreements which change rates, terms or other policy provisions before imposing them on California employers.
Jones cited Applied Underwriters’ attempt to “mislead” the department and to “circumvent state regulation” as part of his justification for declaring the Reinsurance Participation Agreement that is the Applied Underwriters’ EquityComp Program void and unenforceable in a precedential decision. It is expected to be the first of actions against the now embattled carriers. There are links to the original Shasta Decision and the Order making it a Precedential Decision in our resources section and at the end of the story.
The Commissioner and Department found the Applied Underwriters’ EquityComp Reinsurance Participation Agreement void as a matter of law and cite analogous case law as support.
The decision can be interpreted effectively a cease and desist notice although a formal cease and desist requires notice and hearing. But it’s hard to imagine any broker risking its license by selling or renewing a contract that the Department has now confirmed is void and unenforceable.
“The bottom line here and what makes this so important is that an insurance company implemented an elaborate scheme that involved shifting risk back to the businesses that it was insuring, charging different rates and imposing new policy terms none of which were filed with the California Department of Insurance,” Jones noted. Commissioner Jones says he also ordered the department to take affirmative actions against Applied, its licensed carrier California Insurance Company, that could and likely will include market conduct examinations, financial examinations, and potentially enforcement actions.
Jones’ staff refer to him as “the Commissioner of Action” therefore Workers’ Comp Executive expects that it is action we will see.
“This important case of first impression concerns unfiled and unauthorized workers’ compensation insurance programs involving unauthorized rates and other terms contained in unauthorized collateral or side agreements,” Jones said in announcing his decision in Shasta Linen v. California Insurance Company. Jones sided with the small company who took on Berkshire Hathaway.
“It’s only down the road that businesses find out that it has entered into an insurance program that costs much more than it anticipated, one where there are penalties for non-renewal or cancellation, and one that requires any disputes to be resolved through arbitration outside of California and according to non-California law,” — Dave Jones
Jones notes the carrier would contract with businesses for insurance coverage and then require the insureds to sign an unfiled agreement [known as the Reinsurance Participation Agreement or RPA] that changed the terms of the original insurance policy.
“It’s only down the road that businesses find out that it has entered into an insurance program that costs much more than it anticipated, one where there are penalties for non-renewal or cancellation, and one that requires any disputes to be resolved through arbitration outside of California and according to non-California law,” Jones explained.
The condemnation came along with action in the form of a precedential decision in Shasta Linen Supply’s appeal to the department. The decision already been issued by Judge Karen Rosi Shasta case was made the law of the Department.
Commissioner Jones’ additional step of declaring the decision precedential means that the decision will control all future cases brought against Applied in the Department. Commissioner Jones says that an estimated 80% of California Insurance Company’s written business in California is tied to the EquityComp program. CIC is California’s seventh largest carrier
One can bet that outside lawyers will also use the decision in cases brought in the Superior and Appellate Courts.
“This decision can be used as either a shield or a sword,” says Carmel based attorney Larry Lichtenegger who has the most cases adverse to Applied. “As a shield to prevent Applied from enforcing any of its provisions such as forcing expensive arbitration under the RPA, enforcement of RPAs unconscionable cancellation fees, and if the insured chooses to prevent enforcement of Applied’s method of calculation of premium due under the RPA,” he says. “As a sword, an insured has several options. An insured can elect to rescind the RPA and pay the amounts due under the fixed cost policy, or ignore the RPAs illegality and sue Applied for fraud.”
Illegal Retro Plan
Applied Underwriters markets EquityComp as a profit-sharing program for employers, the terms of which are governed by a reinsurance participation agreement (RPA) issued by Applied Underwriters Captive Risk Assurance. That is not accurate, according to Commissioner Jones. Instead of being a reinsurance arrangement, the RPA is actually a retrospective rating plan.
“The term ‘retrospective rating plan’ means the premium is subject to the current loss experience of the insured. The terms of the RPA changed the premium based upon the cost of claims incurred during the term of the policy.” This second agreement [the RPA] rewrote Shasta Linen’s first [underlying CIC] workers’ compensation insurance policy, shifting the claims risk back to Shasta Linen, imposing new cancellation penalties and new non-renewal penalties, and had terms which denied Shasta Linen the protections of California law.”
Shasta was hit with a demand for an additional $250,000 bill when it did not renew its EquityComp policy, the Department notes.
Since Shasta Linen joined the EquityComp program in 2009, California Insurance Company wrote roughly $1.3 billion in California workers’ comp premium. CDI’s ruling notes evidence that approximately 80% of the company’s business in California was written through the EquityComp program. Applied also wrote other business through its SolutionOne program that allegedly uses [or used] similarly unfiled RPAs, but that program is not addressed in the decision.
Jones notes that since California Insurance Company implemented the EquityComp program and its shifting of risk back to the insured, the carrier’s loss ratios and overall profitability have improved dramatically. In the three years before it introduced EquityComp, CIC’s profits were $47 million. In the four years since introducing EquityComp the company’s profits were $220 million.
The carrier’s net loss ratio also fell from 77.7% to between 19% and 30% during the same period. The industry average net loss ratio is over 80%, Jones noted.
Attempt To Circumvent Regulation
In outlining his decision against Applied, Jones notes that the company’s own paperwork states that the intent of the EquityComp program was to circumvent state regulation. Jones points out that Applied Underwriters sought a patent for the program and filed an application with the U.S. Patent Office to protect. “The patent application indicated the objective of was to circumvent state regulation,” Jones noted. The patent can be found in our resources section; there is a link at the end of the story.
Moreover, Jones’ decision finds that California Insurance Company intentionally misleads the Department about how it was operating its business.
“California Insurance Company filed a reinsurance treaty with the Department stating that it was reinsuring its EquityComp business with AUCRA, [Applied Underwriters’ Captive Risk Insurance Company] ” Jones noted. “California Insurance Company mislead the Department by not actually reinsuring the EquityComp program, but actually had AUCRA rewrite the insurance rates and contract directly with California businesses to participate in a retrospective rating plan and loss sensitive program where businesses were required to make substantial payments for their claims.”
Not Valid Reinsurance
Jones also clarified that the relationship between CIC and AUCRA is not a valid reinsurance arrangement. “Reinsurance, as required by California law, is only to be used as insurance for insurance companies, not to be used by insurance companies to rewrite the rates and premium with policyholders,” he says. Jones also notes that the state’s filing requirements are there to ensure that carriers remain solvent and are charging rates fairly and consistently – something it was not afforded the ability to do when the EquityComp program documents were never filed with the state.
Jones’ decision relieves Shasta Linen of the obligation of having to make any payments beyond what would have been required under the original issued by California Insurance Company. Additionally, he ordered Applied to repay any amounts in that Shasta paid in excess under the guaranteed cost policy. “Any additional remedies to which Shasta Linen is entitled based upon CIC’s conduct are outside the scope of this proceeding,” Jones noted in the decision.
Applied Underwriters can and is expected to appeal the decision to the California court system. The California Department of Insurance can and is expected to institute more and potentially stronger actions against Applied Underwriters and California Insurance Company and other related entities.
Filed in San Francisco by Brad Cain and in Sacramento by Dale Debber.
See other stories about Applied Underwriters here.