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John J. O’Brien J.D., C.L.U., C.P.C.U. Insurance Consultant and Expert Witness 4862 Marshwood Drive Hollywood, South Carolina 29449 (843) 571-0407 http://expertwitnessinsurance.info Bachelor of Arts/Pre-Law LaSalle University Philadelphia, Pennsylvania J.D.University of Tennessee Knoxville, Tennessee Chartered Life Underwriter American College for Life Underwriting Bryn Mawr, Pennsylvania Chartered Property and Casualty Underwriter The American Institute Malvern, Pennsylvania Candidate for Associate in Marine Insurance The American Institute The Chartered Property and Casualty Underwriter and Chartered Life Underwriter Designations were earned by completing five year courses of study for each designation consisting of study and testing on ten different areas of each discipline as well as meeting the experience standards and ethics standards of the American Institute and the American College. Memberships: United States District Court/Eastern District of Pennsylvania Bar/South Carolina; State of Minnesota (inactive); South Carolina and Pennsylvania (inactive) Bars; Consulting, Litigation, & Expert Witness Section of the American Society of Property and Casualty Underwriters; Law Committee of the International Claims Association-prepared national survey of law on misrepresentation as a defense in life insurance litigation; 1994 to present Insurance Committee of the South Carolina Bar Association; 1992 Insurance Law Committee of The Pennsylvania Bar Association; 1994-1996 Property Insurance Law Committee of the Tort and Insurance Practice Section of the American Bar Association; Federation of Insurance Counsel; Claims Section of the Society of Chartered and Property Underwriters; Expert and Consultant Section of the Society of Chartered and Property Underwriters Association, Captive Insurance Companies Association and South Carolina Captive Insurance Association, American Society of Chartered Life Underwriters. Writings: Consultant to authors of The Legal Environment of Insurance, Vol. I & 2 1993 and Bad Faith Denial, South Carolina law student text; Author "Subro Shorts"- monthly news letter addresses legal issues facing insurance industry. Author of Articles- "Bermuda-New Opportunities for Self Insurance Markets"; "Charleston, South Carolina as a Situs for Captive Insurance Companies", "Ignoring Subrogation Means Lost Opportunity" Business Insurance January 16, 1995." “O’Brien and Hennessy Subrogation Education Series Give Yourself the Edge When Filing An Inter-Company Arbitration Submission". “Insuring through Segregated Cells in the U.S.- Will Our Firewalls Stand Up.”, Risk Retention Groups and Purchasing Groups in a Nutshell, Subrogation a Missed Opportunity, IRMI Captive Insurance Company Reports, “Distinct Subrogation Issues: Pandora’s Box,” by John J. O’Brien JD, CLU, CPCU, O’Brien and Hennessy Education Series, Volume 1, Subject 2.    Insurance Articles have appeared in the National Underwriter, Business Insurance, The Philadelphia Business Journal, Captive.Com, Captive Insurance Company Reporter, IRMI, the Risk Retention Reporter, The Charleston Business Journal, Best’s Insurance and Insurance Arbitration Forums Inc. Seminars: Have conducted insurance seminars at American International Group, Penn Mutual Insurance Company, Farm Bureau Insurance, Sentry Insurance Group, Commercial Union, Virginia Farm Bureau, Collections By Counsel, Inc. and Penn National Insurance Company, South Carolina Captive Insurance Association, Bermuda Captive Insurance Conference, World Captive Forum, Nevada Captive Insurance Company Conference and other companies and conferences. Have addressed agent’s groups and taught courses in life and health insurance with the Philadelphia Insurance Society and taught courses as part of the American College C.L. U. curriculum Faculty: Adjunct Faculty at the College of Charleston in Risk Management and Insurance. Board Memberships: International Center for Captive Insurance Education, Positive Physicians Risk Retention Group, First Keystone Risk Retention Group, Red Clay Risk Retention Group, Grand Strand Captive Insurance Company, O’Brien Clan Foundation, and Leader Care Insurance Company. Legal Experience: Advised Individuals on Insurance Matters as part of my Law Practice and reviewed Estate Plans for Individuals and worked with their financial advisors. Past Senior Partner/President of O'Brien and Hennessy Group. Represented over one hundred self insure and insurance companies on insurance subrogation and insurance coverage issues. As such we litigated insurance coverage and insurance subrogation matters including agent's liability matters. We also submitted matters involving disputes between insurance companies to inter-company arbitration and mediation. As member of the Pennsylvania and South Carolina Bars participated in numerous trials involving insurance issues. Handled Legal Matters for Captive Insurance Companies including establishing the legal entities. Insurance Experience: Over thirty years of experience in insurance law. Taught Insurance Law with The Philadelphia Insurance Society and with the Philadelphia Association of Chartered Life Underwriters. Guest Lecturer 1995-1997 Risk Management- Legal Issues, College of Charleston, Charleston, South Carolina; Guest Speaker - Philadelphia Claims Association - Bad Faith Punitive Damages Post Fletcher. Licensed as an insurance agent for life and health. Speaker - Las Vegas, Nevada, Using the Internet for Insurance Research. Past Chairman- South Carolina Captive Insurance Association. Board Member- National Association of Subrogation Professionals – Recipient of 2002 President’s Award. Former chairman of the South Carolina Captive Insurance Association. Established Captive Insurance Education Certificate Program at the Tate Center, College of Charleston. Recipient of Life Time Achievement Award from South Carolina Captive Insurance Association. Expert Witness Experience: Have been qualified numerous times as an insurance expert in both state and federal courts on insurance, life and health insurance matters, duties and responsibilities of agents, commercial general liability policy, product suitability, insurance coverage bad faith and claims handling matters. Chief Executive Officer- Charleston Captive Management Co., Manage Insurance Companies and Self Insurers in the State of South Carolina, Nevada and at offshore locations. See http:// www charlestoncaptive.com. Founded the first Captive Insurance Management Company in South Carolina which I sold in 2005 to Wilmington Trust Company. From 2005 to 2007, served as Vice President of Wilmington Trust introducing the company to the insurance management business. Served as Executive Vice President of Definitive Captive Insurance Management Company. Serve as board member for various alternative risk companies and as board member of the Vermont International Center for Captive Education and instructor for the Ethics Course. Developed the ICCIE Course on Captive Governance. Serve now as a consultant and insurance expert witness and advise self insurers and captives on formation, service providers, domicile selection and operation and corporate governance. Board Memberships: Leader Care Insurance Company, First Keystone Risk Retention Group, Red Clay Risk Retention Group, Positive Physicians Reciprocal, Grand Strand Captive Insurance Company, O’Brien Clan Foundation and International Center for Captive Insurance Education. Earlier Insurance Positions included: Vice President and General Counsel, American Patriot Insurance Co. (formed and licensed new insurance company including preparation and regulatory approval of all policy forms), claims counsel advised underwriting, claims, agency and policyholder service areas; Associate General Counsel of National Home Insurance Company (supervised litigation, handled relationship with state insurance departments and wrote industry's first easy to read insurance policy) served on claims committee - advised company on health and life insurance claims; Counsel of IDS Insurance Company (Now American Express Life) and Counsel of Colonial Penn Insurance Company (during this time I supervised claim litigation across the country and offered legal opinions on claim situations and insurance policy interpretations). Worked with agents across country in establishing insurance programs. Began insurance career as an insurance agent in Knoxville, Tennessee. As an expert witness offered opinion letters on coverage issues on the 1943 Standard Fire Insurance Policy and Extended Coverage Endorsement; Violation of Best Claim Practices,Standard Homeowners Policy; Bad Faith ERISA; Commercial Liability Umbrella Policy; Fresh Market Tomato Crop Insurance; Pollution Exclusion as Applied to Lead Poisoning; Standard Automobile Insurance Policy; Business Use Exclusion In Personal Automobile Policy. "Dailey-Sand" Uninsured Motorist Releases; Refusal to Settle within Policy Limits; Strict Liability/Product's Liability Coverage; Agents and Brokers Duties; Life Insurance Conditional Receipt: Bad Faith Refusal to Defend; Bad Faith Refusal To Pay; Intentional Act Exclusion; Respondeat Superior, Misrepresentation of Smoking on Insurance Application; Work Product Exclusion; Claims Handling Best Practices; Offer of Uninsured Motorist Benefit; Accidental Death; Incontestability Clause in Life Insurance Contract; Duties owed to Certificate of Insurance Holder under Commercial Liability Policy: Erisa Exception under Agent’s Error and Omission Policy; Business Exclusions Under Home Owner’s Policy; Mold Prevention in Fire Cases, Suitability of Annuity and Life Insurance Products, Claims Practices related to Health Insurance and Life Insurance, Professional Liability and Commercial General Liability Policy Coordination, Coverage Afforded by New Commercial Liability Policies related to Cyber Liability and Newly Created Coverages, and numerous other matters Current Practice: In 1993 after acquiring the CPCU designation began serving as an expert witness on insurance matters. During the next 15 years while leading the insurance law firm of O’Brien and Hennessy and building the insurance management firm of Charleston Captive Management as its owner and CEO also served as an expert in over 50 insurance matters testifying in state and federal court. These assignments ranged from coverage, underwriting, claims, suitability, best practices and broker’s activities. During this period studied and focused on best practices as they apply to all facets of insurance providers, insurance companies and insurance brokers and agents. After selling Charleston Captive Management to Wilmington trust focused on the introduction of Wilmington Trust into captive management as Vice President and also served on the boards of insurance companies and on the board of the International Center for Captive Insurance Education. These activities caused an interruption in accepting new expert witness work. At ICCIE, taught the course in ethics and developed a new course that focused on the operation of insurance companies and best practices from the perspective of the Board of Directors. After leaving Wilmington Trust became once again more active as an expert witness and while serving on boards of directors continuing a focus and study on best practices as they are applied to all facets of insurance company operation. This experience as an insurance attorney, in managing many insurance companies from organization through growth and operation including underwriting claims policy issuance and licensing assist to prepare one as an expert in the field of insurance. Serving as an active board member on five insurance companies and participating in operations, claims, underwriting, and administration and best practices as they apply particularly in insurance company operations allow one to qualify as an insurance expert. Current practice is centered in the areas of best practices in insurance company operations, expert witness and insurance company boards. I have testified in the following cases in the past four years:   Jill A. Stoller v. All American Plumbing et al. State of South Carolina, County of Beaufort Court of Common Pleas Case No: 2007-CP-07-2735; Benjamin Leake, et al. vs. American National Property & Casualty Co. State of South Carolina, County of Greenville Court of Common Pleas Case No: 2009-CP-23-2978 American Motorist Insurance Company, Inc. vs. Public Building Authority of the County of Knox et al, U.S. District Court- Civil Action No. 3:09-cv-00608 Cole Vision Corporation and Sears Roebuck & Company vs Steven C. Hobbs, O.D. and NCMIC Insurance Company, CP Sumter County, South Carolina Case No. 07-CP-43-500 Hill v. Fidelity Life Association, In the United States District Court for the District of South Carolina, Charleston Division, Civil Action No. 2:12-cv-1184-DCN. Renfrow Brothers, Inc. vs. Twin City Fire Insurance Company, In the United States District Court for the Spartanburg Division of South Carolina, C.A. No. 7:12-cv-02459-JMC Annette Parker v. Stonebridge Life Insurance Company, In the United States District Court for the Southern District of Mississippi Jackson Division; Case No: 3:12-cv-00070 TSL-JMR Emily Johnson v. Peter Strauss, Strauss Law Firm, Intercontinental Management, In the Court of Common Pleas of Beaufort County, South Carolina, Case No.: 2012-CP-07-869. List of Published Articles – John J. O’Brien JD, CLU, CPCU “Medical Malpractice Insurance Crisis: Alternative Risk Transfer Solutions, by John J. O’Brien JD, CLU, CPCU” Wilmington Trust Corporation, 2006. http:// published at captive.com/ medmalwhitepaper “Give Yourself the Edge When Filing an Inter-Company Arbitration Submission” By John J. O’Brien JD, CLU, CPCU, Arbitration Forums Newsletter, spring 2001. “Segregated Cell Captives: Are Our Firewalls Fireproof,” Captive Insurance Company Reports, May 2004, International Risk Management Institute, Inc. “Subrogation: A Missed Opportunity?” Captive Insurance Company Reports, November 2009, International Risk Management Institute, Inc. “Will the NAIC Guide lines “Crowd Out” RRGs Board of Directors Best Practices Along With the Best Independent Directors? By John J. O’Brien JD, CLU, CPCU, Risk Retention Reporter, April, 2011. “Risk Retention Groups in a Nut Shell, Your Guide to Understanding RRGS” By John J. O’Brien JD, CLU, CPCU, Published at the Document Library at TheFriendlySocietyRestored.Com “Protected Cell Companies: Firewalls Revisited, Captive Insurance Company Reports”, Captive Insurance Company Reports, April, 2008, International Risk Management Institute, Inc. “The Right People. The Right Board” presentation on insurance company board practices at World Captive Forum February 2, 2012 available at World Captive Forum.Com web site Course Material prepared for the following courses: Ethics and Captive Insurance Companies and Corporate Governance at the Board of Directors Level available through International Center for Captive Insurance Education.  

WHAT CAPTIVE INSURANCE COMPANY BOARDS OF THE FUTURE MIGHT LOOK LIKE John J. O'Brien JD CLU CPCU "More Fit and More Proper “ How has the small island of Bermuda managed to play such a large role in the world captive risk and insurance industry and carry it off with such a high degree of integrity? Some might conclude that surely there must be in place in Bermuda a highly funded and expansive regulatory body employing highly trained government employees from many disciplines. The reality is quite different. On their first visit to Bermuda, many American risk managers exploring the feasibility of a captive solution have found it hard to believe the insurance regulator works from a small office and with only a handful of staff. These Americans have learned that the Bermuda regulatory body from its inception has relied heavily upon the private captive insurance infrastructure as a vehicle for self regulation. Within the Bermuda infrastructure one finds at work significant numbers of knowledgeable risk professionals and a community of professional service providers for captives who are committed to best governance practices and the belief that boards of directors and management participation at every level be provided by “fit and proper” individuals. The Vermont captive industry patterned itself after Bermuda and met with success. Across the US, many states are rushing to grab their “piece of the captive pie” by passing captive domicile enabling legislation. This rapid growth in domiciles and the increased focus and demand for enhanced corporate governance requires us to take a serious look at the standards of regulation and self governance of this rapidly emerging industry in the U.S.. Perhaps there are some important lessons and guidance that mature and experienced domiciles can provide. Peering into the future and being forward thinking is a good thing. Fortunes can be made and tragedies avoided through intelligent planning. Also management has played an important active role by looking back and assessing the past performance and accomplishments of the entity they manage. Enhanced governance principals have brought not only stewardship responsibilities to management and boards, but also the responsibility of ensuring the survival of the entity into the future. Captive insurance company boards of directors are not exempt from this change in management perspective. Governance is becoming a popular topic and advocates are attempting to understand the likely make up or composition of future captive boards of directors. In some situations advocates are considering or mandating more independent directors in captive boards. What is driving this movement? Here are some of the facts being considered: More than 55% of commercially insured risks are now insured in alternative vehicles with continued growth expected. 60% of the U.S. states have passed some form of enabling legislation to facilitate the local establishment of captive insurance entities. c. Governance failures of public companies experienced over the past ten years including Enron and Lehman Brothers have led to calls for increased oversight – both federal and at the state level -- for financial and corporate entities, including insurance companies. One of the key pillars or best practices relates to the make-up or composition of boards of directors, along with recommendations or mandates for independent directors. d. There is clearly an evolution of corporate governance practices, and consideration is now being given to extending the regulatory requirements, considered to be best practice, to the governance of corporate subsidiaries, including captive insurance companies. e. Specifically, these governance concepts under consideration for captive insurance company management and governance resemble the processes that is applied and utilized in public, corporate companies. While the outcome of the debate and the imposition of regulatory requirements regarding governance is unclear, we can reasonable expect a higher standard of good governance and board responsibility in the regulation of insurance companies in general and extending to the regulation and governance of captive insurance companies specifically. In the regulatory and governance arena worldwide there are many organizations and players at work. A common theme emerging is the “fit and proper persons" criteria for management professionals, service providers and board of directors, as well. The term "fit" is said to apply to an individual’s education, training and experience while the term "proper" refers simply to the person's character. The intent is to ensure and demonstrate responsible behavior by all parties of commerce. After Enron, federal regulation, like Sarbanes Oxley, have required public companies to have independent directors. These concepts can be seen migrating to the governance of captive insurance companies. In the area of captive insurance companies, the future trend will likely define a fit board of director member not only as one with background and experience in measuring solvency (accounting) but also to have a working understanding of enterprise risk management and the actuarial sciences. Clearly, an independent director with such a background would be an asset to a captive because captive boards wrestle with issues surrounding enterprise risk management on a recurring basis. For example, when the captive board sets the confidence level for its reserves, it is being done by experienced insurance professionals who know what they are doing and the importance of their handling the job appropriately. Captives typically are part of a larger corporate family and risks exposure to the total enterprise should always be at the forefront. Captive boards and officers are usually part of a larger enterprise risk management team. Having the captive board members be fit and proper individuals is a good overall risk management approach and provides confidence to whole corporate organization. The current trends in corporate governance appear to becoming a reality in the EU with planned implementation of Solvency II. The current view is that captives will be required to have fit independent board members who can no longer hide and no longer delegate and to be considered fit to be capable of understanding enterprise risk management and actuarial reserving and the goal of establishing prescribed statistical confidence levels. Laying aside for a moment the issues of whether U.S. captives will eventually be required to meet such high standards as required by Solvency 11, no one should take issue with the belief that having a captive insurance company board member or members with enterprise risk management and actuarial science background would add value to the captive. The insurance professionals who built the Bermuda "self- governing” industry, were trained and seasoned insurance professionals. They understood risk and insurance and were concerned that all who were involved did so with the highest legitimacy. Bermudian insurance professionals learned from the start of their careers that they had kjoined a unique industry where their actions towards others are governed by the standard of utmost good faith. Insurance products are sold because they were suitable to the needs of the customer. Insurance claims are paid because the company is in the business of paying claims and a first or third party is counting on the company for this payment during their time of need. This model provides a template for our industry. Captive board members are called upon to serve others in an industry where lack of integrity of any kind is to be avoided. We are fiduciaries who are pledged to always follow the high road. We should expect the "fit" insurance professional who would qualify to serve on a board to also a "proper "person. Corporate America arguably has lost its way in sustaining a highly ethical culture and as a result it is suffering the consequences of increasing regulatory oversight directed particularly at the makeup, operation and responsibilities of corporate boards. Looking forward we can reasonably see governance standards and regulations extending to the boards of captive insurance companies. There are many fit and proper candidates who understand and embrace the increased responsibility and are anxious to make a lasting contribution in exchange for the opportunity to practice their trade with like minded insurance professionals. The captive insurance industry should give high priority to having more fit and more proper independent directors on captive boards without regulatory intervention. Good governance after all is good business. Enterprise risk management is the wave of the future. Does it not make sense for our industry to be proactive and get underway today enlisting more fit and more proper independent directors who understand enterprise risk management?

World Captive Forum -Independent Director Presentation

ANNOUNCEMENT

I'M VERY EXCITED ABOUT THE START UP OF OUR LINKED IN GROUP THAT ADVOCATES EXPANDED USE OF INDEPENDENT DIRECTORS BY INSURANCE COMPANIES, CAPTIVES, RISK RETENTION GROUPS AND RECIPROCALS. WE NEEDED TO CREATE A LIBRARY OR SOURCE FOR ARTICLES THAT HAVE BEEN WRITTEN BY PROFESSIONALS ON THE SUBJECT OF BOARD GOVERNANCE AND INDEPENDENT DIRECTORS THAT ALL CAN ACCESS. AFTER STUDY VARIOUS WAYS TO ACCOMPLISH THIS, I'VE DECIDED THAT AT LEAST ON A TEMPORARY BASIS WE COULD USE THIS BLOG SPOT. SO PLEASE BE PATIENT WITH ME AS WE GET UNDERWAY AND BEGIN POSTING ARTICLES HERE.

My Best,

John

INDEPENDENT CAPTIVE BOARD MEMBER, EXPERT WITNESS,SPECIAL ARBITRATION SERVICES
INDEPENDENT CAPTIVE BOARD MEMBER, EXPERT WITNESS,SPECIAL ARBITRATION SERVICES

INDEPENDENT CAPTIVE BOARD MEMBER, EXPERT WITNESS,SPECIAL ARBITRATION SERVICES
John J. O’Brien JD, CLU, CPCU is an independent captive board member, an attorney and insurance specialist with over thirty years experience in insurance, captive insurance, trial practice and insurance law. He believes that a truly active and insurance qualified independent board member can make a significant contribution to the success of a captive, a reciprocal or a risk retention group. He has written extensively on risk, insurance and captive insurance and addressed conferences nationwide and testified as an insurance expert in state and federal courts. He is Adjunct Professor of Risk Management and Insurance at the College of Charleston. Many of his writings are available through a Google search of John J. O’Brien JD, CLU, and CPCU.John is a native of Philadelphia and a graduate of La Salle University. He earned his law degree at the University of Tennessee. He began his insurance career as an insurance agent and during the course of his professional career, he has served as Vice President and General Counsel of American Patriot Insurance Company, Associate General Counsel of National Home Insurance Company, Counsel at IDS Insurance Company (now American Express ), and Counsel at Colonial Penn Insurance Company. He founded O’Brien and Hennessy, a leading national insurance subrogation law firm, and served on the board of the National Association of Subrogation Professionals.He has tried many civil and criminal cases including medical malpractice cases. He is a licensed attorney in South Carolina providing corporate legal services and resident agent services primarily to South Carolina domiciled captive insurance companies.In the 1980s he served as Council President of a leading Pennsylvania municipality. At the time, the availability crises for police liability insurance led him to explore the feasibility of forming a group captive or purchasing group for municipalities to provide this coverage and served as his introduction to Bermuda and captive insurance.Generally acknowledged as one of the earliest proponents of the captive industry in South Carolina, he founded the first captive insurance management company (Charleston Captive Management Company) in the state. He helped form the South Carolina Captive Insurance Association serving as president and a member of the board of directors. He was instrumental in establishing the Captive Insurance Education Certificate Program in Charleston and in the formation of the Friendly Society Restored, an organization composed of captive service providers in South Carolina. He is a member of the board of directors of The International Center for Captive Insurance Educational and an instructor of ICCIE’s course in professional ethics. He is a member of the insurance committee of the South Carolina Bar Association.He serves as a consultant in the areas of corporate governance and regulatory liaison and board member to a rapidly growing transportation risk retention group.He has participated in the establishing of many captive insurance companies and risk retention groups. John focuses his health care captive consulting on adding value to the formation and ongoing operation of risk retention groups and reciprocals through attention to patient care first as well as wealth accumulation and preservation for physicians through loss control and well proven formulas for success. He serves on the boards of several leading healthcare captives and risk retention groups ranging from nursing home professional liability to physician malpractice groups.He has testified in state and federal courts on insurance matters including matters relating to proper claims handling of both life and health insurance claims as well as casualty claims. He has served as claims attorney for leading carriers.He formed and owned the first captive management company in South Carolina. The company he founded, Charleston Captive Management Company, was purchased by Wilmington Trust in 2005. After assisting Wilmington Trust as Vice President during its entry into captive insurance management, in 2007 he launched his insurance consultant practice which he advises clients on the formation and operation of captives, reciprocals, purchasing and risk retention groups, serves as an independent board member, offers expert testimony and handles special intercompany arbitration matters for captives.John J. O’Brien JD, CLU, CPCUA Professional Corporation4862 Marshwood DriveHollywood, South Carolina 294481-843-571-0407Email: lionsthree@aol.com 9:24:00 AM by lionsthree Delete
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THIS IS A GREAT ARTICLE EXPLORING WHY HIGHLY MOTIVATED AND ETHICAL INDIVIDUALS STILL SEEK BOARD POSITIONS. THANK YOU TO THE AUTHORS and http://deloitte.12hs.com/S1/TJ4SHC59C4JSW8/M/ Deloitte Corporate Governance Newsletter where the article was published.

"While experienced executives continue to see great value in serving
on a corporate board, they want to serve on the right board. In general,
directors want to join boards where they will have the opportunity
to learn, where their talents and expertise will be valuable and
where they can make a difference to the company. They want to be a
part of a high-performing team and respect the people they areworking with on the board and in management."

susan s. boren, Minneapolis/St.Paul
will dawkins, London
phil d. johnston, San Francisco
bertrand richard, Paris
Directors’ motivations for
joining a board

Why they still do it
Despite the occasional anecdote about a director vowing never to join another public
company board, experienced directors are not fleeing boards in droves. Yet, one could
be forgiven for assuming that at least a few directors are asking if board service is
still worth it, in light of the sky-high expectations on them, the significantly greater
time demand and the challenge of keeping up with the dizzying pace of business.
Several forces have converged to make board service more complex and challenging today:
New regulatory requirements. The global financial crisis and isolated business scandals have renewed focus on
board governance and, in some places, led to new governance rules and requirements. Regulations differ by country and
region, but many of the new requirements center on a few areas: board composition, director qualifications, executive
compensation and risk management. While it may be too soon to know the impact of regulatory changes on board composition
and operations, some directors fear that the balance of the new governance rules “is tipping from substance to
form, and regulation has now tipped to incompetent intrusion.”
Shareholder activism. Investors are pushing for more influence on key issues, including board composition and executive
compensation — and, occasionally, gaining new tools to exert their views, such as the new proxy access provision
in the U.S. While many directors welcome the increased dialogue with investors, there are frustrations: the check-the-box
mentality of some institutional shareholders, the vast influence of ratings agencies and the pressure for immediate and
unsustainable results.
A higher degree of scrutiny. Ten years ago, the chances of a
board of directors becoming front-page news were slim. Today,
when a business faces a crisis or erosion in performance, the
board’s action — or inaction — is examined nearly as closely as the
CEO’s. As one director observed: “There’s no hiding anymore.”
A growing agenda. Boards are spending more time discussing
issues such as risk, executive compensation, the environment and
corporate responsibility, as directors take a more expansive view of
their responsibilities. The financial crisis and economic downturn
elevated the importance of risk and remuneration in the boardroom,
but directors also feel pressure to take on issues such as the environment
and corporate ethics in response to their growing visibility
with investors and society as a whole.
Changing board dynamics. Finally, boards themselves have
changed. As a result of increased specialization, the growth in the
number of first-time directors and greater gender, ethnic and geographic
diversity, directors find fewer people “just like me” seated
around the board table. Led by the chairman or lead director, the
board has to create an environment that harnesses these different
perspectives. And, with so many responsibilities, directors are holding
each other to higher standards. “Accountability is far greater
today, and that has real implications for the involvement of board
members. A board member who doesn’t work is immediately detected,
as well as an incompetent one, which was not always the case
before. Board meetings are no longer a club meeting,” said
Christine Morin-Postel, currently a board director of British
American Tobacco, Exor and Royal Dutch Shell.
what do directors want? priorities
for serving on the right board
The current environment creates some real challenges for boards that
need to recruit directors. Because of the scrutiny on them, boards
must be very thoughtful about defining the necessary skill-sets for
new board candidates and recruit directors who have those skills and
a reputation for working hard, contributing to board discussions and
respecting management and their colleagues on the board.
As important as it is for boards to carefully define the capabilities
and qualities of the ideal board candidate, boards also must remember
that director candidates weigh a variety of professional and personal
priorities when considering an invitation to join a board.
Understanding what’s important to director candidates will be increasingly critical to recruiting new board members.
So, why do directors join a board?
Directors tell us that they find great professional satisfaction from
contributing to the performance of a company and personal satisfaction
from challenging themselves in a new situation.
“Certainly, part of the reward is yourself versus all the challenges
we’ve been talking about. Can you do this? Can you be effective in a
new context?” said Chris Gibson-Smith, chairman of the London
Stock Exchange. “Another reward is the opportunity to learn. If we
think of ourselves in medieval terms, we go on an apprenticeship
and eventually become a master craftsman, but the journey never
stops. That’s rewarding.”
For John Wiehoff, chairman and CEO of C. H. Robinson and a director
on the Donaldson and Polaris boards, an important reward for
serving on an outside board has been the insight he has gained to
improve how he works with his own board. “Board service has
taught me to simplify and prioritize with my board. I’ve learned as a
director that it’s very challenging to stay on top of things in between
meetings. As a CEO, I’ve had to learn that even though my directors
are very smart, committed people, they can’t be expected to remember
the details of my business.”
While experienced executives continue to see great value in serving
on a corporate board, they want to serve on the right board. In general,
directors want to join boards where they will have the opportunity
to learn, where their talents and expertise will be valuable and
where they can make a difference to the company. They want to be a
part of a high-performing team and respect the people they are
working with on the board and in management.
We hear from director candidates that the intangible rewards of
board service — affiliation with highly respected companies and
other directors, exposure to other governance processes and the
opportunity to gain new ideas valuable to their own company —
continue to be important factors in the decision to join a board. For
most director candidates, choosing the right board involves a formula
with multiple factors. Below are a few of the most common:
Industry and company size. For many directors, a company’s
industry sector is one of the most important considerations. Is the
industry interesting to them? What they can learn from it? Do they
have experience in the industry? Director candidates also may look
at the regulatory framework governing the industry or the issues the
industry faces. For many director candidates, especially those who
are active executives, the ideal match is with a company in a complementary
industry, such as an industry experiencing similar
growth patterns or addressing similar challenges.
Company size also can be a consideration. Depending on a director’s
interests, he or she may prefer a board assignment with a large
company for the exposure to world-class executives and directors
and the opportunity to tackle complex global issues, or a small company
assignment for the cutting-edge technology or ability to have a
larger-sized impact. Some director candidates view their board work
in terms of building a portfolio of assignments with different sized
companies and in different industries.
The fit with the CEO and chairman. Comfort and compatibility
with the CEO and the chairman also are very important considerations
for most director candidates. Experienced directors advise
director candidates against joining a board where they have questions
about the performance or the ability of the CEO, or if they get
the sense that he or she doesn’t value the board and its role in the
company. Said one director: “Unless it’s a role that requires the
removal of management, I wouldn’t work in a company where I
don’t think I’ll get on with the chief executive.”
The quality of the governance. Directors want to join a well-functioning
board that plays the appropriate role in the major strategic
decisions of the company and to be comfortable with the company’s
business and governance practices. Directors look at the quality of
the governance processes, the independence of the board and the
management’s attitude toward the board.
The challenge. Does the company have stimulating challenges
related to growth, recovery or something else? Some directors tell
us they are excited by opportunities to participate in a turnaround or
the rebuilding of a company that is struggling or to be a part of a
board that has to select the next CEO. As one director explained, “It
is more exciting when the company faces problems, because it is
then that the board is the most useful.”
The strength of the company. While some directors relish the
idea of helping to turn a company around, others are drawn to toptier
organizations that have healthy financials and an excellent reputation
— those that seem unlikely to fall victim to a major scandal
or business disruption. These directors look closely at the financial
strength of the company and its competitive position in the marketplace,
and want to be comfortable being affiliated with its reputation
and values. Some director candidates report that they conduct more
rigorous due diligence than in the past about the company’s financials,
reputation and governance through extensive interviews with
current directors and senior executives and careful reviews of publicly
available financial information. They also mine information
from contacts in the industry and other trusted business sources,
check the company’s corporate governance ratings, examine its public
policy positions and speak with industry and financial analysts
about the company.The other board members and the chemistry between them.
Director candidates always want to know who already serves on the
board they are being asked to join. For some, the opportunity to
work closely with and learn from business leaders they respect is as
much a motivation for joining a board as what they can learn from
the company. In addition, directors want to avoid boards that are
rife with conflicts or lack the independence from the CEO to do their
work. While it is impossible to know precisely how a board will
behave until one starts, it helps to meet as many directors as possible
and learn about them and their work styles through mutual
friends and colleagues.
The time commitment and potential scheduling conflicts.
Serving on a board today takes much more time than in the past,
directors say. The time demand is even greater for companies that
are restructuring or undergoing a CEO transition. Director candidates
want to be comfortable that their schedule can accommodate
a new board assignment, and many directors now limit the number
of public company board roles they will accept.
implications for director recruiting
Recruiting new independent directors today can be difficult and time
consuming. The desire for specialized expertise and increased diversity
in the boardroom — and in some cases the requirement that
boards become more diverse — has increased competition for
some candidates. At the same time, many directors are accepting
fewer board assignments than they did in the past and more companies,
particularly in the U.S., have restrictions on how many additional
outside board roles a director may accept. As a result, many
directors are more discriminating than in the past about which
boards to join.
Boards can improve the chances of attracting directors with the
most relevant experience by understanding the motivations and
concerns of director candidates and the company’s perceived
strengths and weaknesses. Here are a few lessons from the front
line of director recruiting:
> Assume that there will be good competitors for a candidate’s
time, whether it is another board opportunity or another interest.
> Understand your board’s “value proposition,” based on where the
company is strategically, the kinds of issues that come to the board,
the composition of the board, the strength of the management
team and even the quality of the board’s new-director orientation.
> Carefully define the expertise that is important for the board, for
example, industry or functional knowledge, language ability or
international business experience.> Continuously review the board’s skill-sets relative to the company’s
strategy and direction to ensure that the board as a whole
has the knowledge, experience and skills to guide the management
team as it addresses new challenges and market opportunities.
The annual board self-evaluation is a natural platform for
the full board to review its composition and discuss the expertise
that it will need in the future.
> Define the board’s notion of chemistry and promote an environment
that encourages active participation by every director and is
respectful of differing views. The chairman or lead director plays
an important role in creating this environment and getting contributions
from everyone around the board table.
> Make board service a rewarding experience for directors. Tap into
the expertise and brain power of directors by structuring board
meetings in a way that gives directors the opportunity to engage
with one another, rather than having a series of presentations.
CEOs gain additional benefit when they develop one-on-one relationships
with individual directors.
Experienced directors want to serve on well-managed boards that
make a difference in the performance of the company. They want to
work with smart, engaged directors and be comfortable with the
CEO’s leadership capabilities and character. Finally, they want to
serve on boards that allow them to learn and build new skills. When
they find board opportunities that offer these professional and personal
rewards, they are willing to accept a new director role —
despite the pressures and demands.
about the authors
Susan S. Boren is an active member of the Board Services, Life
Sciences and Education, Nonprofit & Government practices. She
also is a member of the Spencer Stuart board. Will Dawkins leads
the Board Services Practice in the U.K. Phil D. Johnston is a member
of the Board Services, Human Resources, Life Sciences, Private
Equity and Technology, Communications & Media practices, and he
manages the firm’s Singapore office. Bertrand Richard co-leads the
Board Services Practice in Europe and also the Financial Services
Practice in France.
Patrick B. Walsh contributed to this article.

RRG Boards' Best Practices - Reprinted FRom the Risk Retention Reporter- I would recommend this pubication if you do any work with risk retention groups!

Will The NAIC Guide lines “Crowd Out” RRGs
Board of Directors Best Practices Along With The
Best Independent Directors?
By John J. O’Brien JD, CLU, CPCU
In response to the Enron failure, the Sarbanes-Oxley Act of 2002 (SOX) was
enacted and requires that public companies have independent directors and an
audit committee chaired by an independent director with a financial background.
Enron did have a majority of independent directors and an audit committee
chaired by an independent. The hearings leading up to SOX demonstrated that in
the Enron case, independent directors were expected to be, and were, deferential
and obsequious.
The captive/RRG industry is not accustomed to SOX type board require -
ments. RRGs and captives are usually required to have a resident director and
typically the captive management company supplies this individual. Opinions
differ whether this resident board member is independent.
Three of the captives/RRGs in which I serve as an independent director have
audit committees. I serve on all three audit committees and chair two. Creating
these committees were choices made by the boards and the operation of the
committees mirrors both SOX and best practices. The committees are seen as an
important part of the corporate financial oversight, and members are expected to
be diligent.
The RRG industry, as it matures, is embracing corporate governance best
practices, such as the best practices developed by the Captive Insurance
Companies Association. A series of quarterly articles in the Risk Retention
Reporter, beginning in January of 2008, written by RRG experts, describe best
practices in action within the industry and also trace the progress of the NAIC
proposed guide lines that seek to introduce Sox like laws to the RRG industry.
In any financial industry there are “good actors” and “bad actors.” New laws
do not “crowd out” the “bad actors.” Many learned experts have demon strated
that crooks will always find new ways to circumvent new rules.
This article explores the possi bility that the NAIC guide lines as law will
“crowd out” self imposed best boards of directors’ practices and the best
independent director candidates—“good actors.” The concepts of “crowding in”
and “crowding out” are explored in detail in an article “Corporate Gover nance
for Crooks? The Case for Corporate Virtue” by Margit Osterloh and Bruno S.
Frey that appears in Corporate Gover nance and Firm Organization, edited by Anna
Grandori (Oxford University Press, 2004). Studies cited in the article explore
corporate environ ments and how individuals are self-motivated to improve and
to contribute to the success of an organization. These “good actors” like to see
themselves as devel oping plans and initi ating action to fulfill those plans.
In the case of good independent directors, my experience has been that they
want to make a signif icant and creative contri bution towards good corporate
gover nance and are willing to take the lead in providing leadership towards that
goal. If they, and their team members, are allowed to operate in an environment
where they are not being told what they have to do, “crowding in” of
self-motivation for good corporate gover nance flour ishes. These “good actors” are
not motivated by extrinsic influences, such as compensation, because they
recognize that unreasonable compensation would “crowd out” their intrinsic
motivation. Unrea sonably high compensation fosters deferential and obsequious
independent directors. An involved independent director structures his fee so that
he never finds himself in the position where his fee comes between him and his
motivation to do what is right. Good actors come equipped with an intrinsic desire to do what is fit and proper. RRGs should always look for team members who bring creativity combined with an intrinsic desire to do what is fit and proper. “Good actors” are motivated by their desire to serve, to make a serious and creative contribution to an organization, and to experience a sense of appreciation that is more valuable to them than monetary compensation. The most important conditions for “crowding in” to occur are the need for autonomy (the experience of seeing oneself as a causal agent), competence (controlling outcomes and efficiency and experiencing positive feedback), and social relatedness.

My observation is that “crowding in” is the growing environment in our
industry and “good actors” are leading the way. Laws that require good corpora -
tions to do what they would want to do anyway and impose high transactional
costs for compliance and expensive monetary penalties for non-compliance will
seriously harm this “crowding in” best practices environment.

It has been said that finding a well qualified independent director for a RRG
is a challenge. I always question how extensive and how recent the searches
were. RRGs have moved away from entre pre neurial entities that tended not to
seek out independents toward true owner/insured groups that recruit
independent directors who know insurance. We find this with the growing
number of physician RRGs where doctor insured/owner board members value
the partic i pation of someone who under stands concepts like adverse selection,
finite reinsurance, and tail coverage. There are qualified insurance profes sionals
who welcome the oppor tunity to serve on these boards. The best captive
management companies and the best captive insurance attorneys are advising
RRGs to recruit independent directors who are not affil iated with any service
provider.

As now proposed, the NAIC guide lines in parts provide:
· A majority of the board must con sist of independent directors.
· Any service provider contract must be approved by a majority of the independent
directors.
· There must be an audit committee composed of independent directors. One duty of
the audit committee is to assist the board with legal and regulatory compliance. The
audit committee requirement can be waived by the regulator if impractical.
· The board is required to establish a written charter in its by laws that in part would include a set of governance standards.
· The governance standards adopted by the board are re quired to provide for direc -
tors’ responsibilities, orientation, and continuing education.
· The board must adopt business ethic standards that include requirements for pro -
tection of the risk retention group’s assets, compliance with the law, and report ing of any non compliance (whistle blowing).
· The domestic regulator may take action against any director who violates these
standards.
Paradoxically, the proposed NAIC rules would permit remuneration to an
independent director that any “good actor” independent director would avoid.
An independent director would not be considered to have a “material
relationship” if he received up to 5% of gross premium and 2% of surplus of the
RRG. This could be a substantial amount with some RRGs. Any “good actor”
independent director would question his own independence if he were to receive
compen sation outside of his director fees and expenses. No personal financial
consid er ation, whatsoever, should stand in the path of an independent director
who finds cause to make a noisy exit from a board.
All good RRG independent directors are aware of the duties, responsibilities,
and liabilities they have under the Model Business Corporation Act. They will
not fail to notice that these new NAIC guide lines create for them additional
responsibilities to a state’s insurance regulator.
With the new NAIC guide lines, the intrinsically motivated “good actor”
potential independent director will be aware that he is being asked to join the
team because the RRG must fill three government mandated slots, that he will be
responsible for developing governance and ethical standards—including whistle
blowing, that he will be required to undergo orientation and continuing
education, and that he is now subject to action by the state insurance commis -
sioner for any violation of these standards. He should under stand that he is
being offered the position because the RRG did not have a choice. He will most
likely conclude that this is not the type of environment that nurtures his best
performance. This will alert him that he is being asked to enter an environment
where the professional “joy” he seeks in being a member of a dedicated team is
not likely to be experienced.

If compensation should be based upon degree of responsibility, then
arguments will be made by those who seek the position of independent director,
motivated by remuneration, that the amount of compensation should be
substantial. The transactional costs for compliance and board operation by most
RRGs will increase. Increased compensation and rules that tend to make an
independent director a pawn of the domestic regulator are conditions that will
conflict with the intrinsic motivation of the “good actor” independent director.
With the possi bility that a vacuum will be created by “good actor”
independent directors declining invitations to join RRG boards, I suggest that
there is a likelihood that the vacuum will be filled by independent directors who
are more focused on compensation and personal exposure issues— “will you
indemnify me in the event of personal liability?”.
My final suggestion is that rather than enacting laws that evidence indicates
could “crowd out” growing best practices, our industry will be improved instead
by nurturing the “crowding in” of current best practices trends, including the
trend of RRGs to volun tarily seek out fit and proper “good actors” as
independent directors.

Guidebook for Captive Insurance Company Board of Directors
Chapter Five - The Board Manual and Board Minutes

"Why a four year old child could understand this report. Run out and find me a four year old, I can't make head or tail of it."
Groucho Marx in Duck Soup

A board manual can be a very important resource to help board members stay organized and to use with the business plan to track and plan the company's progress. It also can demonstrate to the regulators the company’s commitment to good corporate governance.
A board manual should contain at least the following:
A. Organizational introduction which will outline the mission statement the value statement, the statement of purpose and the board planning calendar i.e. how many meetings are held each year and where the meetings are held.
B. The license and business plan of the captive as well as any changes in that business plan and the regulatory approval of those changes.
C. The articles of incorporation, bylaws and any amendments including information on stock issues.
D. The agendas and minutes from every meeting in chronological order.
E. List of the Board members with biographical information and contact information.
F. Financial reports since inception – i.e. balance sheet and income and loss statements.
G. The captives last year end audited financials.
H. Results of regulatory examinations.
I. Committee reports and annual reports of the chief executive officer.
Each member of the Board should have his or her own board manual and when a new director comes on board he or she should be presented with a complete board manual. The construction of the board manual should not be delegated to a captive’s staff or to the captive manager rather the Board should view this duty as a function of the Board itself. If the opportunity presents itself, volunteer for the position. Practically the board manual should be contained in a large three ring binder with tab dividers allowing for the insertion of documents on an ongoing basis. Of course, the board manual can also be created electronically so that Board Members do not have to lug it around to each meeting unless that is their preference.
Captives are subject to examination by the domicile regulators. There will be an organizational examination when a captive is licensed and there will also be examinations every three years minimally. As pointed out in prior chapters, responsibility for the operation of the captive ultimately rests with the Board of Directors. Typically, not enough attention is paid to the importance of the minutes of the Board of Directors especially considering these examinations will focus on organizational board meetings and subsequent board meetings to measure how attentive to and involved board members are in the performance of their duties. These days common practice is to produce short and concise board minutes with perhaps one sentence, if that, dealing with each item presented to the Board.
The captive domiciles usually have a requirement that there be at least one Board of Directors meeting held each year and that it be held within the domicile. This requirement has led to the management of the captive sometimes viewing the annual board meeting as something that has to be gotten over with. Generic agendas are commonplace and quick action without discussion is likewise commonplace.
As a result, Boards and management miss opportunities to use the board meetings wisely including as a support mechanism for a board manual that board members can rely upon as an important aid to help them perform well as board members. Foresighted chief executive officers view the Board meeting as the best opportunity to review progress being made on many fronts and to display this information to the Board so that there can be intelligent comment, consensus and clearly worded recorded adopted resolutions showing a full board committed to continued pursuit of central matters. The board minutes as part of the board manual both record the history of and map the overall progress of the captive.
If asked as a board member to help organize the Board meetings and/or record the minutes of the Board of Directors meeting, always view the job as a serious responsibility. Weeks before the meeting begin the preparation of the proposed agenda so that all relevant items are included and make sure that the agenda and any relevant documents reflecting agenda items are distributed at an early date to the full board. Always make sure that any relevant item is included and review past minutes to determine if past items should be included in the upcoming Board agenda for update and follow up. Always attempt to add agenda items where the Board will learn how the company operates in keys areas and who has the responsibility to carry out the business plan in these key areas. For instance, it is important if a vice president of claims of a captive is hired that the Board is briefed on the fact and if possible, the Board have the opportunity to meet that key employee at a Board meeting.
The board manual should contain all minutes from all meetings in a chronological order. A board manual should be provided to each Board of Director member. The manual presents a history and a convenient means for Board members to trace the company’s progress and to prepare for each successive board meeting. It allows new board members to get up to speed in short order and to prepare themselves so they will be equipped with the background and knowledge of the company to be able to make solid contributions.
Granted, under this approach to conducting board meetings, agendas and minutes will become lengthy (not necessarily wordy). However, this is justified when one accepts the concept that well worded board minutes are a fundamental part of a truly important board manual that is the main tool for those who have ultimate responsibility for carrying out a captive’s agenda. Here the Board members can track progress on important issues such as resolution of regulatory audit concerns, success of new products or geographic areas and reinsurance coverage issues. From a regulatory and good governance point of view the board manual and minutes are the best evidence that a Board is committed to the overall success of the captive.
Another good innovation to encourage is the practice of sending a courtesy copy of the minutes to the regulator to become part of the company’s file in its domiciled state. Regulators seem to concur.
Compliments of John J. O’Brien JD, CLU, CPCU (lionsthree@aol.com)
Captive Insurance Company Independent Board of Directors Member

http://expertwitnessinsurance.info

Article on Series LLCS and Captives from Captive Company Reports

Protected Cell Companies: Firewalls Revisited

Editor’s Note: The following was written by John J. O’Brien JD, CLU, CPCU. He may be reached at lionsthree@aol.com. This article is a follow-up to his CICR May 2004 article, "Segregated Cell Captives: Are Firewalls Fireproof?" [LINK]

Segregated portfolio insurance programs have garnered widespread acceptance within the alternative risk community. Also known as "segregated portfolio companies (SPCs)" or "protected cell companies (PCCs)," they have traditionally been single entities made up of individual, unincorporated cells. Core capital is provided by the owners, and in addition, each cell has its own capital provided by the client using that cell.

Participation of the client is formalized through a shareholder’s agreement. Uniformly, the legislation providing for the formation of SPCs and PCCs provides that the assets of one cell are protected from the creditors of another. The revenue stream, assets, and liabilities of each cell are kept separate and apart from all other cells so that no cell is affected by the business or operations of another or of the SPC or PCC itself. The divisions separating the cells are commonly referred to as “firewalls” in the United States, or as “ring circles” in Europe. Each cell is identified by a unique name—sometimes a number.

Why People Like Them. These arrangements are promoted as an easy and cost-effective way for small organizations, wealthy individuals, agents or brokers, and nonprofits to avail themselves of the benefits offered through participating in risk-sharing profits. A major financial value is because entry is available through a shareholders’ or participation agreement without the need for formation of a new corporation. These facilities are extensively employed, particularly in Bermuda in estate planning, and asset protection sometimes involving high-value life insurance self-managed programs intended to be free of estate taxes. The participation agreement provides that disputes will be resolved pursuant to the law where the SPC or PCC is established and by the courts there.

Segregated cells originated in Guernsey with the Protected Cell Companies Ordinance 1997, and other domiciles have enacted similar laws. The Guernsey Act has had a recent and very interesting amendment that provides for incorporation of the individual cells. It amended its segregated cell legislation to provide for incorporating segregated cells and also provided that existing non-incorporated cells can convert to the corporate cell form. Other domiciles have or are considering amending their statutes to provide for incorporated segregated cells. Onshore, the District of Columbia has enacted similar legislation.

“The paradox of the creation of this new form of “incorporated” segregated cell for me is that stateside legislative developments, as well as cases decided by U.S. courts since 2003, have left me now believing that the limited liability arrangements of unincorporated cell arrangements had become more likely to be recognized and enforced by judges in the United States. However, one wonders what effect this legislation will have on the thousands of existing unincorporated cell arrangements.” ~John O’Brien

Clearly, the creation of incorporated cell legislation will add another level of security to cell arrangements. However, will existing unincorporated cell arrangements now be considered inferior in their ability to shield cell assets from non-cell creditors? And furthermore, was this new form of cell legislation truly needed?

“Series LLCs” May Provide an Answer. U.S. business operations are no longer limited to sole proprietorships, partnerships, corporations, and limited liability companies (LLCs). LLCs have been around since the late 1970s, and appear to be the most popular corporate form. The "C" corporation is still available and can be treated as a partnership by making a subchapter “S” election with the Internal Revenue Service. However, the LLC provides limited liability and has the advantage of being treated like a partnership for tax purposes, because in 1998, the IRS granted LLCs pass-through status.

The latest development, introduced in Delaware in 1996, is the “Series LLC,” which has amazing similarity to SPCs and PCCs. The Series LLC is truly unique in that the LLC can designate a series of specified properties, business purposes, or investment objectives, and then segregate the debts, liabilities, and obligations relating to a particular series to be enforceable only against the assets of that particular series and not against the assets of the Series LLC generally or against any other series within the Series LLC.

Hypothetically, a national real estate developer for example could, within the same corporate structure, segregate the financials of individual real estate developments around the country and the failure of one residential development in a part of the country would be isolated from the success of other projects in other parts of the country. Furthermore, the assets of each, as well as the core assets of the Series LLC, would be protected from attachment for the debts and obligations of the failed venture. Eight states have followed the lead of Delaware in enacting Series LLCs.

Similarities to Segregated Cells. The provisions of the Series LLCs are dramatically similar to the segregated cell facilities and protected cell company legislation of offshore captive insurance domiciles like Bermuda and Guernsey. The offshore protected cell legislation and the Series LLC each contains requirements that must be followed to protect the core assets of the Series LLC or any other series from an enforcement action against the assets of a failed Series LLC. In the Series LLC, the following must be observed:

 Separate financial records must be maintained for each series.
 Notice must be placed on the face of the certificate of formation that one or more series are being established.
 Accounting must keep series assets separate from the accounting of the Series LLC or any other series within the Series LLC.
 The operating agreement must clearly designate and define one or more series of interest.

An attorney arguing for acceptance of the segregated liability of SPCs and PCCs, particularly of the offshore brand, can now simply point to domestic “Series LLCs” to explain to a U.S. judge how SPCs and PCCs are structured and why the firewalls should be respected. The Series LLCs provide our U.S. courts with a domestic example of how limited liability and segregation of assets can be provided for without separate incorporations.

The Effect of Mutual Risk and Legion Failures. The Bermuda-based Mutual Risk Management collapse as a leading provider of rental and segregated cell facilities and the insolvency of Mutual Risk Management’s U.S.-based Legion Insurance brought about a myriad of U.S. court cases. Those cases have created a strong precedent for courts to give full faith and credit to the applicability of offshore forums and law when considering cell arrangements. Occurring simultaneously with the development of the Series LLC, the Mutual Risk Management court decisions—while not dealing directly with the issue of upholding firewalls between individual assets—do send a clear message that our United States courts will defer to the terms set forth in the establishment of offshore cell or rental arrangements.

The Pemaquid Underwriter Brokerage, Inc. v. Mutual Holdings (Bermuda) LTD, No. 02–4691 (JAP), 2003 U.S. Dist. LEXIS 26480 (D.N.J. June 3, 2003), case concerned Bermuda-based Mutual Risk Management (MRM), a firm offering risk management and financing products and services. MRM was the parent of Mutual Indemnity (Bermuda) LTD, Legion Insurance, and Commonwealth Risk Services. Legion Insurance, a New Jersey corporation with its principal offices located in Philadelphia, was in the throes of bankruptcy during this litigation.

The case arose from Permaquid's participation in a rent-a-captive in Bermuda. Pemaquid, an MRM client based in New Jersey, purchased reinsurance from Mutual Indemnity, with Legion acting as the front for the program. As is typical in this situation, all collateral sent to the rent-a-captive to support its share of the risk is intended to be kept separate from the assets of the other participants.

Permaquid alleged, inter alia, that Mutual Indemnity failed to disclose Legion's deteriorating financial condition, did not keep Permaquid's assets in "segregated cells," improperly drew on Permaquid's letters of credit, and prevented Peraquid from benefiting from its own underwriting profits and investment income because of the failure of Legion. Further, Permaquid argued that the case should be tried in the United States. The defendants argued for dismissal based on the forum selection clause in the shareholders' agreement requiring the parties to litigate all disputes in Bermuda. After considering many good arguments from the plaintiffs as to why the court should exert jurisdiction over the dispute, the court sent the parties to Bermuda to litigate the matter, stating:

Here the Shareholder’s Agreement forum selection clause explicitly provided that the agreement "has been made and executed in Bermuda and shall be exclusively governed by and in accordance with the laws of Bermuda and any dispute concerning this Agreement shall be resolved exclusively by the courts of Bermuda.”

Another highly important case is Legion Insurance v. Stateco, Inc., No. C 05–03007 (JF), U.S. Dist. (N.D. Cal. October 11, 2006), involving the efforts of the Pennsylvania insurance commissioner to recover funds to pay disappointed U.S. claimants. Public policy clearly favored a U.S. court asserting jurisdiction. Instead, a court that most would consider "plaintiff-oriented," upheld the forum selection clause and Bermuda law and courts.

The insurance commissioner/liquidator/plaintiff was attempting to recover funds from various reinsurance companies of the fronting company, Legion Insurance, the MRM subsidiary mentioned above in the Pemaquid case. Under the reinsurance treaty, MRM would hold the premiums on behalf of the participating reinsurers. Under both a shareholders' and management agreement signed by Statego, disputes were to be determined by Bermuda courts. Statego advanced many reasons for U.S. jurisdiction, including a strong public policy argument that these programs affected the claims of thousands of U.S. insurance customers. Despite this, the California court did not assert jurisdiction over the Bermuda interests and instead upheld the forum selection clause asserting that international business interests rely on forum selection clauses in their dealings and that there is a strong public policy reason that U.S. courts uphold them.

Further evidence is found in the propensity for U.S. courts to defer to the law and agreements of other domiciles in offshore alternative risk claim situations in the fact that on April 25, 2003, the Supreme Court of Bermuda established a "Scheme of Arrangements" with MRM and any potential creditors under Section 99 of the Companies Act of 1981, and that this scheme was given full force and effect by the U.S. Bankruptcy Court for the Southern District of N.Y. that issued a permanent injunction in support of the Scheme.

A Prediction. So, laying aside for a moment the introduction of new incorporated cell legislation, how was the stage being set for a U.S. court upholding the firewalls created by non-incorporated offshore segregated cell facilities? It appears to me that based on the United States having Series-based LLCs providing for segregation of assets in non-incorporated cells, and the precedent established by what U.S. courts have uniformly decided in the Mutual Risk Management cases, that a gambling man would predict that the protections allegedly provided by unincorporated offshore segregated firewalls would withstand the scrutiny of U.S. courts. Those courts would give full faith and credit to the laws of the offshore domiciles and the business agreements companies and individuals enter into offshore.

I would, however, offer one caveat: U.S. courts tend to give full faith and credit to domiciles that enact “reasonable” legislation, and that an informal measurement of “reasonableness” is how close the other country’s legislation matches our own. Competent counsel arguing for the U.S. Courts to assert jurisdiction will attempt to hold up the offshore legislation to contempt. Certain domicile’s legislation can perhaps be viewed as overreaching. An example would be provisions providing that if a creditor is successful in attaching any money through a good judicial fight in another domicile, he has to hold it in trust for the debtor. I think it is to Bermuda’s credit that in the MRM cases, U.S. courts have given full faith and credit to Bermuda in the face of claims of U.S. creditors.

As of last year, both Guernsey and one U.S. domicile’s law contain provisions for incorporation of the individual cells, although both domiciles continue to allow for the segregated liability between cells, even without the separate incorporation of cells. Clearly, the incorporation of the cells in a cell facility will add a new level of security. Also, it will add a new level of expense, as the offshore practitioners pointed out to me over 4 years ago. A key inquiry: Does this new legislation in some fashion weaken the strength of those cell arrangements where the cells are not incorporated? From a historic perspective, an argument could be made that it does.

Cell arrangements in Bermuda began with simple rent-a-cell arrangements. Because it was felt that the rent-a-cell facilities did not have adequate protection, the concept of segregated cell facilities took hold in Bermuda. Certainly, lawyers in Bermuda must have felt that the rental facility without the segregated cell feature was not up to the task.

Five years ago, during the World Captive Forum panel presentation in which I participated, the notion of an incorporated segregated cell was not looked on favorably by advocates of Bermuda cell facilities. Now, apparently the idea is catching on—at least in Guernsey, the District of Columbia, and in some other domiciles. But the question that surfaces is whether those legislators felt that the unincorporated segregated cell facility, like the rental cell before it, fell short in its design for the segregated protection of assets. When a U.S. court, or for that matter a court anywhere, next considers the safety of unincorporated cells, an advocate attempting to pierce those firewalls or ring circles will surely argue that the defendant had the option to incorporate the cell or convert it to a corporation but elected not to—perhaps at its own peril!

There might be good reasons from a tax point of view for incorporating a cell. Tax reasons might be advanced as distinguishing an incorporated cell from an unincorporated cell. In making selections when limited liability is a concern, sophisticated purchasers and advisers will be drawn toward the arrangement that provides the best asset protection. However, billions of dollars of alternative risk protection are already stationed in offshore arrangements and recent onshore arrangements of the rental cell or the unincorporated segregated cell variety.

Some Final Thoughts. A good question to ask—and one that will be surely asked by U.S. courts considering the rent-a-cell or segregated cell arrangement, is this: Does the enactment of new cell design legislation reinforce the position that the earlier cell arrangements have a weakness that needed correction? For example, was segregated cell legislation needed to provide the limited liability protection that the rent-a-cell arrangement lacked? And, was incorporated cell legislation needed to provide the limited liability protection that the segregated cell arrangement did not have?

It would be a good idea for participants in an unincorporated cell, in attempting to spare their assets from the claims of others, to be prepared to offer expert testimony that the firewalls were always there. These legislative changes providing for incorporated cells are only efforts to support those firewalls, or there are other reasons (such as tax considerations) driving the choice to incorporate. “Incorporated or not, the firewalls are impenetrable!” should be the argument.

The Series LLC developments and the court decisions since my original article in May 2004 [LINK] have left me with these two thoughts:

1. My personal opinion that incorporation may not be as highly recommended a choice as it once was to assure limited liability between cells.
2. It appears that a U.S. court may never consider the issue on its merits in any case and will instead defer to the law and courts of the offshore home of the cell facility, as the courts did in the Mutual Risk Management cases.

Perhaps, the horse is already out of the barn on the issue of the need for incorporation, since the movement toward incorporation being provided for in legislation has already begun. But it could be that further thought should be given to the need for incorporation provisions in cell legislation. There may be a need for existing cell structures—and there are a significant number of these—to either convert to separate incorporations or perhaps be perceived as mounting an inferior steed.

CICR comment: We recommend reading the lead tax article in this issue on the recent IRS position on cell captives. []

INDEPENDENT CAPTIVE BOARD MEMBER, EXPERT WITNESS,SPECIAL ARBITRATION SERVICES

INDEPENDENT CAPTIVE BOARD MEMBER, EXPERT WITNESS,SPECIAL ARBITRATION SERVICES

INDEPENDENT CAPTIVE BOARD MEMBER, EXPERT WITNESS,SPECIAL ARBITRATION SERVICES
John J. O’Brien JD, CLU, CPCU is an independent captive board member, an attorney and insurance specialist with over thirty years experience in insurance, captive insurance, trial practice and insurance law. He believes that a truly active and insurance qualified independent board member can make a significant contribution to the success of a captive, a reciprocal or a risk retention group. He has written extensively on risk, insurance and captive insurance and addressed conferences nationwide and testified as an insurance expert in state and federal courts. He is Adjunct Professor of Risk Management and Insurance at the College of Charleston. Many of his writings are available through a Google search of John J. O’Brien JD, CLU, and CPCU.John is a native of Philadelphia and a graduate of La Salle University. He earned his law degree at the University of Tennessee. He began his insurance career as an insurance agent and during the course of his professional career, he has served as Vice President and General Counsel of American Patriot Insurance Company, Associate General Counsel of National Home Insurance Company, Counsel at IDS Insurance Company (now American Express ), and Counsel at Colonial Penn Insurance Company. He founded O’Brien and Hennessy, a leading national insurance subrogation law firm, and served on the board of the National Association of Subrogation Professionals.He has tried many civil and criminal cases including medical malpractice cases. He is a licensed attorney in South Carolina providing corporate legal services and resident agent services primarily to South Carolina domiciled captive insurance companies.In the 1980s he served as Council President of a leading Pennsylvania municipality. At the time, the availability crises for police liability insurance led him to explore the feasibility of forming a group captive or purchasing group for municipalities to provide this coverage and served as his introduction to Bermuda and captive insurance.Generally acknowledged as one of the earliest proponents of the captive industry in South Carolina, he founded the first captive insurance management company (Charleston Captive Management Company) in the state. He helped form the South Carolina Captive Insurance Association serving as president and a member of the board of directors. He was instrumental in establishing the Captive Insurance Education Certificate Program in Charleston and in the formation of the Friendly Society Restored, an organization composed of captive service providers in South Carolina. He is a member of the board of directors of The International Center for Captive Insurance Educational and an instructor of ICCIE’s course in professional ethics. He is a member of the insurance committee of the South Carolina Bar Association.He serves as a consultant in the areas of corporate governance and regulatory liaison and board member to a rapidly growing transportation risk retention group.He has participated in the establishing of many captive insurance companies and risk retention groups. John focuses his health care captive consulting on adding value to the formation and ongoing operation of risk retention groups and reciprocals through attention to patient care first as well as wealth accumulation and preservation for physicians through loss control and well proven formulas for success. He serves on the boards of several leading healthcare captives and risk retention groups ranging from nursing home professional liability to physician malpractice groups.He has testified in state and federal courts on insurance matters including matters relating to proper claims handling of both life and health insurance claims as well as casualty claims. He has served as claims attorney for leading carriers.He formed and owned the first captive management company in South Carolina. The company he founded, Charleston Captive Management Company, was purchased by Wilmington Trust in 2005. After assisting Wilmington Trust as Vice President during its entry into captive insurance management, in 2007 he launched his insurance consultant practice which he advises clients on the formation and operation of captives, reciprocals, purchasing and risk retention groups, serves as an independent board member, offers expert testimony and handles special intercompany arbitration matters for captives.John J. O’Brien JD, CLU, CPCUA Professional Corporation4862 Marshwood DriveHollywood, South Carolina 294481-843-571-0407Email: lionsthree@aol.com 9:24:00 AM by lionsthree Delete
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INDEPENDENT BOARD MEMBERS GUIDE TO RISK RETENTION GROUPS

Risk Retention Groups in a Nut Shell
Your Guide to Understanding RRGS

Compliments of John J. O’Brien JD, CLU, CPCU

History of the Liability Risk Retention Act of 1986


To some legal scholars back in the nineteen sixties, what Professor Dean Prosser was to the field of Torts, Professor Dix Noel was to the field of Products Liability. Dix Noel taught Products Liability at the University of Tennessee College of Law. It was an impressive experience for this writer as a young man to be trained by Professor Noel from the foremost treatise (Noel on Product Liability) in an emerging field of law.

Three times a week Professor Noel at the highest level of “case book” method escorted us from the doctrine of caveat emptor through negligence to the emerging doctrine of strict liability. As product manufacturer’s liability expanded, privity of contract fell by the wayside. Strict Liability according to Professor Noel “...extends not only to manufacturers but to all suppliers of chattels, such as retailers and wholesalers. Liability runs to all users or consumers, with no need to prove either privity of contract or negligence.” Strict Products Liability Compared with No-Fault Automobile Accident Reparations, Dix W. Noel, 38 Tenn.L. Review.

Punitive damages as a way to punish manufacturers of defective products was a new concept. We students speculated if a cigarette could be considered a defective product and we were encouraged to consider both sides of the controversy including the pleasure the consumer derived from smoking - citing the popular advertising slogan of the times: “Winston Tastes Good. Like A Cigarette Should.”

Years spent in the insurance and law fields have helped me understand how the breakdown of product liability tort law we learned in law school led to the insurance availability crisis of the mid nineteen seventies. Because their products were no longer sheltered by the protection of caveat emptor and because states were adopting uniform statutes imposing strict liability, product manufacturers were becoming anathema to the commercial insurance industry.

The insurance industry responded to the product liability risk crises by increasing rates, not renewing coverage, and avoiding policyholders that sold products the underwriters considered hazardous. These actions created a product liability insurance crises. During this same period the states of Vermont, Colorado, Virginia and Tennessee enacted captive insurance laws and suggested that industry employ alternative risk transfer strategies as a solution to the insurance crises. Manufacturers began forming captive insurance companies in theses domiciles as well as in the off shore captive insurance domiciles of Bermuda and the Caymans.

A beleaguered industry also brought its predicament to the attention of President Carter and Congress. In 1976, the United States Department of Commerce established a federal interagency task force on product liability to determine why insurance coverage for defective products had constricted.

Years earlier the McCarran Ferguson Act had established a dual insurance regulatory structure where the federal government would, on a case by case basis, allow the states to regulate insurance unless the federal government decided differently. Essentially, the states were granted the right to regulate at the pleasure of Congress

In 1976, the 96th Congress House Committee on Energy and Commerce conducted hearings on the “product liability crises.” I was not able to determine if Dix Noel testified but if he did, he would have provided a keen insight into the evolution of the liability of products. Ultimately three causes of the product liability crises were identified:

1. questionable insurance company rate making and reserving practices;

2. unsafe products; and

3. uncertainties in the tort litigation system.



Congress then enacted and President Reagan signed into law the Product Liability Risk Retention Act of 1981 (LRRA). Simultaneously, it seemed, insurers experienced an unexpected recovery linked to favorable investment returns. During periods of high investment returns, insurance that might otherwise be unavailable or unaffordable tends to be obtainable at a reasonable price. This phenomenon has caused several insurance experts to argue that the most influential criteria for whether there is a soft or hard market (the so-called cyclical nature of the insurance marketplace) are investment returns. Insurance reserving allows insurance companies to hold loss payments for long periods at high returns prior to loss payment. A high rate of investment return on reserves can convert what would be a bad book of business from a loss ratio perspective into a profitable book of business from an investment return perspective. This apparently is what transpired in the early eighties thus enabling the industry to be more receptive to receiving premiums to place product liability risk.

The product liability insurance cycle had shifted before the Product Liability Risk Retention Act of 1981 was used by groups seeking alternative vehicles to insure their risks. Meanwhile, however, the insurance availability pendulum was swinging towards other types of casualty insurance such as environmental and errors and omissions coverage. Congress reacted to this new need in 1986 by broadening the 1981 Act significantly to enable purchasing and risk retention groups to offer not only product liability coverage but also all types of liability insurance arising out of the operation of business, professional practices as well as out of the operation of state or local government.

The Liability Risk Retention Act of 1986 provides for the creation of risk retention groups as well as purchasing groups to enable industry, groups and state and local government to address the liability insurance crises. Although the concept of risk retention and purchasing groups was devised by the federal government, the federal government does not regulated risk retention and purchasing groups. Instead, regulation pursuant to the McCarron Ferguson Act is left with the states and particularly for risk retention groups, with the state where the risk retention group is domiciled and licensed. Clear mandates as to formation criteria and regulation are provided for in the federal act.


What are Risk Retention and Purchasing Groups?


A risk retention group is a liability insurance company that is owned by its members all of whom are members of the same industry and face similar exposures. Essentially, it is a group captive. The federal statute permits a group to domicile the risk retention company in one state and engage in the business of insurance in all states subject to certain restrictions. Under the McCarran Ferguson Act, regulation of insurance is handled by the individual states and specifically the insurance commissioners of those states. That is the case so long as the federal government does not elect to preempt that state oversight. Through the Liability Risk Retention Act of 1986, Congress did preempt state regulation and therefore the federal act takes precedence over state insurance laws and regulations generally. The provisions of the 1986 Act set forth a lengthy description of what makes up a risk retention group which I paraphrase here.

The Act defines a risk retention group as a group:


1. whose primary activity consists of assuming the liability risks of its members and spreading that risk amongst its members and is organized for that purpose;

2. that is organized and authorized to do business in and by one state (there is a provision to allow an existing chartered Bermuda or Cayman company to do business under certain conditions);


3. that does not exclude members solely to provide a competitive advantage to the group;


4. that has as its owners only insured members;


5. whose owners are engaged in similar business or related with respect to the liability to which they are exposed;


6. whose insurance activities are limited to liability insurance or reinsurance for assuming and spreading the risk of members; and


7. whose name includes the phrase “Risk Retention Group”.


The Act provides two options for structuring the ownership of a risk retention group. The first option limits ownership directly by the members of the risk retention group. The second option provides for ownership by a sole owner that is an organization which has as its members only persons who comprise the membership of the risk retention group and who are provided insurance by the risk retention group. Accordingly, an association can actually be the owner of the risk retention group. Insurance departments will look for an association that has been in existence for at least a year and do not look very kindly on associations that are formed solely for the purpose of owning the risk retention group. In fact overall, regulators will be on the lookout for entrepreneurial motivations behind the formation of risk retention groups and will also check to see if there is an availability or affordability problem in the commercial market. One application I attempted to lead through South Carolina in the early days of the captive program here was cut short by our regulator because it was viewed as an attempt by entrepreneurs to position themselves in an emerging market. We were dismissed with the appropriate application of Southern charm and compliments:

“I applaud the business savvy and foresight of your client. However, this is
simply too far outside the parameters of our captive program to go forward
with at this time. I’m sorry for taking so long to get a decision on this but I
wanted to give it every chance for consideration.”


Purchasing Groups

The Liability Risk Retention Act in addition to providing for the formation of risk retention groups also contains provisions that apply solely to the formation of purchasing groups. There are differences between risk retention groups and purchasing groups.

A purchasing group is comprised of insurance buyers who band together, frequently on a national basis, to purchase their liability insurance coverage from an insurance company or from a risk retention group. Congress by creating the purchasing group concept was endowing industry with the benefits of association and group purchasing power in the face of unkind treatment by the insurance industry. As the name implies, the purchasing group serves as an insurance purchasing vehicle for its members. A purchasing group may also form a risk retention group to buy down a large self insured retention for example. A key difference between a risk retention group and a purchasing group is that participants in a risk retention group are required to capitalize the risk retention group but the purchasing group does not have to be capitalized because the purchasing group does not itself take on risks. Purchasing groups purchase insurance from an insurer that issues the policies and takes the risk. As insurers, unlike purchasing groups, risk retention groups issue policies on their members and bear risk. Purchasing groups obviously are not regulated to the same degree as are risk retention groups. Purchasing groups purchase insurance from insurance companies that are already capitalized and subject to insurance company regulation. Another difference is that almost all risk retention groups purchase reinsurance while purchasing groups do not.

The broad exemptions from state regulation available to risk retention groups are not available to purchasing groups. Instead the Act exempts them only from specified state laws, rules and regulations and all other requirements not mentioned are not preempted. State laws that are preempted are primarily in the nature of fictitious group and countersignature requirements.


Purchasing groups have served an important purpose in permitting commercial insurance consumers to obtain better control over their liability insurance programs. They provide their members with tailor made coverage, broader coverage terms, dividends and reduced premiums through the employment of large group purchasing power. In both purchasing groups and risk retention groups, the members/owners have to be from the same homogenous industry. Purchasing Groups when employed by savvy insurance professionals provide an excellent risk transfer vehicle but the methods of how purchasing groups are so employed would be the subject of another “in a nutshell” paper. I have centered this paper on the formation, licensing and management of risk retention groups. They are subject to many more requirements and are much more complicated from an organizational and operational perspective than are purchasing groups.


Regulation of Risk Retention Groups

A risk retention group obtains its license from one state. It is said to be domiciled in that state. It is licensed through the action of the state insurance commissioner and its operations are governed by that state insurance commissioner. Those operations could extend into fifty states. Understandably, this is a much different situation than a standard insurance company or for that matter a traditional captive where each state has some control over the licensing and business operations of the entity when business is written in that state. Many states particularly those states that are not themselves active captive domiciles are uncomfortable with this regulatory situation.

The National Association of Insurance Commissioners (NAIC) is an advisory group of the states insurance commissioners. It is a voluntary association of heads of insurance departments from each state, the District of Columbia, and five U.S. territories. It does not have authority to make law or to enforce law. It does however draft and recommend model insurance acts for adoption by the states and these are usually adopted as law by the individual states.

The NAIC does not take a position as to the legality or utility of different state approaches to interpreting the Liability Risk Retention Act of 1986. It does however provide advice for its members on regulating risk retention groups and purchasing groups primarily through an NAIC publication know as the Risk Retention and Purchasing Group Handbook.

The position of the NAIC is that once the risk retention group has obtained its license, it may operate in all states without the necessity of a license in each state and is regulated almost exclusively by the domicile state’s insurance department. Non-domicile states require risk retention groups to comply with the following laws or requirements:

1. unfair claims settlements laws;

2. laws requiring the payment of premiums and taxes on a non-discriminatory basis;

3. laws requiring the participation in a residual market mechanism for liability
insurance;

4. laws requiring the risk retention group to designate the insurance commissioner as its agent for service of process;

5. laws against deceptive, false or fraudulent acts or practices; and

6. laws requiring the policies issued by the risk retention group to contain notices
that the company may not be subject to all state laws and that the guaranty fund
protection act does not apply.

In addition non-domiciliary commissioners are granted authority to monitor the financial solvency of risk retention groups and to examine them under certain conditions. They can:

1. require the risk retention group to submit to an examination in coordination with the
domiciliary commissioner to determine the risk retention group’s financial condition
if the domiciliary commissioner has not begun or has refused to initiate an
examination of the risk retention group;

2. require the risk retention group to comply with a legitimate court order issued in a voluntary dissolution proceeding; and

3. require the risk retention group to comply with an injunction issued by a court of competent jurisdiction alleging that the risk retention group is in hazardous financial condition.


Risk retention groups as a rule are domiciled in states that have captive statutes and they are characteristically formed as captives. The captive statute will set forth the capital and surplus requirement which is generally lower than would be required by non captive states where risk retention groups may also be formed. Also these captive states have sometimes allowed a risk retention group to build capital from its members over a certain period of time after a license has been issued or to capitalize with a letter of credit. As a result of these and other advantages, the majority of risk retention groups have domiciled in six states- Arizona, the District of Columbia, Hawaii, Nevada, South Carolina, and Vermont. A captive could be licensed in a state that allows them to be chartered as a captive insurer even though no business is written in that state and all the business is written in another state.

As of June 30, 2004, the breakdown of active domiciled risk retention groups was Vermont 63, South Carolina 36, Hawaii 17, District of Columbia 12, Nevada 8 and Arizona 6. These numbers are always increasing. The 19th annual survey of risk retention groups conducted by the Risk Retention Reporter revealed that 25 risk retention groups were formed in the first nine months of 2006 compared with 21 for the same period in 2005. Most of these were healthcare captives. Total premium written in risk retention groups has risen to $2.7 billion.


The Licensing Process for Risk Retention Groups

Because most risk retention groups are formed as captives, one of the first considerations in forming a captive is domicile selection. Captives may only be formed in states or jurisdictions where captive legislation has been enacted. Risk retention groups may only be formed in states of the United States or the District of Columbia. Although thirty three states now have some type of captive laws on the books, only a handful of those states have a dedicated alternative risk staff, an active captive formation history and an industry infrastructure in place to assist with the licensing and management of a risk retention group. Different domiciles are more receptive to risk retention groups than others and. Different domiciles also have higher degrees of receptiveness for some groups compared to others. Risk retention groups are formed by groups ranging from independent truckers to brain surgeons. The experience of captive domiciles may lead a captive domicile to shy away from particular groups for example “wheels” in a domicile that has experienced insolvencies with trucking risk retention groups. Most captive insurance consultants worthy of the name are aware of the receptivity of each captive domicile to particular types of risk retention groups and can assist in the domicile selection process as part of the services they offer.

In those domiciles that are actively forming captives, there has evolved a fairly uniform pre-application procedure which I call the “getting to know you, getting to know all about you stage.” Here for example is how the procedure works in South Carolina. The proposed captive manager, attorney or consultant will first contact the insurance department to alert them to a pending application and to arrange a face to face meeting with the alternative risk regulatory group and the principals of the proposed captive. Before the meeting takes place a brief written synopsis of the proposed captive is prepared and submitted to the insurance department. This written synopsis will include at least:

1. the name of the South Carolina captive manager (required);

2. South Carolina legal counsel (if selected);

3. a brief, but complete, business plan;

4. names of principals;

5. information on the parent company or names of group members for risk retention groups;

6. retention levels;

7. reinsurance proposed;

8. capitalization ; and

9. estimated annual premium.


After the material submitted is reviewed by the designated alternative risk regulator, the face to face meeting takes place. In South Carolina, it could have as many as five participants from the insurance department. The captive manager should always attend and as many of the principals as practical are encouraged to attend. In the case of risk retention groups since the owners are the insured and the insured the owners, the principals would be drawn from the proposed insureds. These meetings generally last about two hours and there is often a lively exchange of questions and answers leading up to an understanding on the part of the risk retention groups principals of the regulatory process and the regulatory environment and an understanding on the part of the regulators of the corporate structure and business plan of the proposed risk retention group. Uniformly, in all captive domiciles these introductory meetings turn out to be beneficial to groups wishing to form a risk retention group. Alternative risk regulators typically will be anxious to see the group succeed and have valuable information and suggestions that they will freely provide at this meeting. It is an important step in the risk retention group formation process and the first opportunity to meet the regulators who will be interacting with the risk retention group on a regular basis for many years after the group is licensed.
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Shortly after this initial meeting or sometimes actually at the meeting itself, the insurance department will ask the captive manager or consultant to submit a petition for a Certificate of General Good. This generally indicates that the captive has found favor with the insurance department. The petition itself is prepared by the consultant or captive manager and contains boilerplate language describing why the formation of the risk retention group will answer a need and provide a benefit and contribute to the overall good. The Certificate of General Good will enable the attorney to incorporate the company or establish it as a limited liability insurance company. It is filed along with the articles of incorporation at the office of the Secretary of State. Without it, the Secretary of State will not allow the risk retention group to incorporate.

The Certificate of General Good is incorporated into the complete application which is submitted as soon thereafter as practical. Following the theory that it is judicious to strike while the iron is hot, it is always an advantage to have the application completed and ready to submit even before the “getting to know you, getting to know all about you stage “meeting. Most insurance department web sites including South Carolina’s contain the states entire official captive insurance company application form.

Generally, the business plan of the risk retention group will contain all of the information required to answer the specific questions asked on the application form. That the answers to all questions asked can be pulled from the business plan is a measurement of the thoroughness of the business plan. The business plan of the risk retention group will typically provide an overview of how the risk retention group will operate and be governed. It will describe the coverage it will write and the homogenous group that the insurance policies will be issued to and in what amounts and also what amounts will be reinsured and who will be the reinsurers. Ideally, the business plan will describe and provide a copy of the insurance policy and historic loss data, ongoing loss data, a rating plan including rates and a classification system. A thorough business plan will provide a description of the data processing system utilized for underwriting, policy issuance, claims and accounting. A copy of the insurance policy to be issued by the risk retention group will be included because the regulators will be looking for the language required by the federal act in the size type then required. It began as a 10-point type and has now gone to 12-point type. The notice says:

“NOTICE: This policy is issued by your risk retention group. Your risk retention group may not be subject to all of the insurance laws and regulations of your State. State insurance insolvency guaranty funds are not available for your risk retention group.”

The initial funding of the risk retention group will be described in detail. Often the initial funding for a risk retention group is provided in the form of a surplus note or letters of credit that are repaid with the approval of the insurance commissioner over the first several years of the risk retention groups operation. Usually each new insured will pay part of his premium towards the capital of the risk retention group. This investment and the offering to make the investment in a risk retention group are exempt from federal securities laws as well as state “Blue Sky” laws. Information on the members of the group will be viewed carefully. The domiciliary state has the power to determine if the risk retention group qualifies as a risk retention group under the federal act. There is no federal administrative body available to review the decision of the state regulator.

The business plan will contain biographical affidavits and resumes on key service providers of the risk retention group who could include all officers, accounting, underwriter and claims manager. Similar information will be provided on outside service providers like a CPA, attorney, actuary, coverage counsel and insurance broker.

A captive structure chart should be provided. Program objectives should be outlined remembering the purpose of the Liability Risk Retention Act is to create a vehicle for providing insurance where insurance is not available or affordable. The actuarial feasibility study will be attached. Attachments to the application would include:

1. the underwriting manual;

2. captive manager staff resumes;

3. captive structure chart;

4. historic underwriting results;

5. reinsurance treatise;

6. expected underwriting results;

7. pro forma financial statements and projections;

8. actuarial opinion regarding the determination of minimum premium and
participation levels required to commence operations and to prevent a
hazardous financial condition;

9. the states in which the risk retention group intends to operate; and

10. marketing materials.

The term “feasibility study” is a widely used term in the captive insurance industry. Sometimes it is used interchangeably with the term “business plan”. In the strictest and most correct sense, the feasibility study is that study prepared by a professional actuary that provides evidence of the expected costs and benefits of the captive, expected underwriting losses even under a worse case scenario as well as expected return on investment. It will demonstrate to the investors as well as the regulators (as well as can be expected by a document that is prepared as an attempt to predict the future with accuracy) that a risk retention group will be a financial success. While in a pure captive, the feasibility study may not be required, for a risk retention group it cannot be overlooked and the regulators will expect to see it and it is required under the NAIC Model Act.


Organizational Steps and Management after Formation and Licensing

The domiciliary state will issue a license to the risk retention group if the regulators are happy with the application material submitted by the group. Sometimes, this license is written subject to certain conditions. One constant condition is that no business can be written until the risk retention group is capitalized.

It is necessary that the risk retention group have an organizational meeting of the shareholders and board of directors. The requirements for these meetings vary as to where the meetings should be held and who should attend. There usually is a requirement that the risk retention group have at least one director who is a resident of the domicile. This role is typically played by the captive manager and the captive manager after stewarding the application for license through his state’s insurance department now becomes the bedrock for future compliance and regulatory reporting of the risk retention group.



Actions that are taken at the organization meetings of directors and board of directors include:

1. ratification of the actions of the incorporators;

2. designation of financial institution for holding capital and investments;

3. appointment of officers;

4. issuance of shares certificates;

5. acceptance of corporate governance policy;

6. acceptance of the form of stock certificate;

7. adoption of a conflict of interest policy with parties signing it and disclosing
Any potential conflicts of interest;

8. adoption of check writing policies;

9. appointment of auditor;

10. appointment of attorney;

11. adoption of investment policy;

12. appointment of captive manager;

13. acceptance of the form of insurance policy;

14. signing of any other service provider contracts;

15. opening bank and investment accounts;

16. reviewing and accepting reinsurance treatise;

17. accepting corporate seal; and

18. accepting form of subscription agreement.

This meeting customarily takes place in the offices of the captive manager in the domiciliary state. There usually is a requirement that the meeting take place in that state as well as for subsequent shareholders and board of directors meeting. It is strongly recommended that the organizational and operational functions of the risk retention group be carried out under the oversight and tutelage of a qualified captive manager. Granted it is not rocket science but a risk retention group is in reality an insurance company and insurance is only considered “simple” by those who are trained and nurtured in the field. To all others, it is rocket science.

Although the regulation of traditional captives by a state might be limited, regulation of risk retention groups tends to be a bit more stringent. The risk retention group will be subject to an organizational examination sometimes during the first ninety days of its existence. In addition the risk retention group is subject to the same requirements of the domiciliary state that apply to any captive including providing a copy of the annual statement certified by an independent public accountant and an annual actuarial opinion on the adequacy of loss reserves.

Risk retention groups are required to apply for an NAIC company number or code. The form is available at www.naic.org. A certified copy of the state license must be provided in order to obtain the company code. Subsequently, the risk retention group must also file annual and quarterly financial statements with the NAIC and are subject to accreditation standards. Risk retention groups must also file quarterly statements with the states where they are registered and with the domiciliary state. The National Association of Insurance Commissioners establishes the format for the annual and quarterly statements. For property and casualty companies, the annual statement has a yellow cover and is popularly know in the industry as the “Yellow Peril.”

The owners of successful risk retention groups embrace the oversight by the domiciliary state. Attitude as in most endeavors is important in the operation of a risk retention group. Attention to detail and establishment of corporate governance standards will go a long way to ensure the success of a risk retention group. The federal preemption of separate state regulation is a valuable commodity. It will enable a group after it receives a license to have almost instant access to market and be free from the red tape of individual state regulation. It is a privilege that is best employed in a reasonable fashion with careful attention to the filing requirements, fee requirements and tax requirements of each state. This corporate good behavior is a small price to pay for the rights granted by the Liability Risk Retention Act.


Registration Process and Annual Filings / the Non Domiciliary States

After a license is granted by the domiciliary state, the risk retention group must register in all states where it expects to do business. These filings are usually carried out by the risk retention group’s captive manager. The manager handles these filings on forms provided by the states. The forms are filed along with the required filing fees. The filing fees vary from state to state ranging from no fee to several hundred dollars and from just an initial fee to an initial fee and annual fees after that.

After a state filing, the risk retention group will receive a response from the particular state that acknowledges that a group has been registered and reminding the group to pay taxes on the business that is written in that state. If a state objects or raises roadblocks to the operation of the risk retention group in the state, then the risk retention group or its counsel or even the National Risk Retention Association (if requested and if appropriate) will respond to the situation and a decision can be made as to whether to proceed to write business in that state or not. Risk retention groups have been known to ignore individual filing state’s unreasonable mandates and simply write business relying upon the authority of the federal preemption of such state mandates

Overreaching of the non domiciliary states generally takes place in three areas:

1. improper assessment of fees;

2. impermissible requests for informational; and

3. making operation in a state contingent upon regulatory review and approval.


The existence of a significant number of court cases around the country since the enactment of the LRRA demonstrates that several states did not accept the federal preemption readily and saw it as a threat to their desire to have the last say when it comes to providing insurance consumer protection. However, the case law or decisions reached by the judges in those cases from around the country have generally upheld the preemptive nature of the Liability Risk Retention Act.

Only a few states today raise such roadblocks and it is suggested that this area is an evolving situation because some states question the effectiveness of particular domiciliary states regulation. As the NAIC addresses the problem and establish a uniform level of oversight by the various leading captive jurisdictions, this questioning or rather objection by a few states should dissipate. This area is briefly addressed below in the reference to the report of the Government Accountability Office.

The risk retention group in response to a state filing will by and large receive an acceptance of the filing by a letter from the state’s insurance department saying that the state has added the group to the list of groups registered in the state to do business. This letter will then alert the risk retention group to the annual filing requirements and notice requirements of that states insurance laws relating to risk retention groups and that states guaranty funds and point out that the risk retention group must file an annual premium tax return and then disclose the rate of the annual tax. The letter might also point out the states agent’s licensing requirements and that any person, firm, association or corporation who acts in any manner in soliciting, negotiating or procuring liability insurance must hold the appropriate license.

The annual filing requirements for foreign registered risk retention groups consists of the annual statement, statement of actuarial opinion of loss reserves, report of examination, management discussion and analysis, CPA audit report, designees for service of process, plan of operation or feasibility study if there have been changes or amendments from the original. Each risk retention group should address these individual requirements with their own captive manager and counsel.


The Report of the Government Accountability Office

At the request of the chairman of the Committee of Financial Services of the U.S. House of Representatives, the United States Government Accountability Office conducted a study of the regulation of risk retention groups. On August 15, 2005 the Government Accountability Office filed its report consisting of over 100 pages. That report and testimony leading up to it are available through the GAO’s Web site. (www.gao.gov) In short, the report concluded that risk retention groups have had a small but important effect on increasing the availability and affordability of commercial insurance for certain groups. Risk retention groups roughly have accounted for 2 billion or over 1% of all commercial liability insurance. There has been a deluge of risk retention groups formed in recent years and this trend will continue according to the report. Physicians and medical groups are forming risk retention groups at an increasing rate and seem to be forming these groups regardless of the soft or hard market for commercial insurance. Physicians in Pennsylvania in 2003 saw the availability of commercial insurance disappear with the withdrawal of St. Paul Insurance Company so advocates of formation of risk retention groups to physicians are finding receptive ears to the concept that a soft market might be a good time to form a risk retention group so that the physician’s med mal program will be freed from reliance on the unpredictable commercial market.

The overall conclusion of the Government Accountability Office was that common regulatory standards were needed amongst the states and greater protections are needed. According to the report, the LRRA’s partial preemption of state insurance laws has resulted in a regulatory scene characterized by widely divergent state standards. Some states charter risk retention groups as captive insurance companies and captives operate with fewer restrictions than do traditional insurers. The report stated that most risk retention groups are domiciled in six states and those states make no secret of their desire to attract captives to their states as part of an economic development strategy. Most new risk retention groups tend to make their way to a newly emerging state captive domicile. The report suggested that this desire to be a successful captive domicile may result in a captive domicile lessening its regulatory standards.

Additionally, because most risk retention groups are captives, they are not subject to the same uniform baseline standards for solvency regulation as traditional insurers are. State requirements in important areas such as financial reporting also vary. Regulators may have difficulty assessing the financial condition of risk retention groups operating in their state because not all risk retention groups use the same accounting principles.

Because the LRRA does not specify characteristics of ownership or control, or establish governance safeguards, risk retention groups can be operated in ways that do not consistently protect the best interest of their insureds. For example, the LRRA does not explicitly require that the insureds contribute capital to the risk retention group or recognize that outside firms typically manage risk retention groups. Some regulators believe that members without “skin in the game” will have less interest in the success and operation of their risk retention group and that risk retention groups would be chartered for purposes other than self-insurance, such as making profits for entrepreneurs who form and finance a risk retention group.

The distaste regulators display for the entrepreneur who promotes the formation of a risk retention group is somewhat disturbing. It presents a dilemma to promoters of much needed risk retention group. For example physician groups can truly benefit from forming and belonging to a risk retention group but corralling the physicians, because of their busy schedules and their dedication to their medical practices, has been described by one expert “as trying to herd cats on ice.” In most cases, it will take an entrepreneur such as a broker or consultant to the medical profession to orchestrate the formation and management of a physician’s risk retention group. This person cannot be an owner since he will not be an insured. Obviously, that entrepreneur wants to be compensated and also to protect his own position and investment.

The LRRA provides no governance protections to counteract potential conflicts of interests between insureds and management companies. The report suggests that sometimes management companies have promoted their own interest at the expense of the insureds. Risk retention groups the report suggests could benefit by corporate governance standards that would establish the insured’s authority over management. In fact this is an issue that risk retention groups have themselves struggled with so input and even reasonable regulatory guidelines would probably be viewed with favor by the industry.

The report suggests that non- captive domicile states feel that there has been a lessening of regulatory standards in the six states that license risk retention groups. A combination of single state regulation, growth in new domiciles, and wide variance in regulatory practices has increased the potential that risk retention groups would face greater solvency risks. As a result, the Government Accountability Office believes risk retention groups would benefit from uniform, baseline regulatory standards.

The manner in which other states view the regulatory posture of a domiciliary state is important because the insurance departments themselves are subject to examination by the NAIC periodically and must be accredited by the NAIC. If they fail in obtaining accreditation, they could lose their right to license risk retention groups altogether.


WHAT LIES AHEAD

Risk retention groups are a creation of Congress to solve an insurance availability and affordability crises. Since insurance is cyclical, it would appear that risk retention groups will continue to have a purpose. History has demonstrated the popularity of risk retention groups and risk retention groups have been successful in giving commercial insurance consumers control over their insurance costs. To the commercial insurance consumer, a risk retention group has many advantages including:

• Avoidance of multiple state filing and licensing requirements
• Member control over risks and litigation management
• Stable market established for coverage and rates
• Elimination of market residuals
• Exemption from countersignature laws for agents and brokers
• No expense for fronting fees
• Services unbundled
• Access to the reinsurance markets


As well as disadvantages:

• Risks are limited to liability insurance
• Not permitted to write outside business
• No guaranty fund availability for members
• Might not be able to comply with proof of financial responsibility laws

It appears that the regulation of insurance is taking a federal turn. The LRRA creates an attractive formula for a system of dual regulation. Congress passes the law, creates some rules and then passes off the ongoing regulation to the states. Congress is seriously considering expanding the LRRA to allow property insurance to be written in risk retention groups. It would make sense that it would not be expanded if the state system of regulation was in disrepair. The state system is not ready for the junk heap but it does need some repairs. Continuing efforts by the NAIC will ensure that uniform high standards of regulation of risk retention groups will be established to prevent insolvencies. It seems logical that Congress will keep the existing procedure for regulating risk retention groups after some needed adjustments are made. There will be development of more uniform and appropriate regulation of risk retention groups along with standardized accounting requirements. Thereafter, the numbers of well run and well regulated risk retention groups will continue to grow and continue to write a larger and larger percentage of the commercial insurance market.

Individual states will find a happy balance between economic development and sound insurance regulation interests. The efforts of The NAIC will result in providing a surer foundation to support the growth of premium volume brought about through new business in existing groups, the ever increasing formation of new groups and the expansion of product lines of risk retention groups which could then lead to the eventual elimination of the above named disadvantages of risk retention groups. Court cases will ultimately determine where the regulatory power resides. It is an emerging and interesting although complicated field of alternative risk finance and law. It is a subject that a forward thinking college professor or law school professor in the tradition of Professor Dix Noel could easily embrace.


April 6, 2007
Charleston, South Carolina