legal structures of insurance exchanges

LEGAL STRUCTURES OF INSURANCE EXCHANGESAuthor(s): Thomas L. StevensSource: The Forum (Section of Insurance, Negligence and Compensation Law, American BarAssociation), Vol. 17, No. 4 (Spring 1982), pp. 887-938Published by: American Bar AssociationStable URL: http://www.jstor.org/stable/25762681 .

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LEGAL STRUCTURES OF INSURANCE EXCHANGES

Thomas L. Stevens

Insurance exchanges are a new breed among us. Their lineage is a maze of parents in diverse locations with revolving committees of

legislators, industry boards, and regulators as midwives. Whether this new breed has the proper chromosomal balance to thrive or survive in the insurance industry is not predictable and to prophesize their future is not the purpose of this article. The first section of this article will discuss the technical legal structures of the exchanges in the con text of the existing laws affecting the insurance industry. The second section will contrast the laws of the three states that have enacted

exchange legislation,1 and finally a chart is included to enable the reader to make quick comparisons of the three exchange acts.

I.

The legal structure and special characteristics of the exchanges are new concepts which the insurance industry and more particularly its

regulators will need to accommodate and adapt to the relatively de fined structure of the industry. The New York Insurance Exchange commenced operation on March 31, 1980, with fourteen underwriting syndicates and now has twenty-five underwriting syndicates;2 the Illinois Insurance Exchange started November 20, 1981 with three syndicates formed and several others in formation;3 Florida's Insurance Exchange

1. See III. Ann. Stat. ch. 73, ? 719.01-.27 (Smith-Hurd Supp. 1981), as amended (hereinafter cited as III. Stat.); N.Y. Ins. Law ? 425-a (McKinney 19 ) (hereinafter cited as N.Y. Ins. Law); Fla. Stat. ? 629.401 (19 ), as amended (hereinafter cited as Fla. Stat.).

2. Annual Report of the New York Insurance Exchange, Inc., p. 1 (1980) (herein after cited as N.Y. Annual Report).

3. Illinois Insurance, Vol. XII, No. 6 at P.2 (Nov.-Dec. 1981).

Thomas L. Stevens is a partner of Lord, Bissell & Brook in Chicago and is

Chairman-elect of the Public Regulation of Insurance Committee of the Tort

and Insurance Practice Section of the American Bar Association. The author

is grateful for the contribution of James R. Dwyer, an associate of Lord, Bissell & Brook, who assisted in the research, analysis and writing of this article.

887



888 THE FORUM

of the Americas has appointed a chief executive officer but not yet an nounced an opening date.4 Exchanges are clearly among us. As time

goes by, they may become more prevalent. What is an insurance exchange? The only insurance exchange

previously with us is the reciprocal insurance exchange. It is the

purest form of exchange in that the members originally of the same

industry literally exchanged their own risks for a share of the risk of others. There is no independent risk taker like an insurance company interposed between the insured and the insurer. The new insurance

exchanges are clearly different?insureds do not exchange risks but

through brokers offer their risk to independent underwriting syndicates for a negotiated premium.

The insurance exchange is not a stock exchange where an insured's broker may buy or sell an equity or debit instrument off a cafeteria list of corporations that list their securities for trading on the exchange. The insurance exchanges are not selling or buying equities or debts. Securities traded on a stock exchange are fungible. Insurance is not

fungible, but rather each risk has unique characteristics. The identity of the insurance buyer and the buyer's risk is of critical significance in the insurance exchange transaction. The opposite is true in the stock

exchange transaction.

The exchanges were originally described as being a Lloyd's of

London-type operation based in the United States. The exchanges do have many similarities to Lloyd's in that they provide a marketplace for underwriters to independently participate in risks that are offered. However, the U.S. exchange underwriters are not individuals with unlimited liability and do not have the strengths and weaknesses that flow from that unique factor. Lloyd's has sought out ways to

adjust to the American system, and these efforts coupled with 300 years of experience, a reputation for professional performance, and a continuing demand for Lloyd's services have made a place for

Lloyd's in the U.S. market. The U.S. exchanges in all three states where they are authorized

are not intended to be risk-taking entities. The insurers in each case are the syndicates or underwriting members. The New York In surance Exchange by its statute and constitution is established as a

New York not-for-profit corporation.5 The exchange is not an insurance company, so its organization falls under the rules for general not-for profit corporations. The New York superintendent specially authorized the secretary of state to permit the New York Exchange to use the

word "Insurance" in its name.6 This is an early indication of its

hybrid nature and the need for accommodation. The Illinois Insurance Exchange is not an insurance company either.

4. World Insurance Report, Issue No. 174, p. 10 (Nov. 20, 1981). 5. N.Y. Ins. Law ? 425-a.2, art. 1, ? 1. 6. Department of Insurance Memorandum to N.Y. Secretary of State (April 27, 1979).



Legal Structures of Insurance Exchanges 889

The Illinois statute provides "there is hereby created an exchange . . ."7 The interim board of directors apparently considered this statutory ancestor too uncertain and applied for and received a charter from the Illinois Secretary of State as an Illinois not-for-profit corporation.8

Whether this second statutory creation is necessary or effective may never be resolved. Florida's laws on the entity's structure are unclear,

and thus far nothing is published to state how the Insurance Exchange of the Americas will be formally created.

The exchanges as not-for-profit corporations have a structure that is known. While the exchange itself is not an insurance company or assumer of risks, it is not without responsibility and its attendant li

ability. The exchanges do have responsibility in the supervision of the

business, surveillance of the syndicates' performance and financial

solvency, administration of policy issuance, receipt and accounting of

premiums, preparation and delivery of insurance documents, receipt of claim notices and collection of claim monies. These functions vary from one exchange to another but most are functions each will per form in some degree. All of these functions, totally apart from

liability arising to syndicates from insurance claims, carry their own

liability exposure for the exchanges and their agents and directors, both from the members of the exchange who suffer loss and from the insured public. For example, consider the ramifications if a syndicate or underwriting member becomes insolvent.

First, the exchange guaranty procedures would respond.9 If these limited facilities were insufficient, there would be no recovery from the respective states' guaranty funds and the creditors/claimants would be without a source of recovery. Their first recourse may be to seek

recovery from the exchange or the state itself if there was inadequate or negligent attention to solvency standards, periodic financial report ing, loss reserving, failure to review financial statements or take other action to ascertain the financial strength and prevent or detect the in solvent operation sooner.

If such a claim is made against an exchange what is its position? As a not-for-profit corporation, it is liable for its acts. The Illinois

Exchange corporation bylaws and the New York Exchange constitution both provide for indemnity to the trustees/governors of the respective exchanges so the potential for personal exposure has not been over looked by their creators.10

The potential liability is illustrated by an Illinois case where a private savings association became insolvent. The Illinois Director of Financial Institutions (one "Knight") and finally his estate were pursued by

7. III. Stat. ? 719.02. 8. The Illinois Insurance Exchange, Inc. received its charter from the secretary of

state on February 25, 1980. 9. See provisions cited supra, at notes 227, 231 and 232.

10. III. Stat. ? 719.24 and Illinois Insurance Exchange Temporary By-Laws art. VII; N.Y. Ins. Law art. II, ? 8.



890 THE FORUM

depositors for large delinquencies. The Seventh Circuit held in 1978 that the director's "failure to act decisively in the face of mounting evidence of statutory violations and financial mismanagement can

only be characterized as a willful breach of Knight's duties as Director of the Department of Financial Institutions."11 The state of Illinois settled its liability for $12.5 million during suit and before judg

ment; and the court then held the Knight estate liable to the depositors for their damages resulting from Knight's actions. The lower court

opinion said that the depositors were milked of nearly $23 million.12 The Illinois Director of Financial Institutions in performing the

duties of his office was protected by governmental immunity. This case concludes the immunity did not apply since the director breached

ministerial obligations under the statute and therefore was liable. An "official duty is ministerial when it is absolute, certain and imperative, involving merely the execution of a set task" and nothing remains for judgment or discretion.13 In this case, the Director failed to perform the ministerial duties imposed by the Illinois statute in the surveillance of the defunct savings institution.

While public officials are immune from liability for errors in

judgment in the performance of their duties, in Illinois as elsewhere, the immunity conferred on public officials is a qualified one that can be displaced by negligent conduct in the performance of ministerial duties or by corrupt conduct in the performance of discretionary duties.

Obviously the characterization of duties as ministerial is critical. The financial surveillance duties imposed upon the exchanges would not appear to be far different from those of the Director of Financial Institutions in this important Illinois case.

Public officials with this circumscribed immunity have a liability exposure. The exchanges and their officials are not governmental but private even though charged with important quasi-governmental duties in the operation of the exchanges. Will the exchanges have some future defined immunity or will they be subject to claims based upon negli gence? Even if the common law public official standard is utilized, the exposure is considerable.

In the Illinois case, it is significant that there was personal liability for the director in addition to that of the state itself. Illinois courts are not alone in this concept. Personal liability was also imposed for failure to perform ministerial acts in Florida14 and in New York,15 but in another New York case, it was held school board members were not personally liable if acting in their official capacity even if charged with malicious intent.16 There are other activities and responsibilities imposed upon the exchanges that could give rise to liability. These could be treble

11. Tcherepin v. Franz, 570 F.2d 187, 193 (7th Cir. 1978). 12. Tcherepin v. Franz, 393 F. Supp. 1197, 1200 (N.D. 111. 1975). 13. Id. at 1207-208. 14. Fidelity & Deposit Co. v. Cove, 190 So. 268 (Fla. S. Ct. 1939). 15. Schwartz v. Heffernan, 105 N.Y.S.2d 516 (1951). 16. Van Buskirk v. Bleiler, 360 N.Y.S.2d 88 (1974).




damage suits from antitrust violations, extracontractual damages from claim reporting failures, or errors or omissions in its central processing function or general administration including employment relations. What practically happens if the exchange is held liable for its failure

to prevent or properly act upon an insolvency or perform some other

duty? Can the exchange assess its members to meet any liability im

posed upon the exchange or its officials? There is no special provision for such an assessment apart from the exchange's general authority to assess the cost of the exchange operations over the participants. The

exchange's authority to assess its cost of operations across its members would seem to include any liability imposed upon the exchange for

negligence.17 Since this general assessment authority is unlimited, the member syndicates could discover that because of an insolvency they are faced with an assessment much the same as a guaranty fund but unlike the guaranty fund unlimited in amount and in addition to the statute's express guaranty fund provisions.

THE UNDERWRITING SYNDICATE

The exchange is the glue that holds together its various parts whether these parts be called the underwriting members as in New York and Florida or syndicates as in Illinois. The underwriting members are the units that assume the risk. These units can be a composite group of corporations, partnerships or individuals. In New York it is clear that the unit cannot be an insurance company;18 Illinois provides a

syndicate may be organized pursuant to either the insurance code or the general corporate laws, but there is no authority for such a corpora tion to be licensed as an insurance company.19 The fact is that all

underwriting units on the Illinois Exchange and twenty-three on the New York Exchange are in corporate form.20

The insurance or reinsurance policy when issued by the New York Insurance Exchange indicates that the underwriting unit is the in surer. The exchange is intended to have no liability under these policies.21

However, the statutes do not state how suit is to be brought on the

policies. Is the exchange to be the named defendant as the issuer of the policy, or is the plaintiff to bring suit against each underwriting unit that participates on the risk? If the exchange is to be named as a

representative defendant for ease of administration, what is the ex

change's liability in the event of an adverse verdict which its under

writing member refuses to pay or is unable to pay? The exchanges

17. See, e.g., III. Stat. ? 719.07; N.Y. Ins. Law, at art. II, ? 1. 18. New York Insurance Department Regulation 89, ? 18-1.2(a) (11 NYCRR subpart

18-1 (hereinafter cited as N.Y. Regs.). 19. III. Stat. ? 719.06a. See also General Business Corporation Act, III. Rev. Stat.

ch. 32, ? 157.3 (1970), as amended. 20. List of underwriting members published by New York Insurance Exchange, Inc.

and issued with letter from Anne M. Quinn, counsel for New York Insurance Exchange, to the author (October 22, 1981).

21. N.Y. Ins. Law art. IX, ? 1(d).



892 THE FORUM

have no capital and therefore are not a creditworthy defendant. Pre

sumably then, suits should name the individual underwriting units as defendants and service of process should be made upon each

representative underwriter. Illinois has addressed the service of suit issue by having the Director of Insurance act as agent for service of

process for all the exchange syndicates, subscribers and brokers.22 In contrast, New York requires that underwriting members designate the exchange as agent for services of process.23 While the exchanges are not insurers, there is an apparent con

tradiction in this concept when the exchanges request that credit for reinsurance assumed be allowed, when they are admitted to do business in other states, or when they are approved for surplus line business. The New York Insurance Exchange is an accepted reinsurer in fourteen states, and its reinsurance is permitted in twelve other states.24 The Illinois Exchange is authorized to do direct business, and New York has just adapted legislation to permit it to do direct surplus line busi ness outside the state.25 New York and Illinois both apparently con

template qualifying to do surplus line business in other states. What standards shall the states apply? Shall each underwriting unit be evaluated separately or shall the exchange be reviewed as a composite? This basic question must be answered by each state.

The exchanges themselves are not insurance companies under the statutes which created them even though they may seek to be treated as such. As indicated above, the two exchanges that have formed are not-for-profit corporations. Interestingly, both exchanges are em

powered to do an insurance business by their domiciliary states. If one examines the functions of an exchange, however, they would not seem to fit the traditional role of an insurance company. The somewhat typical statutory definition of an insurance company is "an insurance or surety company, . . . deemed to include a corporation, company, partnership, association, society, order, individual or aggre gation of individuals engaging in or proposing to engage in any kind of insurance or surety business, including the exchanging of reciprocal or inter-insurance contracts between individuals, partnerships and cor porations."26 (emphasis added).

Case law defines insurance as "a system of business by which one party for an agreed consideration proportionate to the risk involved undertakes to a specified extent and under stipulated conditions to indemnify another against pecuniary loss arising from destruction of, or injury to, property from certain perils, or to pay a stipulated sum on the death or physical disability of a specified person or on his at taining a certain age."27

22. III. Stat. ? 719.25. 23. N.Y. Regs., supra note 18 at ? 18-1.3(a)(6), Rule 21.00 of the Operating Rules of

the New York Insurance Exchange, Inc. (hereinafter cited as "N.Y. Operating Rules"). 24. N.Y. Annual Report, supra note 2 at 3. 25. Journal of Commerce, Feb. 19, 1982, at p. 7A, col. 4. 26. III. Ann. Stat., ch. 73, ? 614(e) (Smith-Hurd 1965). 27. Vrendenburgh v. Physician's Defense Co., 126 111. App. 509 (1906).




Since none of the exchanges is a party to or assumes any liability under any exchange contract, they would not constitute an insurance

company under these traditional definitions. The reciprocal insurance and inter-insurance exchanges went through this same type of identity crisis when the courts attempted to determine whether they were in surance companies or something else.28 Their status today has largely been clarified by the insurance codes of the various states which now

specifically list them as insurance companies as in the case of the statute cited above.

The Illinois exchange will prepare an annual statement in the form

prescribed by the Illinois director, but presumably it will relate only to the not-for-profit corporation's financial condition. A 1981 amendment to the Illinois legislation also requires each syndicate to file with the

exchange an NAIC convention form financial statement by March 1 each year and requires the exchange to publish an abstract of each

underwriting syndicate's statement.29 The New York Exchange's con stitution requires members and associate brokers to file with the ex

change an annual financial statement in the form prescribed by the board and states the Board will prepare and publish a consolidated statement showing the underwriting results and financial condition of each underwriting member.30

It is clear that the exchanges emphasize the financial status of their

separate members; admission or qualification of an exchange in another state would seem to require a similar examination of its separate underwriting parts. Alternatively, joint and several liability among its

underwriting units would give an exchange a composite security, but that is contrary to the facts. Another alternative would be the creation of a massive fund held by an independent financial institution in trust for policyholders such as Lloyd's has done.31 Regulators, insurance

executives, and lawyers who conjure with the license qualification process in the various states can, with little effort, develop many other administrative conundrums that will arise during the preparation of the annual statements, department examinations, and compliance

procedures with countersignature and resident agents requirements in

foreign states. It may be that the only solution is for the exchange to seek legislative

accommodation recognizing their peculiar form so that they can be treated as the special creatures they are rather than each state attempt ing to fit them into a statutory framework that was not drawn to ad dress these special situations. A joint effort under the jurisdiction of the National Association of Insurance Commissioners would seem to be in

everyone's interest.

28. See In re Minnesota Ins. Underwriters, 36 F.2d 371 (D. Minn. 1929); Turner v. Henshaw, 155 N.E.2d 222 (Ind. App. Ct. 1927); 2 Couch, On Insurance 2d, ? 18:12 (1959).

29. III. Stat. ? 719.13a. 30. N.Y. Ins. Law, art, II, ? 11, N.Y. Operating Rule 22.30. 31. Best's Insurance Reports, Property and Casualty 1934 (1981).



894 THE FORUM

FEDERAL INCOME TAX

The hybrid structure of the exchanges and their underwriting syndi cates is highlighted again when they are measured against the statu

tory dimensions of the Internal Revenue Code. Insurance companies (other than life or mutual insurance companies) are taxable under Section 831 of the Internal Revenue Code (the "Code") at general corporate rates.32 The definition of insurance companies' taxable in

come differs from other companies because of the accounting method used. Section 832 of the Code, which defines taxable income for

property and casualty insurance companies, essentially adopts the

statutory accounting principles used to prepare the National Associa tion of Insurance Commissioners form of annual financial statements filed with state insurance departments.33 Under Section 832 insurance

premiums are included in income as earned and not as received.34 Insurance companies are permitted to deduct estimates of liability for insured occurrences even though the liability is not fixed and deter

minable and may even be resisted. Furthermore, acquisition expenses are currently deductible under statutory accounting principles but would be amortizable over the term of the policy under generally accepted accounting principles.35 These differences due to special accounting treatment applied to insurance companies under Section 832 result in tax deferral during inception and expansion of underwriting operations.

The threshold question is how to apply these federal tax statutes

against the emerging exchanges and their noncorporate underwriting members. The exchanges themselves are not, by their own definition, engaged in insurance and thus far are formed as not-for-profit corpora tions. The underwriting members which are corporations probably will be treated as any other insurance company. Even though they do not

individually hold a certificate of authority or license under any of the

exchange legislation, there is little question that a syndicate whether in a corporate or noncorporate form participating on an exchange will be engaged in the business of insurance, as insurance has been defined

by the Internal Revenue Service and the courts.36 However, the Code does not specifically apply the statutory accounting principles adopted by Section 832 to noncorporate entities. Thus, Section 831 utilizes the term "insurance company" and provides for taxation at

corporate rates. Section 832 which grants the more favorable tax deferral accounting system applies to companies subject to tax under Section 831. Section 7701(a) defines "corporation" to include associa tions, joint-stock companies, and insurance companies while it defines

32. I.R.C. ? 831. 33. Id. at ? 832(b)(1), (6). 34. Id. at ? 832(b)(3). 35. See Lenrow, Milo & Rua, Income Taxation of Insurance Companies, at 153-54

(3d ed. 1959). 36. See, e.g., Rev. Rul. 77-326, 1977-2 C.B. 53; Helvering v. LeGierse, 312 U.S. 531

(1941); Steere Tank Lines, Inc. v. United States, 577 F.2d 279 (5th Cir. 1978).




"partnerships" to include a syndicate, group, pool, joint venture, or other unincorporated organization "which is not, within the meaning of this title ... a corporation."37 This leaves the noncorporate under

writing member outside the purview of the Code's provisions on in surance companies.

This technical uncertainty as to whether the members of an un

incorporated syndicate could compute taxable income under Section 832 principles while being taxed directly at applicable corporate rates

generated the New York Insurance Exchange's request to the Internal Revenue Service for private letter rulings requesting that syndicates organized as general and limited partnerships be permitted to compute taxable income on the basis of statutory accounting principles and that partners be taxed directly at applicable corporate or individual rates on their shares of syndicate income.38

No formal statement has been made by the exchange and none

published by the Service at this time. However, the press has reported that these requests have now been withdrawn because the Service has indicated informally it would rule negatively on them. The Service's

position is reported to be that statutory language requires that non

corporate insurance organizations be taxed as corporations under Section 831. This treatment precludes passing the accounting ad

vantages under Section 832 through to the individual investors.39

Negotiations reportedly are still taking place between the New York and Illinois exchanges and the U.S. Treasury Department.

Until the tax posture of noncorporate underwriting members is

ascertained, it is unlikely there will be any noncorporate subscribers to syndicates or underwriting members on exchanges, and the increased

industry capacity that would come from private individual investors

will not materialize. At the present time, all the subscribers to Illinois

syndicates and twenty-three New York underwriting members are

corporations. It would be technically possible to obtain passthrough taxation at individual rates if domestic investors formed a subchapter S corporation to write property and casualty insurance. Such a corpora tion would qualify for the favorable tax treatment as an insurance

company under the Code and could passthrough the advantage to the individual shareholder if the subchapter S requirements were other

wise met.40

APPLICATION OF ANTITRUST LAWS

The impact on the exchanges of federal and state antitrust laws is another area of future uncertainty. With the present pace of change in the application of federal antitrust laws to the insurance industry

37. I.R.C. ? 7701(a). 38. See Williams, Tax Consequences of Investment in the New York Insurance Ex

change, 58 Taxes 610, 614 (Sept. 1980). See also Journal of Commerce, March 31, 1980, at p. 18a, col. 4.

39. Journal of Commerce, March 30, 1981, at p. 3b, col. 1. 40. Rev. Rul. 74-437, 1974-2 C.B. 274.



896 THE FORUM

and including the more restrictive view41 of the "business of insurance" which is exempt from the Sherman and Clayton Acts by the McCarran Act when regulated by the states, the posture of the new exchanges may be only slightly more unsettled than that of the rest of the in surance industry.

The McCarran Act antitrust exemption for the business of insurance ushered in state mandated controls over insurance rates.42 Initially, most states adopted the All Industry model rating law which provided for filing and approval of rates before they were used. The industry was clearly permitted to act in concert in setting rates, forms, under

writing rules and in requiring adherence to the rates and rules.43

Open competition-type rating laws which recently have gained greater acceptability permitted independent pricing without approval of the state regulatory authority. The open competition laws were held to

meet the standard of state regulation so long as the state's laws

"generally" proscribed or permitted certain action by the insurance

company.44 In addition, the fact that state antitrust laws applied to the insurance industry was also held to be sufficient state regulation of insurance to trigger the McCarran Act exemption.45

The exchanges are designed to operate without any rate regulation. Illinois has so provided by statute46 and New York by regulation "pro vided that the Exchange adopts rules to accomplish the intent and

purposes of . . ." the rating laws.47 If there is no state regulation of rates and forms, what is the basis to claim the McCarran Act exemption

applies to the business of the exchanges? The Department of Justice flatly concludes in a footnote in its report on antitrust immunities that "as reinsurance rates are not regulated by the states, reinsurers are

presently subject to federal antitrust restraints . . 48 Presumably the

Department would conclude the same where the exchange rates are not regulated by the states.

Should it be determined that the McCarran Act exemption does not

apply because of the absence of state rate regulation, the exchange operations must then be examined for any violation of the antitrust laws. The tests to be applied are probably those summarized by the

Department of Justice for joint ventures as follows: "a) Does the creation of the joint venture eliminate any significant competition between the parties; b) Are there any unreasonable collateral re

41. See, e.g., Group Life & Health Ins. Co. v. Royal Drug Co., 440 U.S. 205 (1979); Proctor v. State Farm Mut. Auto. Ins. Co., 440 U.S. 942 (1979).

42. Pub. L. No. 15 (79th Cong., 1st Sess.), 15 U.S.C. ?? 1011-15, 59 Stat. 33 (1976). 43. Report of the U.S. Department of Justice to the Task Group on Antitrust Immuni

ties, The Pricing and Marketing of Insurance, at 22-23 (Jan. 1977) (hereinafter cited as Dept. of Justice Report).

44. California League of Independent Ins. Producers v. Aetna Casualty & Surety Co., 175 F. Supp. 857 (N.D. Cal. 1959).

45. Id; see also Professional & Business Men's Life Ins. Co. v. Bankers Life Co., 163 F. Supp. 274 (D. Mont. 1958).

46. III. Stat. ? 719.11. 47. N.Y. Regs., supra note 18 at ? 18-1.4(h). 48. Dep't of Justice Report, supra note 43, 226 n.477.




straints, and c) Is the joint venture an essential facility to which all are entitled access on reasonable and nondiscriminatory terms?"49

The Department of Justice considered joint venture arrangements in discussing the application of the antitrust laws to the pricing and

marketing of insurance. Each placement on an exchange is a new joint venture with new venturers at different interests. The Department of Justice report states with reference to ad hoc joint ventures and the

existing reinsurance business:

Placement and reinsurance arrangements have many of the characteris tics of an underwriting syndicate or a joint loan syndicate, in that they have evolved over time to serve a legitimate business need and are gen erally limited in size, purpose, and duration. Risk-sharing is often an

important justification for such schemes.50

The report concludes somewhat optimistically in the writer's opinion that "there is sufficient precedent in the federal antitrust laws to permit the perpetuation of the placement and reinsurance arrangements that are necessary to the conduct of business and reasonably structured."51

Permanent joint ventures or pools for the writing of specialized busi ness are also discussed; the Department of Justice concludes as to them

that insurance syndicates, either necessary to the conduct of business

(and reasonably structured) or providing significant economies of opera tion without substantially lessening actual or potential competition,

would be lawful joint venture arrangements under the federal antitrust laws. [The Department of Justice does] not believe than [sic] any special exemption from the antitrust laws for such insurance risk-sharing activi ties would be necessary or appropriate.52

While the analogy of existing placement and reinsurance arrange ments to the business transacted by exchanges is not completely ac

curate, the comparison is instructive on the elements which the

Department of Justice considers significant. Against these general permissive statements related to joint ventures, one must consider

additional contrary factors present in the exchanges that may lead to a different result. The express absence of or exemption from state

regulation of exchanges' pricing and marketing is not a factor that was considered in the context of an organized market. The ad hoc

joint ventures commented upon were unique on each venture, and while each placement on an exchange may have a unique set of

circumstances, the exchange organization and market leaders and followers will constitute an organized, and continuing market. At the

beginning stages this market is subject to being dominated by the

larger more aggressive underwriting syndicates. In more advanced stages the exchange market itself could have a dominant effect upon the entire industry and the distribution of insurance. It is not therefore

49. Id. at 122-31. 50. Id. at 227-28. 51. Id. at 229. 52. Id. at 237-38.



898 THE FORUM

a fleeting, free-form entity, but rather a new force for organizing the insurance marketplace. Furthermore, the markeup of the exchanges cannot be overlooked. Both the New York and Illinois insurance ex

changes are composed of syndicates or underwriting members that are affiliated with or wholly owned by existing insurance companies.53 The exchanges, at this point at least, do not represent a new source of competition, but rather present a new, chiefly unregulated, outlet for the existing insurance industry. Exchange members are presented with a vehicle to make rates in concert as the prescribed way of doing business. As the exchanges grow in financial strength and industry stature it will become important to insure that the new regulatory freedoms are not abused and that they do not eliminate any significant competition due to a voluntary withdrawal of the regulated market from

competition. That is, the first test enunciated above by the Justice

Department must be regularly applied to determine that the exchanges have not eliminated significant competition in the industry.

Insurance company holding systems may have a practical ad ministrative reason to allocate by agreement the type of business the

exchange syndicates will write and not write in view of the business

being written by the affiliates of the syndicates. Some underwriting syndicates are internally joint ventures of several insurance company parents, both domestic and alien, and the underwriting agreements between them may be under scrutiny as to the reasonableness of any such exclusive collateral arrangements. Finally, nondiscriminatory ac

cess for admission to the exchange by new participants on an open and objective basis is clearly essential. All of these operating matters would seemingly affect whether there is any present or future technical violation of the antitrust laws.

These anticompetitive factors may be more imagined than they are real. The exchanges are designed to be marketplaces where brokers and underwriters can bargain competitively. Once a lead underwriter sets a price and terms it will be up to the broker, not the underwriter, to solicit support for the leader's terms. Other underwriting syndicates

may subscribe or not as they freely determine. If a leader's terms are not followed, they will be amended or a new leader found with terms that do attract a sufficient following. There is nothing sinister in this

system. On the contrary, the exchanges can be the epitome of a free market. They should provide a dynamic system for the insurance

industry to provide a product to the insurance buyer that is com

petitively and fairly priced. In the final analysis, if the exchange's underwriting syndicates

avoid the prescribed activities and operate independently to provide the fresh, unfettered market that was intended, they will constitute a

plainly evident, competitive new market that should satisfy the most

stringent tests of proper conduct under the antitrust laws.

53. See authorities cited supra, notes 3 & 20.




II.

COMPARISON OF INSURANCE EXCHANGE LEGISLATION

A. Formation of Exchanges 1. Number of Exchanges 2. Authority to Transact Business 3. Legal and Tax Status 4. Classes of Exchange Business 5. Admission 6. Management

B. Operation of Exchanges 1. Applicability of Insurance Laws 2. Regulation of Exchange Operations 3. Transaction of Exchange Business 4. Central Processing Facility 5. Insolvency 6. Security Funds 7. Prohibited Conduct 8. Miscellaneous Provisions

The Illinois, New York and Florida insurance exchanges are subject to various regulatory constraints similar to those applicable to any insurance company. There are also differences. These differences and similarities may be analyzed from two vantage points along the

regulatory continuum, namely (1) formation of the exchange which in the case of New York and Illinois are now historical, and (2) the transaction of exchange business.

A. Formation of Exchanges

Illinois, New York and Florida have pervasively regulated the exchange formation process including, for example, incorporation, qualification to transact business, membership in an exchange, and type of man

agement.

1. Number of Exchanges in Illinois, New York and Florida

Although the Illinois and New York Code provisions contemplate the formation and operation of one exchange,54 Florida provides for the creation of "one or more insurance exchanges [in Florida], with one or more offices each . . ."55

2. Authority to Transact Business

Illinois. The Illinois Director of Insurance retains control over

whether the Illinois exchange may commence business. The director is

empowered to appoint an interim board of directors whose function

54. III. Stat. ? 719.02; N.Y. Ins. Law ? 425-a.l. 55. Fla. Stat. ? 629.401(1).



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is to "adopt temporary bylaws, hire employees, and take such other

steps as are authorized or necessary to establish the exchange."56 When the exchange has received $4 million in "subscriptions,"57 the board may submit an application to the director for a certificate of

authority.58 The director is required to issue a certificate of authority to the

exchange when: (1) the exchange has received $4 million in sub

scriptions, and (2) the central processing facilities required by the statute have been established.59 As with any Illinois insurer, therefore, the procural of a certificate of authority is required before the exchange syndicates can issue or reinsure insurance contracts.

Florida. Florida does not require an exchange to procure a certificate of authority. However, its authority to transact business is conditioned on the prior "determination by the Insurance Commissioner and Treasurer that the exchange may operate in an economic and bene ficial manner."60 As in Illinois, Florida sets forth the procedure whereby a proposed exchange obtains the necessary authority. A committee is

appointed by the insurance commissioner and treasurer and other state

government officials to write the constitution and bylaws of the ex

change and to make other necessary recommendations. The committee is required to transmit the proposed constitution, bylaws and recom

mendations to the commissioner and treasurer and also to the state

legislature. If the legislature fails to disapprove the constitution and

bylaws, "the exchange shall have full authority to function pursuant to its constitution and bylaws 60 days after the end of the [legislative] session."61 Unlike Illinois, however, Florida does not condition the

authority of an exchange to commence business on the receipt of a

specified amount of capital or the implementation of a central process ing facility.

New York. In contrast to Illinois and Florida, New York does not restrict the ability of the exchange to commence business62 but in stead generally provides for the creation of the exchange subject to

any regulations promulgated by the superintendent of insurance.63 The New York legislature established the terms of the constitution and

bylaws that govern operation of the exchange before business com menced.64

56. III. Stat. ? 719.02. 57. See provision cited supra, note 76. 58. III. Stat. ? 719.02. 59. III. Stat. ? 719.04(a), (b). 60. Fla. Stat. ? 629.401(2). 61. Id. 62. Article XVII of the Constitution regulates the initial organization of the Exchange

and provides for, among other things, the establishment of an initial Board of Governors and the first meeting of the Board of Governors and Nominating Committees.

63. N.Y. Ins. Law ? 425-a.l. 64. N.Y. Ins. Law ? 425-a.2. Section 425-a.2 sets forth the constitution of the New

York Insurance Exchange.




3. Legal and Tax Status of Exchanges As indicated, the New York Exchange has been incorporated pursuant to Section 201 of the New York Not-For-Profit Corporation Law.65 The exchange enjoys a limited tax exemption which is not available to other insurers regulated by the New York Insurance Department and which relieves the exchange from state or local taxation or fees

measured by income, premium or gross receipts. However, the exchange must pay premium taxes on the amount of direct premiums written, procured, or received by members through the exchange on risks located in New York.66 Unlike New York, neither Illinois nor Florida

specifies whether the exchanges in those states are corporate or other

types of traditional business entities.

Although the Illinois exchange is formed pursuant to the Illinois

not-for-profit corporation law, Section 719.02 of the Illinois insurance

laws, which is entitled "Incorporation," provides that "there is hereby created an exchange for the reinsurance and reinsurance of risks . . ."

(emphasis added.)67 Hence, it is not entirely clear whether the Illinois

exchange has been validly incorporated under applicable provisions of the Illinois not-for-profit corporation law. However, the Illinois exchange is exempt from any tax imposed on insurers by the Illinois insurance laws but apparently is not exempt from the state income tax or other taxes imposed by state or municipal statutes.68

The voting rights of broker members and associate brokers on a Florida exchange are governed by the Florida not-for-profit corporation law69 However, no provision in the Florida insurance laws expressly states whether or not an exchange is incorporated under that law. Never

theless, Florida did consider the tax questions raised by the formation of an exchange and, like New York, provides that a Florida insurance

exchange shall not be subject to any state or local taxes or fees except for the premium tax due on direct premiums written, procured or received by a member or members through the exchange on risks located in Florida.70

4. Classes of Exchange Business

New York and Florida provide a facility for reinsurance of all kinds and for direct insurance of non-U.S risks, including life insurance.71 In addition, New York permits the exchange to write direct insurance for risks which have been submitted to and certified as having been

rejected by a committee of representatives of insurers licensed by the

65. See note 5, supra. 66. N.Y. Ins. Law art. XVII, ? 5-4. Due to the low volume of direct business placed

on the Exchange that has been rejected by insurers in the Free Trade Zone, the impact on the Exchange of a premium tax on risks located in New York has, to date, been minimal. See N.Y. Annual Report, supra, at note 2, p. 1.

67. III. Stat. ? 719.02. 68. Id. at ? 719.11. 69. Fla. Stat. ? 629.401 (3) (f). 70. Fla. Code ? 629.401(4). 71. See N.Y. Ins. Laws ? 425-a.l; art. 1, ? 2; Fla. Stat. ? 629.401(l)(a)l, 2.



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superintendent under Section 168-d of the insurance laws and as of

February 18, 1982 on surplus line risks located outside the state.72 Direct insurances on New York risks must have been declined by those insurers

specially licensed in New York to write in the "free trade zone." The Florida exchange does not have a free trade zone concept on

direct writings analogous to that in New York but does permit writing surplus lines insurance eligible for export under the Florida insurance laws and placed through a licensed Florida surplus lines agent.73

Underwriting syndicates on the Illinois exchange are limited to

writing all classes of insurance and reinsurance other than life74

However, there is free access for direct insurance only for risks with a minimum premium of $50,000. To place a lower premium risk brokers must certify by affidavit that they were unable to place the risk with licensed companies. However, Illinois does not impose restric tions based on situs of risk.

5. Admission

All three statutes regulate the admission of persons and entities to the exchange but impose different admission requirements and con ditions and utilize different terminology.

Illinois. Illinois regulates the admission of "syndicates" and "sub scribers" to the Illinois exchange.75 A "syndicate" is a subscriber, group of subscribers, limited syndicate or group of limited syndicates which has and maintains a $2 million minimum capital requirement.76 "Subscriber" means a person who has made and maintains a $30,000

minimum deposit of money,77 a "person" being defined as an "individual, partnership, association, corporation or limited partnership." Addition

ally, the exchange and each syndicate, limited syndicate, subscriber or exchange broker, as a prerequisite of admission, must designate the Illinois Director of Insurance as agent for service of process.78

Syndicates and limited syndicates may be organized as domestic stock companies pursuant to specified provisions in the Illinois in surance laws.79

The exchange is empowered (but not required) to establish annual fees for the admission of subscribers and to make assessments of sub

72. N.Y. Ins. Laws, supra note 1, at ? 425-a.l(a)(iii); art. I, ? 2(iii), N.Y. Operating Rule 9.13; see also Journal of Commerce, Feb. 19, 1982, p. 7A, col. 4, supra, at note 25.

73. Fla. Stat. ? 629.401 (l)(a)3. Sections 626.916 and 626.917 of the Fla. Statute regu late the export of all insurance coverages and, in particular, of wet marine, transporta tion and aviation insurance. Generally speaking these provisions ensure that coverages will not be indiscriminately exported outside the state where the coverage could be placed within the authorized market.

74. See generally III. Stat. ? 719.03. See also Regulations of the Illinois Insurance Exchange, Inc. ? 11 (hereinafter cited as 111. Regs.).

75. See generally III. Stat. ? 719.15; 111. Regs. ? 1. 76. III. Stat. ? 719.07. 77. Id. 78. See note 22 supra. In contrast, New York requires underwriting members to desig

nate the exchange as agent for service of process. See note 23 supra. 79. III. Stat. ? 719.06a; see also III. Stat., art. II, ?? 7, 8, 10, 11, 12, 14, 14.1(a)-(c),

(e)-(g), 15(a)-(c), 18-22, 23(l)(a), (2)-(4), 25, 27.1, 28, 28.1, 28.2, 29-32, 32.1, 33 and 35.1.




scribers or syndicates for the expenses of operating the exchange as well.80 By resolution, the interim board of directors requires syndicates to pay to the exchange a $250 application fee, $750 charter membership fee, and an initial assessment of $9,000, The board has since de termined that each syndicate must pay an additional assessment of $10,000. Hence, a syndicate seeking admission to the Illinois exchange must currently remit $20,000 in fees and assessments.

The exchange has adopted regulations which promulgate admission standards as well as rules affecting other aspects of exchange business.81 A syndicate desiring admission to the exchange must submit application, biographical questionnaire, application fee, charter membership fee, ini tial assessment charge and must comply with any other requirements of the board.82 Among the specified standards for admission of a syndi cate are compliance with the Illinois code and prescribed application regulations, the designation of a "manager" and "underwriting agent" pursuant to regulations,83 submission of other information deemed

appropriate by the board, and satisfaction of the board that the applicant is qualified for admission as a syndicate.84

Resident or nonresident licensed brokers and reinsurance interme diaries may apply to become exchange brokers85 by submitting ap plication, any information required by the board, and an initial fee of either $1,000 or $500, depending on when the application is filed during the calendar year

86

Other exchange regulations prescribe rules with respect to the capitali zation of syndicates.87 Syndicates are permitted to include qualified letters of credit in their capitalization if such amounts do not exceed 75 percent of the syndicate's total initial capitalization.88

The regulations authorize the exchange, as opposed to the director of insurance, to "take whatever actions it deems necessary to assure

that [a] syndicate will be able to pay its present liabilities (including policyholders' claims) and potential future liabilities" when any syndi cate's capitalization becomes impaired.89 Where the nonrenewal of a letter of credit would result in impairment, the exchange is permitted to draw on the letter of credit and hold the proceeds in trust for the benefit of the syndicate, distribute the proceeds to the syndicate, or disburse the proceeds to the creditors of the syndicate.

80. Id. at ? 719.07. 81. See 111. Regs, cited supra, at note 74. 82. Id. at ? 2 83. Id. at 12, 13. 84. Id. at ? 3. 85. "Exchange broker" is denned in ? 719.15 of the Illinois Statute ss "a person li

censed as an insurance broker in the State of Illinois or is a reinsurance intermediary who is admitted to the Exchange to present applications for insurance." "Present Ap plications for Insurance" under Article V V2 means "to make an application to a syndi cate for an insurance policy."

86. 111. Regs. ? 9. 87. Id. at ? 7. 88. Id. at ? 7.B. See also ?? 7.D., E. 89. Id. at ? 7 C.



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New York. Membership in the New York exchange is limited to "un

derwriting members" and "broker members."90 An "underwriting mem

ber" is "an underwriting syndicate authorized by the board to insure or reinsure risks as the 'member' of the Exchange."91 The Superintendent of Insurance has promulgated a regulation which states that any per son, firm, corporation or other entity may become an underwriting

member of the exchange except that domestic, foreign or alien insurers

may not become underwriting members. Nevertheless, those insurers

may, subject to applicable provisions of the insurance laws, own stock in a corporation which is an underwriting member or own stock in a

corporation which is a partner in an underwriting member.92

Corporations which apply to the exchange as underwriting members are exempt from the insurance laws which regulate the incorporation of stock or mutual insurers only if specified conditions are met.93 This

exemption does not, however, authorize the corporation to transact

insurance in New York other than as a member of the exchange. Underwriting members can be organized as "property and casualty

syndicates," "life syndicates," or "life and property and casualty syndi cates." Subsequent to meeting the minimum capitalization requirements, life or property and casualty syndicates must maintain $500,000 in

paid-in capital at all times. Life and property and casualty syndicates must maintain $1 million in paid-in capital.94 New York also requires that underwriting members agree as a condition of membership to use

only Exchange contracts in transacting business.95 A "broker member" is a person, firm, corporation, or other entity

licensed in New York as an insurance agent, broker or reinsurance in

termediary and "actively engaged in the insurance or reinsurance busi ness as a principal occupation for no less than three years preceding the date of application for membership."96

"Associate brokers" may also transact exchange business. The require ments to be met by the associate broker are identical to those applicable to the broker member, except that the associate broker may transact business on the exchange only through a broker member or, upon cer tification to the board that the placement is solely for the associate broker's own account, directly with an underwriting member. However, an associate broker is not a member of the exchange and is not entitled to vote on any manner.97

Any person, firm, corporation or other organization which is approved by the board and pays the initiation fees and annual dues as determined

by the board of governors may become a subscriber of the exchange. As with the associate broker, however, subscribers are not members of

90. N.Y. Ins. Law art. VII, ? 1. 91. Id. at art. VII, ? (la.) 92. See N.Y. Regs., supra at note 18. 93. Id. at ? 18-1.3(a)(5). 94. Id. sit ?? 18-1.2(h)(l)-(4); 18-1.2(c). 95. N.Y. Ins. Law art. VII, ? 1(a). 96. Id. at art. VII, ? 1(b). 97. Id. at art. VII, ? 2.




the exchange and are not entitled to vote, initiate transactions or other wise transact exchange business.98 Unlike subscribers to the Illinois

exchange, therefore, subscribers in the New York exchange have no

underwriting function and are given no role in the management of ex

change affairs. New York imposes other conditions on membership or participation

in the exchange and sets forth various application procedures. Broker members or associate brokers must submit application for review to committees established by the board of governors and must also: (1)

meet the standards and qualifications prescribed by the membership committee or board of governors; (2) maintain a principal office in New York state; (3) place on the exchange only those kinds of business which they are licensed to place under the New York code, (4) demon strate financial responsibility by either furnishing a bond in an amount to be determined by the board or by providing a financial statement

acceptable to the board; and (5) agree to pay a share of the operating expenses of the exchange as may be assessed by the board. In addition, the broker member must pay a $10,000 initiation fee and any annual dues prescribed by the board. An associate broker must pay annual dues of $1,000."

An underwriting member wishing to write all kinds of insurance other than life and annuities or life and accident and health on the New York exchange must provide an initial paid in capital and surplus of $3,550,000 and maintain a minimum policyholder surplus of $2,200,000. To write all kinds of insurance the initial paid in capital and surplus is

$6,550,000 and a minimum policyholder surplus of $3,300,000 must be maintained. Each underwriting member must also: (1) maintain a

principal office in New York for the transaction of exchange business; (2) agree to pay a share of the operating expenses of the exchange as

may be assessed by the board; and (3) pay a $10,000 initiation fee and

any annual dues prescribed by the board.100 New York also conditions membership or participation in the ex

change on the acceptance of the constitution and rules.101 The formal

adoption of the constitution, in effect, evidences a contractual under

taking which to some extent defines the legal relationship between the

exchange and the participants and among the participants, including members, associate brokers and subscribers. Significantly, however, the

provisions regulating the qualifications and admission in both New York and Illinois indicate that the prime responsibility for regulation of this aspect of exchange activities is conferred on the exchanges and

98. Id. at art. VII, ? 3. 99. Id. at art. VII, ?? 4, 5. See also N.Y. Operating Rules 4.00, 6.00. It is also clear

that broker members and associate brokers are subject to regulation under the New York insurance laws. See N.Y. Regs. ? 18-1.4(e).

100. N.Y. Ins. Law art. VII, ? 6. See also N.Y. Operating Rule 3.00, N.Y. Regs. ? 18-1.2(h) (4). New York also specifies the types of investments which may be accumu lated to reach the required minimum capitalization. Such permissible investments in clude cash, securities as described by ? 79(a)-(c) of the New York Insurance Laws, and surety bonds. See N.Y. Regs ? 18-1.3(c).

101. N.Y. Ins. Law art. VII, ? 9.



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not on the respective departments of insurance. Other provisions in the New York and Illinois codes amplify this regulatory philosophy and in dicate that, although the departments of insurance retain supervisory control over exchange operations in certain areas, the exchanges none

theless are empowered to self-regulate many of their own activities.

Florida, however, does not appear to follow the same philosophy. Florida. In contrast to Illinois and New York, Florida requires an

"underwriting member" desiring admission to a Florida exchange to ob tain the approval of the Florida Department of Insurance before com

mencing business.102 Florida defines "underwriting member" to mean

"underwriting syndicate,"103 which appears analogous to the meaning of "underwriting member" in New York and "syndicate" in Illinois.

However, it is not clear whether Florida, like New York, would prohibit a domestic, foreign, or alien insurer from becoming an underwriting member of an exchange or whether syndicates may consist of individuals, corporations, or partnerships.

An underwriting member desiring to commence business on a Florida

exchange must submit application to the department of insurance, in

cluding: (1) the name, type and purpose of the underwriting member, (2) the name, residence address, business background, and qualifica tions of each person involved in the formation or financing of the un

derwriting member; (3) disclosure of the terms of all existing and

proposed understandings or agreements among persons associated with the underwriting member, together with a copy of those agreements or

understandings; and (4) disclosure of the terms of all existing and

proposed understandings and agreements for management or exclusive

agency contracts.104

An underwriting member on a Florida exchange must provide an initial paid-in capital and surplus of $1.5 million and thereafter main tain a minimum policyholder surplus of $1 million in order to be author ized to write all kinds of insurance, other than life and annuities or life and accident and health. To write all kinds of insurance, underwrit

ing members must provide an initial paid-in capital and surplus of $3 million and must thereafter maintain a minimum policyholder sur

plus of $2 million.105 Florida also contemplates that "broker members" and "associate

brokers" will participate on the exchange. Agents who are also broker members or associate brokers on an exchange may only place on the

exchange those kinds of insurance for which the agents are licensed in Florida and must comply with other Florida laws.106 Further, "Direct

102. See Fla. Stat. ? 629.401 (6) (b)2. 103. Id. at ? 629.401 (6)(b)52. 104. Id. at ? 629.401(6)(b)2. 105. Id. at 629.401 (6)(b)23. The application and capitalization requirements for syn

dicates or underwriting members in Illinois, New York and Florida are analogous to requirements applicable to any insurer seeking admission as an authorized insurer. As indicated, however, only Florida requires the departmental review and approval of ap plicants.

106. Fla. Stat. ? 629.401(6)(b)41.




Florida business"107 must be written through a broker member who is also a licensed surplus lines agent.108

6. Management

Another important question under the insurance exchange statutes is whether they provide a mechanism for the management of exchange business. All three statutes recognize the importance of establishing a

body of rules which, subsequent to the formation of the exchanges, pro vide for the government of exchange matters and, in varying degrees, allow the exchanges and their participants to self-regulate their activities.

Illinois. Within nine months after the Illinois exchange has received its certificate of authority, the interim board of directors must call for the election of a board of trustees.109 The bylaws of the exchange must

specify the term of the members of the board, which may not exceed three years.110 The board may also adopt bylaws providing for the in demnification of trustees and employees.111

The powers of the board of trustees to manage the operations of the

exchange include, but are not limited to: (1) establishing qualifications, requirements, hmitations and obligations for syndicates, limited syndi cates, subscribers and exchange brokers; (2) denying admission to the

exchange to unqualified applicants; (3) imposing penalties for violations of the regulations or orders of the board; (4) assessing annual fees on

syndicates, limited syndicates, subscribers and exchange brokers and

making assessments on syndicates, limited syndicates and subscribers for the expenses of the exchange; (5) suspending or expelling syndi cates, limited syndicates, subscribers or exchange brokers from the

exchange under specified circumstances; and (6) obtaining immediate access for the benefit of the Illinois Insurance Exchange Immediate Access Security Association to specified assets of impaired or insolvent

syndicates.112 The thirteen member board of trustees consists of three classes of

trustees: at least six underwriter-subscribers, at least one but not more than three broker-subscribers and four public trustees.113 In electing the board, each class of trustee is elected by the class and all members elect the public trustees.

The division of the board among underwriter-subscribers, broker subscribers and public trustees evidences at least two valid concerns. One concern is that the underwriting-subscribers and broker-subscribers

107. Id. at ?? 626.916, 917. 108. Id. at ? 629.401 (6) (b)41. 109. III. Stat. ? 719.23. 110. Id. 111. Id. at ? 719.24. 112. Id. at ? 719.16a. 113. Id. at ? 719.17. Section 719.15 of the Code defines "underwriter subscriber" as

"all subscribers who are not broker-subscribers." "Broker subscriber" means "an Ex change broker who has made a subscription." Although "public trustee" is not expressly defined, it appears from context that public trustees are ". . . individual persons who are not insurers, subscribers, exchange brokers or employees of insurers, subscribers or ex change brokers."



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transacting business on the exchange have a weighted control and

participation in the management of the affairs of the exchange. A second concern, however, is to protect the interests of the public through repre sentatives from outside the industry. These concerns have also been

recognized by New York and Florida.114 Hence, in all three states, the

governing board consists of three classes of trustees, one of which repre sents the public interest.

Other than specific matters such as the indemnification of trustees and employees of the exchange or the term of the members of the board of trustees, Illinois does not extensively specify the form and content of the bylaws of the exchange. New York and, to a lesser ex

tent, Florida follow a different approach. New York. New York has enacted the constitution and bylaws that

will govern the Exchange.115 The government and management of the

Exchange is vested in the board of governors which consists of three classes of members, none of which hold a majority of seats and one of which is unafhliated with the exchange and represents the public.116

New York sets forth with particularity the powers of the board.117 Some of these general and specific powers are the power to: borrow

money, levy and collect dues and fees, and collect taxes; make assess ments and surcharges; supervise all persons and entities transacting business on the exchange; interpret the constitution and any rules

adopted pursuant thereto; sell, mortgage or lease the real property of the exchange when authorized by the vote of a majority of the gover nors; authorize any officer, on behalf of the exchange, to enter into

employment contracts; annually appropriate amounts to be expended in the administration of the exchange in the ensuing year, and to delegate its powers to officers, employees, and committees. New York also pro vides for the indemnification of governors, officers and employees of the exchange.118

The New York exchange constitution controls various matters re

garding the operation of the board of governors, including the term of office of governors, meetings, quorum, unanimous action by consent, resignation, removal and disclosure of interest in certain transactions.119 The rules regulating the board of governors, chairman of the board, and officers of the exchange appear to be comparable to provisions con tained in many corporate bylaws and are intended to generally de scribe the duties and authority of the persons responsible for manage

ment of the Exchange. New York contemplates an annual meeting of members of the

114. See N.Y. Ins. Law art. Ill, ? 1; Fla. Stat. ? 629.401(3)(a). 115. N.Y. Ins. Laws ? 425-a.2. 116. Id. at art. Ill, ? 1. 117. Id. at art. II, ?? 1-15. 118. Id. at art. II, ? 8. The exchange is exempted from the requirement of the insur

ance law that notice of indemnification be given the Superintendent of Insurance. See N.Y. Regs. ? 18.13(a)(6).

119. N.Y. Ins. Law art. Ill, ? 2-14. Section 11 of Article III of the Constitution pro vides that any governor may be removed, with or without cause, by two-third's vote of all members of the exchange who are entitled to vote for the election of governors.




exchange which, in substance, is analogous to a shareholders meeting. Provisions in the constitution call for an annual meeting of members and specify rules governing the election of the twelve governors and

nominating committees and for the transaction of any other business. The constitution provides for two nominating committees: one to nominate the six underwriting governors, one to nominate the two broker governors and both nominate the four public governors. Mem bers may also propose nominees by petition, provided that a sufficient

percentage of exchange members endorse the proposed nominee.120 Florida. Unlike New York, Florida has not enacted a detailed con

stitution to govern a Florida exchange. Florida outlines several sub stantive provisions that are required to be included in the constitution and bylaws of an exchange without specifying the exact content of these

provisions.121 Some of the mandatory provisions are: a board of gov ernors consisting of at least six but not more than thirteen gover nors, at least one-third of whom shall not be members of the exchange and shall be public representatives; the location of the principal offices of the exchange and the principal offices of its members within the state; the submission by members and all applicants for membership on the exchange of such financial information that the commissioner

may require; the establishment of a security fund as approved by the

commissioner; the voting powers; and the rights and duties of ex

change members, which may include the manner and form of conduct

ing business, financial stability, dues, membership fees and arbitration. In addition, any amendments to the constitution and bylaws must be

approved by the commissioner of insurance. The provisions required generally by Florida to be a part of the

constitution and bylaws of the exchange are thus similar to the parallel provisions specified by New York and Illinois in that the states recog nize the importance of ensuring public representation on the governing board, of regulating the management of the affairs of the exchange, of

providing a voting mechanism, and of denning the rights and duties of exchange members.

B. Operation of Exchanges 1. Applicability of Insurance Laws

One question raised by the extensive regulation of insurance exchanges is whether and to what extent the exchanges are subject to regulation under all of the provisions of the insurance laws. Illinois provides that no provision of the Illinois Insurance Code is applicable to the regulation of the exchange unless that provision is expressly made applicable to the exchange.122 In addition to the restraints imposed by the enabling statute, underwriting members on a Florida exchange are apparently bound only by specified provisions of the code which define assets and

120. Id., generally, at art. VI. 121. Fla. Stat. ? 629.401(3). 122. III. Stat. ? 719.11.



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nonallowable assets and which regulate the investment of domestic in surers.123

In New York, the insurance laws and regulations apply to the ex

change except as may be exempted by the superintendent by regulation.124 Pursuant to this authority, the superintendent has exempted the exchange from various provisions of the insurance laws.125 However, the exchange remains subject to many of the insurance laws, the most significant of which are discussed below.

2. Regulation of Exchange Operations Florida and New York, and to a lesser extent, Illinois, confer significant authority on the department of insurance to regulate exchange activity. Illinois authorizes but does not require the Director of Insurance to examine the financial records of the exchange, syndicates, limited syn dicates, subscribers and exchange brokers.126 However, every syndicate doing business on the Illinois exchange must file with the board of trustees an annual financial statement and is also subject to examination by the director.127 Illinois imposes on the exchange an examination fee of the lesser of $5 million or .05 percent of the net premium written by the ex

change each year to be paid to the department.128 Additionally, the records of the exchange, syndicates, exchange brokers and limited syndicates

must be maintained in Illinois and be available for examination by the

department. The exchange is empowered to audit those records at any time.129

Except for the power of the Illinois Department of Insurance to authorize the commencement of exchange business, to examine records, and to liquidate insolvent syndicates, however, the Illinois statute and

exchange regulations confer almost exclusive regulatory responsibility on the board of trustees with respect to the transaction of exchange business.

In contrast to the powers conferred on the governing board in Illinois, however, Florida authorizes the department of insurance to

regulate an exchange pursuant to specified powers, rights and duties.130

123. Fla. Stat. ? 629.401 (6) (a) 1,2. Sections 625.012 and 625.031 of the Florida Code define "assets" and "non allow able assets." Sections 625.302 through 625.339 regulate investments. See also ? 629.401 (6) (b)41.

124. N.Y. Ins. Law art. XVII, ?5-6. 125. See N.Y. Regs., supra at note 18. Some significant areas of the insurance laws

which are exempted in whole or in part include licensing requirements applicable to domestic, foreign or alien insurers; capital and surplus requirements; assessments by the department; holding company regulations provided that the exchange adopt com parable reporting rules; rules governing the insurance contract (excepting ? 168-d re lating to the free trade zone); rate regulation and promotion of competition (provided that the exchange enacts similar rules); laws regulating reciprocal insurers and Lloyd's Underwriters; and rules pertaining to the merger, consolidation, acquisition of assets, conversion and acquisition of certain shares of insurers (subject to promulgation of adequate rule by the exchange). See generally N.Y. Regs. ?? 18-1.3, 1.4 and the provi sions listed therein.

126. III. Stat. ? 719.12. 127. Id. at ? 107.13a. See also 111. Regs. ?? 22, 29. 128. III. Stat. ? 719.14. 129. Id. at ? 719.20. See also 111. Regs. ? 30. 130. Fla. Stat. ? 629.401(6)(b).




The department may examine the affairs, transactions, accounts, records and assets of any security fund, exchange, member, or associate broker, as well as prospective members or associate brokers applying for membership on an exchange.131 An underwriting member is ob

ligated to notify the department of any change among the directors or

principal officers.132 The department is permitted to correct and re construct inadequate accounts or records and to impose a criminal

penalty on any person which willfully obstructs an examination by the

department.133 Florida also requires each underwriting member to file an annual statement with the department, to maintain its principal place of business in Florida and to maintain records.134 Florida regulates the compilation and use of reports prepared by the department pursuant to its examinations,135 and requires each person or entity examined by the department to pay the costs of examination.136 However, a Florida

exchange is required to reimburse the department for any expenses incurred relating to the regulation of the exchange and its members, other that the costs of examination.137

New York also extensively regulates examinations, records and an nual statements. As in Illinois, the board of governors, as well as the

department of insurance is given some regulatory responsibility.138 Each member and associate broker is required by the board to main tain its principal office records and accounts in New York and to file annual financial statements with the exchange.139

As in Florida, the New York superintendent of insurance is author ized to promulgate regulations in connection with the operation of the

exchange140 and, in addition, must approve amendments of the con stitution which have been adopted by the members in accordance with the terms of the constitution. Because no exemption has been given by regulation, underwriting members are obligated to submit annual finan cial statements to the exchange and the exchange is to submit to the

department a statement showing combined underwriting results and financial condition of underwriting members. In addition, they are sub

ject to departmental examination.141 The exchange is also obligated to reimburse the superintendent for any costs incurred by the department in regulating the exchange.142

131. Id. at ? 629.401(6)(b)l. 132. Id. at ? 629.401 (6)(b)4. 133. Id. at ? 629.401 (6) (b)6. 134. Id. at ? 629.401 (6) (b)8,9. 135. Id. at ? 629.401(6)(b)ll-15. 136. Id. at ? 629.401(6)(b)16. 137. Id. at ? 629.401(6)(b)17. 138. N.Y. Ins. Law art. II, ? 7; see also N.Y. Operating Rule 24.00 which sets forth

procedures for the examination of members and associate brokers by the exchange. 139. Id. at art. II, ?? 10, 11; see also N.Y. Operating Rules 22.30, 23.00. 140. N.Y. Ins. Law ? 425-a.l. 141. N.Y. Regs. ? 18-1.2(i), (j); N.Y. Operating Rules 22.10, 22.20. 142. N.Y. Ins. Law art. XVII, ? 5-5.



912 THE FORUM

3. Transaction of Exchange Business

All three states regulate the business operations of the exchanges, including important limitations as to the type and amount of business that can be written.

Illinois. The Illinois statute and regulations adopted by the exchange regulate the transaction of business on the Illinois exchange.143

Only exchange brokers may present applications for insurance to a

syndicate.144 Regulations provide for the payment of premiums (net of

exchange broker commissions), reporting and settlement of claims, and maintenance of appropriate reserves.145 As in New York, each syndi cate must designate an underwriting agent who has binding authority with respect to the underwriting of insurance and reinsurance of risks.146

The Illinois statute and exchange regulations also impose significant limitations on the risks which may be submitted to the exchange. In addition to the fact that the exchange is not authorized to transact life

insurance, the minimum required premium for direct insurance is

$50,000 unless an exchange broker is unable after diligent effort to

procure coverage from the authorized Illinois market.147 Hence, al

though the business transacted on the Illinois exchange is not subject to the same restrictions on situs of risk as are imposed in New York and

Florida, the requirement of high minimum premium shows that the

exchange is intended to serve the large commercial insurance buyer and in effect protects the domestic insurers from competition with the

exchange for personal lines and smaller insurance risks. As is the case with domestic insurance companies, Illinois imposes

limitations with respect to the size of risk that can be assumed in re lation to its capital. Accordingly, the net maximum amount of insurance assumed by a syndicate on any single risk may not exceed 10 percent of the capitalization of a syndicate.148 Similarly, the net maximum amount of insurance assumed by a subscriber on any single risk may not exceed 10 percent of the capitalization of a subscriber.149 The board of trustees may establish additional rules that govern the maximum amount of insurance assumed by a syndicate, subscriber or limited

syndicate or that limit broker-subscriber participation in a syndicate.150 Other regulations impose on syndicates rules regarding the permissible valuation of obligations having a fixed term and rate, common, pre ferred and guaranteed stocks, and other property151 and which restrict a syndicate's ability to distribute capital or earnings to a subscriber.152 If any one distribution of capital or earnings exceeds $10,000 or which,

when added to other distributions made in the same calendar year, ex 143. III. Stat. ? 719.05; 111. Regs. ? 11-24. 144. III. Stat. ? 719.05(b); 111. Regs. ? 17. 145. 111. Regs. ?? 14, 19-20. 146. Id. at ? 13. See N.Y. Ins. Law art. IX, ? 3; N.Y. Operating Rules 5.00, 7.00. 147. III. Stat. ? 719.05(d). 148. Id. at ? 719.10(a). 149. Id. at ? 719.10(b). 150. Id. at ? 719.10(c). 151. 111. Regs. ? 23.1. 152. Id. at ? 24.




ceeds $10,000, the syndicate must notify the board in writing at least

forty-five days before the intended distribution.

Further, changes in more than 5 percent in the ownership or control of a syndicate involving a person or entity which was not previously a subscriber to the syndicate may not become effective unless the board fails to disapprove of the change within thirty days after it receives written notice of the proposed change.153

Illinois also closely regulates outgoing reinsurance. Syndicates may reinsure with (i) other syndicates and (ii) reinsurers authorized to do business in Illinois which have a surplus of at least $5 million or which have been approved by the board.154 However, the exchange regulations further restrict reinsurance by requiring that a syndicate retain a mini

mum of 10 percent of its liability per risk and at least 25 percent of its

gross net annual written premium.155 Illinois also requires that all written policy applications and written

policies used by the exchange prominently state that the policy is being submitted or issued through the exchange.156 However, the exchange is not intended to have any liability with respect to policies issued through the exchange.157

The exchange also imposes rules with respect to the types of in vestments which may be maintained in a syndicate's trust account. Since an amount equivalent to at least 50 percent of a syndicate's capitalization must be kept in the trust account, syndicates are signifi cantly restricted in investing their assets.158

New York. New York extensively regulates the placement of business on the exchange. All placement of business on the Exchange must be made through broker members or an associate broker, except trans actions between underwriting members and retrocessions off the ex

change by underwriting members.159

Exchange contracts are regulated and shall: (1) provide only for the kinds of direct insurance and reinsurance permitted; (2) be issued in the name and for the account of those underwriting members which have subscribed to the risk being insured or reinsured; and (3) be sub

ject to the constitution and rules promulgated by the board of gover nors.160 However, underwriting members who are subscribing to in sure or reinsure the risk may determine the terms and conditions of the

exchange contract on a form which shall be established by the board. However, the exchange is not a party to contracts issued by it and is not intended to have any liability under those contracts.161

153. Id. at ? 26. 154. III. Stat. ? 719.05(c); 111. Regs. ? 21. 155. 111. Regs. ? 21. 156. III. Stat. ? 719.09. 157. 111. Regs. ? 18. 158. See 111. Regs. ? 8.A. 159. N.Y. Ins. Law art. IX, ? 4. See also, generally, N.Y. Operating Rules 9.00-20.00.

These rules extensively regulate various aspects of exchange business including, for example, the mechanics of presenting business to the exchange and required accounting procedures.

160. Id. at art. IX ? 1(a). 161. Id. at art. IX ?? 1(b), (c), (d).



914 THE FORUM

As a further limitation, no member on the New York Insurance Ex

change may place or insure any risk exempted from filing and rating requirements under the free trade zone provisions relating to special risks requiring at least $100,000 in annualized premium or which are of an unusual nature, a high loss hazard, or difficult to place until the risk has been certified as rejected business by the committee of licensed free trade zone insurers.162 The New York Department of Insurance has

promulgated a regulation which deals with the interfacing of special risk-free trade zone insurers with the New York Insurance Exchange.163 The regulation provides for the creation and composition of a represen tative committee of special risk insurers whose function is, in part, to aid insurance brokers in placing business of an unusual nature with a special risk insurer eligible to write the desired class of business and to certify appropriate risks as being submitted to and rejected by a re

quisite number of special risk insurers. New York also regulates the election of committee members and sets forth the procedures whereby risks are submitted to the committee and, where applicable, certified as

being rejected. Once rejected, the certified risk may be insured through the exchange pursuant to the constitution.

New York prohibits certain conduct in connection with the trans action of exchange business.164 Like Illinois, New York imposes limita tions on the amount of insurance that can be assumed by underwriting

members. No insurer doing business in New York may expose itself to loss on any one risk in an amount exceeding 10 percent of its policy holder surplus.165 In determining the limitation of risk, however, the amount of insurance "assumed" on any risk is deemed to be net of any reinsurance ceded. By statute, these restrictions do not apply to marine insurance, marine protection and indemnity insurance, worker's com

pensation or employers liability insurance, title insurance, or risks in sured for any dollar level of first-party benefits provided under New York's Comprehensive Automobile Insurance Reparations Act. Ad

ditionally, syndicates are required by rule to retain at least 50 percent of their annual statutorily reported gross written premiums and are pro hibited from ceding during a 12 month period more than 50% of un earned premiums on the net amount of insurance in force without ex

change approval.166 New York also limits investments and provides that, except for the

portion of paid-in capital and surplus which the underwriting member must maintain in the security fund of the exchange, the paid-in capital and surplus reflected on the underwriting member's accounts must be

162. Id. at art. IX, ? 2. 163. See Insurance Department Regulation 86-A (11 NYCRR). 164. N.Y. Ins. Law art. XI. 165. Id. at art. XI, ? 7. 166. See N.Y. Operating Rules 12-30, 12.50. Section 77 of the New York code regulates

reinsurance and is applicable, in part, to the Exchange. Although underwriting members are bound by provisions in ? 77 regulating the auditing and accounting treatment of ceded reinsurance, subdivisions 4.-6. of ? 77, which substantively limit a domestic insurer's ability to cede reinsurance, are exempted. However, such exemption is contingent on the adoption of comparable rules by the exchange. See N.Y. Regs. ? 18-1.4(d).




invested in a manner consistent with the New York insurance laws.167 Article V of the New York Insurance Laws which regulates assets, in vestments and deposits of authorized insurers is applicable in large part to the exchange.168 In addition to rules limiting permissible investments of assets and establishing valuation procedures, other provisions of Article V require the maintenance of loss reserves, valuation reserves, and un earned premium reserves.169 Other articles of the New York insurance laws pertaining to the regulation of life and accident and health compa nies, casualty insurers and surety companies, stock and mutual fire and marine insurance companies are applicable to some extent to the ex

change.170 Additionally, the availability of exemption from other pro visions in the insurance laws which restrict the granting of dividends are premised on the adoption of similar restrictions by the exchange.171

Notwithstanding that the superintendent of insurance is authorized to impose further and additional limitations on investments in mem bers of the exchange, the investment in any underwriting member by brokers, agents and intermediaries transacting business on the exchange, and the investment in any broker, agent or intermediary by any under

writing member is in each case limited in the aggregate to less than 20

percent (or any lesser amounts determined by the superintendent) of the total investment in such underwriting member broker, agent or in

termediary.172 The New York Superintendent of Insurance has pro mulgated a regulation which further defines the 20 percent investment limitation rule.173 In addition, N.Y. Operating Rule 8.00 requires mem bers and associate brokers to notify the exchange of changes in interest which result in a 5% or more change in control where such control is concentrated in any one person, persons, or affiliated companies.

Florida. Florida extensively restricts and regulates the day to day op erations of the exchanges. Except for the portion of paid-in capital and

surplus which is maintained in a security fund of an exchange, the

capital and surplus of an underwriting member must be invested as

required by the Florida statute for investments of all insurers.174 The

portion of capital and surplus in the security fund must be in permis sible investments of life insurance companies.175

No underwriting member in a Florida exchange may provide cover

age on any one risk in an amount exceeding 10 percent of its surplus to policyholders.176 In addition, an underwriting member may not write additional risks if either: (1) its ratio of net premiums written to sur

plus as to policyholders exceeds 8.5 to 1, or (2) the writing of such risks would produce a ratio of net premiums written to surplus as to policy

167. N.Y. Ins. Law art. VII, ? 6. 168. N.Y. Regs. ? 18-1.4(d). 169. Id. 170. Id. at ? 18-1.4(i), (1), (m). 171. Id. at ? 18-1.4(1); See N.Y. Ins. Law ? 313. 172. N.Y. Ins. Law art. XVII, ? 5-6. 173. See Insurance Department Regulation 89-a (11 NYCRR Subpart 19-1). 174. Fla. Stat. ? 629.401(6)(b)23. See also Fla. Stat. ?? 625.301-340. 175. Fla. Stat. ? 629.401(6)(b)23. 176. Id. at ? 629.401 (6)(b)24.



916 THE FORUM

holders of more than 8.5 to l.177 Like New York, Florida also specifies the procedure for determining the limitation of risk, including the es tablishment of policyholders surplus, as well as specifying the kinds of insurance that are exempted from such limitations.178

Like New York, Florida restricts investment in any underwriting member by exchange brokers, agents and intermediaries and the in vestment in any such broker, agent or intermediary by any underwriting members in each case to, in the aggregate, 20 percent of the total in vestment in the member, broker, agent or intermediary.179

Florida requires the calculation of unearned premium reserves for business written on the exchange on a monthly or more frequent basis.180 Like syndicates and underwriting members in the Illinois and New York

exchanges, underwriting members of a Florida exchange are required to maintain loss reserves.181 The Florida Department of Insurance may review these reserves and, if loss experience shows that the reserves are inadequate, it may require the underwriting member to increase the reserves.

Florida also regulates dividends and distribution of profits. An un

derwriting member may not distribute any profits in the form of cash to owners of the underwriting member except out of that part of its sur

plus funds which are derived from realized net operating profits on its business and realized capital gains.182 These payments may not exceed 30 percent of surplus in any one year unless approved by the depart ment. However, there is no restriction on the underwriting member's

ability to make payments out of profits and gains derived during the immediate preceding calendar year. Florida also provides for the pay

ment of stock and cash dividends from earned surplus and for borrow

ing money to defray expenses and to provide it with surplus funds.183 Florida extensively regulates the circumstances under which insur

ance coverages are eligible for export under the exchange's authority to write surplus line business.184 Among the conditions that must be met before export is permitted are: (1) that the full amount of insurance

required must not be procurable from the market of authorized domestic insurers and that the amount of insurance exported is limited to the excess over the amount that is procurable from authorized insurers; (2) the premium rate for the exported coverage is not lower than the rate

applicable, if any, used by a majority of the authorized insurers for the same coverage on a similar risk; (3) that the policy form under which the insurance is exported may not be more favorable to the insured as to coverage and rate than under similar contracts used by the majority

177. Id. 178. Id. 179. Id. at ? 629.401(6)(b)54. 180. Id. at ? 629.401 (6)(b)25. 181. Id. at ? 629.401(6)(b)26. 182. Id. at ? 629.401 (6)(b)27, 28. 183. Fla. Stat. ? 629.401 (6) (b)28, 29, 30. 184. Fla. Stat. ? 629.401(6) (b)42.




of authorized insurers actually writing similar coverages on similar risks, provided that coverage may be exported on a unique form of policy on a particular subject if the form is filed with the department of insurance and not disapproved within ten days of the filing date; and (4) with the

exception of windstorm insurance and extended coverage under fire in

surance, the policy may not provide for deductible amounts other than those available under similar policies in actual and current use by one or more authorized insurers.

The Florida Department of Insurance is empowered to declare eligible for export generally any class of insurance coverage for which it finds, after notice and hearing, that there is no reasonable or adequate market

among authorized insurers.185 Although wet marine and transportation or aviation risks are exempted from the export provision,186 the con ditions under which those exempted types of risks may be exported are:

(1) the insurance must be placed only by or through licensed Florida

surplus lines agents; (2) the underwriting member desiring to issue those coverages is "made eligible" by the department specifically for those coverages; and (3) the surplus lines agent files a copy of the policy

with the Department within sixty days after procurement of the policy.187 Generally, improperly issued contracts, riders and endorsements will

be deemed to have been issued in full compliance with the Florida code, except that an underwriting member will be liable to the insured for the full amount of coverage stated in the policy notwithstanding that the amount may exceed the limitations imposed by the code.188

4. Central Processing Facility Illinois and New York have provided for the establishment of a central

processing facility for purposes of centralized record keeping, data col

lection, and statistical compilation for insurance and reinsurance trans actions on the exchange.189 All monies due on contracts of insurance and reinsurance issued by syndicates or underwriting members are pay able to the particular exchange and disbursed directly to its facility for

recording and distribution. The management of the facility is vested with the board of trustees or board of governors, as the case may be. All other transactions of business on the exchange are to be reported concurrently to the facility. As in Illinois, premium remitted to the New York facility by member brokers and associate brokers is net of com missions. All monies received by the New York facility are segregated in a premium trust account for the benefit of the underwriting members and thereafter distributed in accordance with the terms of the constitu tion.190 The treasurer of the New York exchange is obligated to deduct

185. Id. at ? 629.401(6) tt>)43. 186. Id. at ? 629.401(6) (b)44. 187. Id. at ? 629.401(6)(b)45. 188. Id. at ? 629.401(6) (b)47. 189. III. Stat. ? 719.21, 111. Regs. ? 15; N.Y. Ins. Law art. X. 190. N.Y. Ins. Law art. X, ? 3.



918 THE FORUM

from such distributions the amounts owing the exchange from an under

writing member for security fund surcharges and any premium taxes due.19*

Florida also apparently contemplates the establishment of some type of central processing facility. One purpose of the exchange is "to man

age the facility authorized by this section, in accordance with rules pro mulgated by the commissioner.,'192 However, no other provision in the code regulates the establishment or operation of this facility.

5. Insolvency One objective of the regulation of insurance companies is to protect investors, creditors and policyholders of a company against the con

sequences of impairment of capital or insolvency. Hence, in addition to laws regulating the rehabilitation and liquidation of impaired insurers, the vast majority of states have established security or guaranty funds

which are intended to soften the impact of insolvency. These same ob

jectives are evidenced by the insurance exchange legislation. Illinois has adopted several measures which are intended to guarantee

the liabilities of syndicates transacting business on the exchange but unlike other guaranty mechanisms, under the Illinois plan syndicates guarantee only their respective liabilities and do not guarantee the lia bilities of other syndicates.193 In addition to the power of the board to take measures to remedy a syndicate's impairment of capitalization, Illinois also requires syndicates, as a condition of admission, to establish and maintain a trust account for the protection of policyholders and claimants.194 The total value of the assets maintained in the trust ac count must at all times equal not less than 50 percent of the syndicate's capitalization as set forth in its most recent financial statement195 which in no event may be less than $1 million.196

At least 50 percent of the value of the assets required to be maintained in the trust account must consist of cash or marketable securities as defined by regulations.197 Generally speaking, "marketable securities" are denned as the type and amounts of authorized investments in the Illinois Insurance Code,198 but securities of insurance companies or in surance sales, brokerage or management companies or of corporations

191. Id. at art. X, ? 4. 192. Fla. Stat. ? 629.401(l)(b). 193. 111. Regs. ? 7.D. 194. III. Stat. ? 719.27(a); 111. Regs. ? 8.A.(1). 195. 111. Regs. ? 8.A.(1). 196. Id. 197. Id. 198. Id. at ? 8.A.(3). With respect to the investments regulated by Article VIII of the

Insurance Code, see Illinois Code ? 125.1a ("obligations of agencies and instrumentali ties of the United States"); ? 125.3a ("obligations of a state"); ? 125.4a ("obligations of a political subdivision of a state"); ? 125.5b ("revenue obligations of state or municipal public utilities"); ? 125.6a ("other revenue obligations"); ? 125.7a ("railroad obligations"); ? 125.8a ("public utility obligations"); ? 125.11a ("preferred or guaranteed stock"); ? 125.12a ("common stocks"); and investments authorized under ? 125.9a ("other cor porate obligations").




controlling or controlled by the syndicate do not qualify.199 The balance of the amounts deposited in the trust account may consist of amounts drawable under qualified letters of credit or under qualified surety bonds as defined by regulation.200 If the nonrenewal of or failure to replace a letter of credit results in an inadequate amount in the trust account, the

exchange is required to draw on the letter of credit and hold the pro ceeds in the trust account.201

Other regulations provide for the establishment of the trust account and the selection of a custodian for that account;202 regulate the powers of the board of trustees to correct deficiencies in the required amount of

aggregate assets held in trust accounts maintained by syndicates;203 set forth a syndicate's rights in respect of assets held in the trust account;204 and provide for the release and return of trust account deposits to syndi cates under specified circumstances 205 In addition, upon the entry of an order of liquidation against the syndicate, Illinois requires that all amounts held in the trust account be immediately transferred to the Illinois Insurance Exchange Immediate Access Security Association.206

The board of trustees is authorized to determine limitations on the amount of business written by a syndicate in relation to its capital and

surplus. A syndicate may proportionately increase its ratio of net pre mium to capitalization pursuant to rules adopted by the board by pro viding security in the form of certificates of guaranty and filing them with the Illinois Insurance Exchange Immediate Access Security As sociation 207 The certificates must be issued in an amount equal to the

capitalization of the syndicate and must be executed by one or more subscribers to the syndicate.208 If a syndicate does not file certificates of

guaranty, its leverage is limited to one-half the ratio of net premiums to capitalization as established by the board.209 Hence, the certificates

are an additional guaranty for the obligations of the syndicate. The

guaranty of each subscriber "shall be joint to the extent of the amount

guaranteed in the Certificate of Guaranty filed by such subscriber."210 Subscribers must demonstrate to the board's satisfaction that they

possess adequate financial means to pay the amounts guaranteed in the certificates 211 Where an individual subscriber cannot demonstrate ade

quate financial means, the board may require other subscribers of that

syndicate to eliminate any deficiency or require the syndicate to limit its

199. Id. at ? 8.A.(3)(i), (ii), (iii). 200. Id. at ? 8A(1); See also ? 8.A(4) (qualified surety bond denned). 201. Id. at ? 8.A(2). 202. Id. at ? 8.A(5)(a), (b). 203. Id. at ? 8.A(6). 204. Id. at ? 8.A(7). 205. Id. at ? 8.A(8). 206. III. Stat. ? 719.27(a). 207. Id. at ? 719.27(b); 111. Regs. ? 8.B. 208. 111. Regs. ? 8.B(1). 209. Id. at ? 8.B(3). 210. Id. at ? 8.B(1). 211. Id. at ? 8.B(2).



920 THE FORUM

"leverage on capitalization" as provided by regulations.212 Subject to

limits, syndicates may include certificates of guaranty secured by quali fied letters of credit or by surety bonds.213 As with the amounts held in a trust account, amounts payable under the certificates of guaranty must be paid by subscribers to the Illinois Insurance Exchange Immediate Access Security Association after entry of an order of liquidation.

The Illinois exchange has authority to regulate the voluntary and in

voluntary dissolution of syndicates.214 If either the board or director of insurance determines by audit or examination that a syndicate has be come insolvent, the board shall order the syndicate to cease and desist from assuming insurance or reinsurance obligations on the Exchange.215 Either the board or director of insurance may petition the Illinois court for an order of liquidation. Upon entry of the order of liquidation, the director of insurance must conduct the liquidation of the syndicate in ac cordance with the Illinois liquidation statute 216

Some of the specific grounds for ordering a syndicate to cease doing business through the exchange, or alternatively, for ordering the in

voluntary dissolution of the syndicate are: insolvency, impairment of

capital, refusal to submit records and accounts to inspection or exam ination of the exchange, neglect or refusal to observe rules or orders of the exchange, or determination that the syndicate is in such con dition that its further transaction of business would be hazardous to

policyholders, creditors, or the public.217 The responsibility of supervising the rehabilitation or liquidation of

an underwriting member on a Florida exchange is given the Department of Insurance. The department may restrict sales by type of risk, policy limits, premium levels or policy provisions; increase surplus or capital requirements of underwriting members; issue cease and desist orders; suspend or restrict a member's or associate broker's right to transact business; place an underwriting member under conservatorship or re

habilitation, or seek an order of liquidation whenever it is shown that a member or associate broker of the exchange: (1) is impaired or in

solvent; (2) has by contract of reinsurance or otherwise transferred

substantially its entire property or business, or entered into any trans action the effect of which is to merge substantially its property into the property of any other person or entity, without first obtaining the

approval of the commissioner; (3) is found after an examination to be in such position that its further transaction or business will be hazardous to its policyholders, creditors, or the public; (4) has become the subject of any procedure for liquidation or bankruptcy, or (5) has failed to

qualify or maintain its qualification as a member of an exchange.218 212. Id. 213. Id. at ? 8.B(4). 214. 111. Regs. ? 25. 215. Id. 216. III. Stat. ? 719.08; see III. Ins. Stat. art. XIII. 217. 111. Regs. ? 25. 218. Fla. Stat. ? 629.401 (6)(b)31.




In New York a member of the exchange is permitted to petition the board of governors for a voluntary withdrawal.219 As in Illinois, the

petition must include a plan which provides for the assumption or satisfaction of claims and outstanding obligations incurred as a member of the exchange.220 Additionally, upon petition by any member or on its

petition, the board may order the involuntary withdrawal or rehabilita tion of any member on such terms and conditions as the board shall

specify upon a showing of any of seveial conditions.221 Five of the grounds for involuntary withdrawal or rehabilitation are

the same as those specified by Florida. Other grounds specified are the member's refusal to submit its books, papers, accounts or affairs to the reasonable inspection of the board; failure or refusal to comply with certain orders issued by the board; wilful violation of the law of New York or the constitution and rules of the exchange; an officer or princi pal's refusal to be examined under oath concerning his affairs.

New York also specifies the rights of a member upon its voluntary or

involuntary withdrawal from the exchange and the power of the board to investigate the accounts and operations of any member in the pro cess of voluntary or involuntary withdrawal or rehabilitation. Signifi cantly, the board may petition the superintendent of insurance to liqui date a member in accordance with applicable New York law 222 The

liquidator is to dispose of all of the assets of the member in accordance with the constitution before certifying the appropriate claims for pay ment by the exchange's security fund. In the event of the liquidation of

any broker member, underwriting member or the exchange itself, the

superintendent acts as liquidator under applicable provisions of the New York Insurance Law.223

The board of governors, on the basis of audit or examination, is ex

pressly authorized to determine that a member or associate broker is

impaired or insolvent.224 Thereafter, the board may adopt and the mem ber or associate broker must comply with any restrictions and restraints on the business activities of the member or associate broker. The board, upon a filing of a petition for an order of liquidation by the superintend ent, or the filing of a petition in bankruptcy by or against a member, is authorized to place the member in an involuntary withdrawal.225 If the board eventually declares the member insolvent, the liquidator is re

quired to satisfy the outstanding debts and policy obligations of the

underwriting member from specified assets in a particular order.

Notwithstanding the powers of the board of governors to oversee the

219. N.Y. Ins. Law art. VIII, ? 1; N.Y. Operating Rule 29.00. 220. Id. 221. Id. at art. VIII, ? 2. 222. Id. at art. VIII, ? 7. 223. Article XVI of the New York Insurance Law which regulates the rehabilitation,

liquidation, conservation and dissolution of insurers is applicable to the exchange. See N.Y. Regs. ? 18-1.4.

224. N.Y. Ins. Law art. VII, ? 13. 225. Id. at art. VII, ? 14.



922 THE FORUM

rehabilitation of or seek liquidation of an impaired underwriting mem

ber, as in the other states the superintendent of insurance has also been

granted those powers.226

6. Security Funds

All three states provide for the establishment of security funds. Illinois

provides for the creation of a not-for-profit corporation known as the Illinois Insurance Exchange Immediate Access Security Association (As sociation).227 The Association, which is incorporated under the Illinois

not-for-profit corporation law, is exempt from the payment of all fees and taxes.228 All syndicates are required as a condition of membership to be members of the Association.229

Subsequent to the entry of an order of liquidation against a syndi cate, the Association must give notice to all of the syndicate's policy holders or other potential claimants specifying the date of the entry of order of liquidation, the procedure for filing claims, and the date before which such claims must be submitted to the Association. Within sixty days after the claims date, the Association is authorized to determine the liability of the syndicate based on all properly filed claims. The As sociation then pays all valid claims from the assets of the syndicate's trust account and certificates of guaranty which were transferred to the Association after entry of the order of liquidation. Where the transferred assets are insufficient to pay all claims in full, the Association may pay claims under a plan approved by the court entering the order of liquida tion. A person not receiving full reimbursement for his claim from the Association has a claim against the liquidator for the remaining amounts.230

Although the liquidation procedures and security fund obligations of

syndicates are extensively regulated in Illinois, it should be noted that none of these provisions appear to address or control the liquidation of the Illinois exchange itself.

As in Illinois, Florida provides that all underwriting members shall be members of the security fund of any exchange.231 However, no other

provision of the Florida statute describes the security fund or sets forth the obligations of underwriting members vis-a-vis the fund.

New York provides for the establishment of a not-for-profit corpora tion entitled the NYIE Security Fund, Inc.232 All underwriting members are required to be members of the fund. New York extensively regulates the security fund and provides, in part, for an initial deposit of $500,000

226. Sections 93 and 94 of the New York Insurance Law, from which the exchange is not exempted, confer these powers on the superintendent of insurance. See N.Y. Regs. ? 18-1.4(d)(3).

227. III. Stat. ? 719.26. 228. Id. at ? 719.26(a). 229. 111. Regs. ? 8.C(1)(2). 230. III. Code ? 719.26(b). 231. Fla. Stat. ? 629.401(6)(b)51. 232. N.Y. Ins. Law art. XIII.




from members, the maintenance of a deposit fund as well as the levy of a premium surcharge not to exceed 5 percent of all written premium and the establishment of a surcharge fund. The $500,000 initial de

posit remains the property of each underwriting member and is con sidered a part of its capital and/or surplus. Upon the depletion of the

deposit and premium surcharge funds (aggregate fund), the board of

governors is authorized to assess underwriting members an additional amount not to exceed $500,000 per underwriting member for purposes related to an insolvent underwriting member. However, an underwriting

member's total liability for any such additional assessments shall not exceed a total of $500,000 during its term of membership.233 Other

provisions set forth the obligations of the fund; the use of funds and the

aggregate limitations on liability of the security fund; other specified limitations on such liability; the management of the fund by a board of directors (and indemnification of those directors); the intended tax ex

empt status of the fund; the powers of the fund, and the plan of opera tion for the fund.

Both the Florida and New York statutes expressly provide that the

performance of the contractual obligations of the exchanges or its mem bers are not intended to be covered by any of the state security or guar anty funds.234

7. Prohibited Conduct

Both Florida and New York impose penalties on members, associate brokers or affiliated persons for engaging in "prohibited conduct."235 Gen

erally, these states proscribe fraudulent and dishonest conduct; conduct detrimental to the welfare of an exchange; unethical or improper prac tices or conduct; failure to use due diligence to ascertain the insurance

needs of a client or a principal; misstatements made under oath or upon an application for membership in the exchange; wilful violation of law or violation of the constitution and bylaws of the exchange, and the failure of an officer or principal to testify or produce documents in con nection with the operation of the exchange when requested to do so.

Florida and New York impose penalties for engaging in the prohibited conduct which includes suspension from the exchange, involuntary withdrawal from the exchange, fines, censure or reprimand. Addition

ally, New York regulates the authority of the board of governors to con duct disciplinary proceedings and impose penalties on members, as sociate brokers and affiliated persons stemming from their activities on the exchange.236 Such authority does not, however, diminish the authority of the superintendent of insurance to conduct disciplinary or other en

233. Id. at art. II, ? 1. 234. See Fla. Stat. ? 629.401(7); N.Y. Ins. Law art. XVII, ? 5-8. 235. See Fla. Stat. ? 629.401 (6) (b)32-38; N.Y. Ins. Law art. XI. 236. N.Y. Ins. Law art. XII; N.Y. Operating Rule 28.00.



924 THE FORUM

forcement proceedings with respect to the conduct of members or brok ers on the exchange.237

Although Illinois does not expressly prohibit conduct by syndicates or

exchange brokers, any exchange broker or syndicate which is found, after hearing, to be in violation of the Exchange Act, bylaws or regula tions or which is found to be engaging in conduct which adversely affects the integrity of the exchange, are subject to disciplinary action

by the board. Such disciplinary action may include expulsion or sus

pension from the exchange, reprimand, censure or fine 238

8. Miscellaneous Provisions

Both the Florida and New York codes contain retaliation provisions 239

Like the retaliation provisions applicable under most insurance laws, these provisions require exchanges and their agents of foreign jurisdic tions which desire to transact business in Florida or New York to pay the amount of taxes, license fees, fines, penalties or deposit requirements which would be imposed on a Florida or New York exchange or agents by the domiciliary state of the foreign exchange where such obligations are greater than those imposed by Florida or New York. These pro visions, of course, further support the analogy between the exchanges and insurance companies.

Florida prohibits tender and exchange offers for "ten percent or more of the outstanding voting securities of an underwriting member or pur chase of ten percent or more of the ownership of an underwriting mem ber" unless a statement is filed with the department containing specified information with respect to the particulars of the proposed acquisition.240 However, an underwriting member may merge or consolidate its opera tion with another operation if it meets the applicable requirements of Florida law governing mergers and if such action is approved by the commissioner.241 The Illinois Insurance Exchange is exempt from simi lar type provisions of the insurance holding company act, but, as dis cussed, the Exchange has adopted a rule requiring a report of any change of more than 5 percent in ownership or control of a syndicate

242 More over, holding companies on the New York Exchange are regulated by rule.243

Finally, both New York and Illinois provide mechanisms for the ar bitration of disputes between syndicates and brokers arising out of any business transacted through the exchange.244

237. See, e.g., articles III and VI of the New York insurance statute. These articles are applicable, in part, to the exchange. See N.Y. Regs., ? 18-1.4(a)(e).

238. 111. Regs. ? 28. 239. See Fla. Stat. ? 629.401 (6)(b)40; N.Y. Ins. Law art. II, ? 15; N.Y. Regs. ? 18

1.3(a)(b) (? 61 of New York insurance statute is applicable to exchange). 240. Fla. Stat. ? 629.401(6)(b)49. 241. Id. at ? 629.401(6)(b)31.b. 242. 111. Regs. ? 26. See also N.Y. Operating Rule 8.00. 243. N.Y. Operating Rule 30.30. 244. See N.Y. Ins Law art. XIV; N.Y. Operating Rule 27.00; 111. Regs. ? 27.




CONCLUSION

Although the basic marketing concept of all the exchanges may be the same, the foregoing discussion of the technical structures illustrates a

variety of differences resulting from the approach by each of the states. These interesting differences could have an effect upon their individual

vigor and long-term growth. It is more likely, however, that each will maneuver slowly to improve its position and operation, and in the long term they may more closely resemble one another.



APPENDIX Comparison of Insurance Exchange Legislation

Subject Matter

Citation

No. of exchanges Certificate

of Authority or

approval of dept. required to

commence business

Minimum subscriptions for

exchange to commence

business

Implementation

of central

processing facility

Legal status of exchange Tax status of exchange

Illinois

III. Rev. Stat. ch. 73, ??

719.0T-.027.

(1981),

as amended

One

? 719.02

Certificate needed

? 719.03 $4,000,000

?? 719.02, .03

Prerequisite to license

? 719.21

Not-for-profit corporation formed; incorporation

provided for ? 719.02

Exempt from taxes imposed under insurance code but subject to state income tax and taxes

imposed

by other

laws

? 719.11

Florida

Fla. Stat. ? 629.401 (19 ) One or more ?629.401(1)

Dept. approval needed

?629.401(2)

No minimum stated

Provided for

but without

detail

?629.401(l)(b)

Certain

provisions

of not-for profit

corporation

laws to be included in constitution

?629.401 (3) (f) Direct premium tax on

Florida risks

?629.401(4)

New York

N.Y. Ins. Law ? 425-a

(McKinney

19 )

One

? 425-a. 1.

Neither

certificate

nor

approval required No minimum stated

Required

Art.X

Nort-f

or-profit

corporation Art. 1,? 1; Art. XVII

Direct premium tax on New

York risks Art. XVII, ? 5(4)



Premium tax

rates

applicable

None applicable

? 719.11

Classes of

exchange

business

Direct and reinsurance on all classes except life.

?? 719.03, .05

exchange participation A. Syndicates or under

writing members B. Limited syndicates

Syndicates: subscriber,

group of subscribers, limited syndicate or group of limited

syndicates ?? 719.07, .15

Corporation or partnerships formed by subscribers to join

with

other

subscribers or limited syndicates to form

syndicates ? 719.15

All policies and contracts other than annuities: 2% Annuity policies and

contracts: 1 %

? 624.509 (l)(a),(b) All classes; Reinsurance, direct insurance on alien risks,

surplus lines ins.

eligible for export ?629.401(l)(a)l-3

Premiums written by com

panies

other

than life

companies: 1.2% ; Accident and health policies: 1 % ; Premiums

written

by life

companies: 1 %

Art. 33 ? 1510(a), (b) New

York

Tax Law

All classes; Reinsurance, direct insurance on alien risks, risks

certified as re

jected

by the free zone

? 425-a.l, and surplus line

risks

outside

N.Y.

Underwriting Members:

underwriting syndicates. No

further

definition

?629.401

(6) (b)51 Not provided for

Underwriting

members:

persons,

firms,

corporations or other entities other than

insurance companies N.Y. Regs. ? 18-1.2(a)

Not provided for



appendix (Continued) Comparison of Insurance Exchange Legislation

Subject Matter

Illinois

Florida

New York

C. Broker members D. Exchange brokers/ associate brokers

E. Subscribers

Not provided for

Licensed resident and non resident insurance brokers and any reinsurance

intermediaries

? 719.15 111. Regs. ? 4

Any person making specified

subscription of money and meeting other admission requirements; subscribers

have

underwriting

function

?? 719.07, .15

Provided for but not defined. Agents who are broker .mem bers may place on exchange only types of insurance for which they are licensed; direct Fla. business must be writen through broker mem ber who is licensed surplus

lines agent.

?629.401 (6) (b)41

Provided for but not defined

? 629.401 (6) (b)41 Not provided for

Licensed agents, brokers or reinsurance intermediaries actually

engaged

in insurance business for at least three

years prior to date of

application

Art. VII, ? 1

Same as broker members; may place business on

Exchange only through

broker members or, if for own account, with under

writing members.

Art. VII, ? 2

Any

person, firm, corporation meeting

specified

require ment; subscribers have no

underwriting

function

Art. VII, ? 3



ADMISSION REQUIREMENTS

A. Who approves membership

B. Minimum capitalization 1. Syndicates/underwriting

members

Board of Trustees

? 719.07 111. Regs. ?? 3, 5

All permitted classes

$2,000,000 ? 719.07

111. Regs.

?

7.A

2.

Subscribers

$30,000

Do underwriting

? 719.07

C.

Initiation

fees/dues/ assessments

Insurance Department ?629.401 (6) (b)2

Board of Governors

Arts. II, VII, ? 7

a) Insurance other than life

&A&H?initial:

$1,500,000 ph. surplus: $1,000,000

b) All insurance?initial:

$3,000,000

ph.

surplus:

$2,000,000

?629.401

(6) (b)23 None provided

a)

Insurance

other than life &A&H?initial: $3,550,000

ph. surplus : $2,200,000 b) All insurance?initial:

$6,550,000

ph. surplus: $3,300,000

Art. VII, ? 6

c) required paid-in capital

of stock corps,

doing

business

as:

1) life or property and

casualty syndicates: $500,000

2) lif e and property and casualty syndicates:

$1,000,000

N.Y. Regs. ? 18-1.2(h)(l)-(4)

Do no underwriting;

initiation fees and annual

dues required

Art. VII, ?? 3, 5, 6




Subject Matter

Illinois

Florida

New York

1. Syndicates/Underwriting

Members 2. Broker members 3. Exchange brokers/ associate brokers

4. Subscribers

D. Application Requirements 1. Syndicates/underwriting

members

Syndicates:

Application fee: $250

Charter Membership fee:

$750

Initial Assessment: $9,000 Additional Assessment :

$10,000

Total: $20,000

Board of Directors Resolution

? 719.07; 111. Regs. ? 2

None provided Exchange Brokers: Annual fee: $1,000

? 719.07; 111. Regs. ? 9 Such annual fees and assessments

as determined

by the board ? 719.07

Application required

111. Regs. ?? 2, 3

None provided None provided None provided None provided Application required

?? 629.401 (6) (b)2, 3, 22

Underwriting Members:

Initiation Fee: $10,000

Annual

dues

as determined

by the Board Art. VII, ? 6

Broker Members: Initiation fee: $10,000

Annual dues as determined


Associate Brokers: Annual dues: $1,000

Art. VII, ? 5

Such initiation fees and annual dues as determined



Art. VII, ?? 4, 7; N.Y. Oper.

Rule 3.00



2. Broker Member

3. Exchange Brokers/ Associate Brokers

4. Subscribers

E. Designation of Agent for Service of Process

F. Use of special exchange

policy forms MANAGEMENT

A. No. on governing board B. No. of underwriting

members / underwriting

subscribers on board

C. No. of broker-subscribers/

broker members

D. No. of public trustees

Not provided


? 719.07 111. Regs. ?? 4, 5

Subject to standards that

may be promulgated by the

Board ? 719.07

Director of Insurance

? 719.25 Required ? 719.09

13

? 107.17

At least 6 ? 719.17

At least 1 but not more

than 3 ? 719.17

4

? 719.17

Contemplated but not expressly provided for Contemplated but not ex

pressly provided for Not provided


Art. VII, ?? 1(b), 4, 5, 7; N.Y. Oper. Rule 4.00


Art. VII, ??l(b),4, 5, 7; N.Y. Oper. Rule 6.00

Application required Art. VII, ?? 3, 4, 7

Not provided Not provided

Exchange

N.Y.Regs. ? 18-1.3(a)(6),

N.Y. Oper. Rule 21.00

Required

Art. VII, ? 1(a); Art. X, ? 1

At least 6 but not more 12

than 13 Art. Ill, ? 1

?629.401(3) Not provided 6

Art. Ill, ? 1

Not provided 2

Art. Ill, ? 1

At least Vz of total board of 4

governors Art. Ill, ? 1

?629.401(3)




Subject Matter

Illinois

Florida

New York

E. Election of board F. Voting rights

1. Syndicates/undenvriting

members 2. Broker members 3. Associate brokers/ exchange brokers

4.

Subscribers

(N.Y.)/

Underwriting subscribers, broker-subscribers

(111.) Application of state domestic

insurance laws to the

exchange

Provided

?? 719.16, 17, 18 None provided None provided None provided

Total subscription

-f*

Minimum subscription

($30,000) ? 719.16

Not applicable unless

specified ? 719.11

Provided

?629.401(3) None

specified

?629.401(3)

None specified

?629.401(3)

Governed by Fla. Not-For

Profit Corp. Law

?629.401

(3(f) None

specified

Applicable in part ?629.401 (6) (a) 1,2

?629.401

(6) (b)41

Provided

Art.

VI

Number of total votes for

broker members -r

Number

of underwriting

members Art. VI, ? 7 Entitled to 1 vote

Art. VI, ? 7

Not entitled to vote

Art. VII, ? 2

Not entitled to vote

Art. VII, ? 3

Fully applicable unless exempted by department

Art. XVII, ? 5-6 Dept. of

Ins. Reg. 89

(11

NYCRR Subpart 18-1)

states applicable exemptions



REGULATION OF OPERATIONS A. Examination of records

of

exchange

and partici pants by department or

governing board

Department of insurance and board of trustees

may examine

? 719.12; 111. Regs. ? 29

Department of insurance

only

?629.401 (6) (b) 1,6,7,11-21

B. Annual statement re quired of exchange or participants by depart ment or governing board C.

Maintenance

of records/ principal place of business in state

for

examination

by department or governing board

Department of insurance may require statement

from exchange

? 719.13

Board requires annual state ment from syndicates ?

719.13A;

111. Regs. ? 22 All records to be maintained

in Illinois ? 719.20

Department of insurance re quires underwriting member to submit annual statement

?629.401 (6) (b)8

Records/principal place of business of underwriting member in Florida ?629.401(6)(b)9

D. Examination fees/

expense of regulation by

department

Lesser of $5,000,000 or .05% of annual net premium written on exchange. No other fees permitted.

? 719.14

Entity or person examined

bears costs ? 629.401 (6) (b) 16; exchange to reimburse dept. for all other regulatory costs

?629.401(6)(b)17

Department of Insurance and

board of governors may

examine

Art. II, ? 7; N.Y. Regs. ? 18-1.2(l),(j);N.Y. Oper.

Rule 24.00

Board of governors requires members/assoc. brokers to submit annual statement

Art. II, ? 11; N.Y. Regs.

? 18-1.2(1), (j)

N.Y. Oper. Rule 22.00 Members/assoc. broker to

maintain records in principal

office

Art. II, ? 10

principal place of business of

underwriting member in

New York

Art. VII, ? 6; N.Y. Oper.

Rule 23.00

Exchange to reimburse dept.

for regulation costs Art. XVII, ? 5-5




Subject Matter

Illinois

Florida

New York

transaction of business

A. Who presents business to

exchange

B. Authorized reinsurance

of syndicates C. Direct Insurance minimum premium

Exchange brokers

? 719.05(b)

Provided by and through

syndicates ? 719.05(a)

syndicates may reinsure with

other syndicates or with authorized reinsurers having

minimum surplus of

$5,000,000

or

which are approved by board

? 719.05(c) 111. Regs. ? 21 $50,000

unless declined by

licensed market ? 719.05(d)

Broker members or associated

brokers ?629.401

(6) (b)41

Not provided

No minimum if qualified

as surplus lines eligible

for export

?629.401 (6) (b)4z

Broker members or associated brokers;

transactions

between

underwriting members

excepted. Art.

IX, ? 4

Subject to regulation under

N.Y. insurance laws

N.Y. Stat. ? 77; N.Y. Regs. ? 18-1.4(a); N.Y. Oper. Rules

12.00, 19.00, 20.00 No minimum if risk is certified

as rejected by the

free zone Art. IX, ? 3; Dept.

of Ins. Reg. 86-A (11 NYCRR19) or

if surplus line

risk outside of New York



D. Limitation as to net

maximum amount of insurance assumed any

one risk Written premium

limitation

Syndicates:

10% of capitalization

? 719.10(a) Subscribers:

10% of capitalization

? 719.10(b)

Reinsurance;

syndicates must

retain at least 10% of its liability per risk and at least

25% of its gross-net annual

written premiums

111. Regs. ? 21

F. Limitation on investment G. Delegation and registra

tion of binding authority

H. Limitations on invest ments in members by

brokers, agents, inter mediaries and in brokers,

etc., by members

Marketable securities

con tained in syndicate trust

account are subject to

regulation 111. Regs. ? 8.A Registration

with exchange

required

111. Regs. ? 13 None provided

Underwriting members: Underwriting members:

10% of policyholder

surplus

10% of policy holder surplus

? 629.401(6)(b)24 Art. XI, ? 7

Underwriting members:

may write no additional risks

if (a) ratio of net written premiums to ph. surplus exceeds 8.5 to 1. (b) writing of risks

results

in ratio or net

written premiums to ph.

surplus in

excess

of 3.5 to 1

629.401 (6) (b)24

Imposed ?629.401

(6) (b)23

Not provided

20% of total investment in member,

broker,

agent or

intermediary ?629.401(6)(b)54

Reinsurance; underwriting

members must retain at least

50% of its gross annual

written premiums

N.Y. Oper. Rule 12:30

Imposed

Art. VII, ? 6; Art. XVII, ? 5-6

N.Y. Ins. Law Art. Vis applicable in part

N.Y. Regs. ? 18-1.2(b) (5)

N.Y. Oper. Rule 25.00 Filing with exchange

required Art.

IX, ? 3

N.Y. Oper. Rules 5.00, 7.00 20% of total investment in member,

broker,

agent, or

intermediary Art. XVII, ? 5-6

Ins. Dept. Reg. 89-9

(11 NYCR Subpart 19-1).




Subject Matter

Illinois

Florida

New York

I.

Requirements

concerning unearned premium and

loss reserves.

J. Restrictions on dividends/

distribution of profits, bor

rowing of money Insolvency

/ rehabilitation

and liquidation

Maintenance of trust account

Required 111. Regs. ? 20 Imposed 111. Regs. ? 24

Board or director of insur ance may

initiate liquidation of syndicates; director acts as

liquidator

? 719.08; Art. XIII, 111. Ins.

Laws; 111. Regs. ? 25

Syndicate required to deposit at least 50% of most current

capitalization

? 719.27; 111. Regs. ? 8.A

Required

?629.401(6)(b)25,26

Imposed

?629.401(6)(b)27-30

Rehabilitation/liquidation of member or associate broker by department of insurance

?629.401(6)(b)31

Not provided

Required;

exchange not exempted from reserve requirements of New

York insurance law

N.Y. Regs. ? 18-1.4(d)

Imposed;

exchange exempted from

restrictions

on dividends

under New York insurance law only if Exchange adopts

comparable rules

N.Y. Regs. ? 18-1.4(c)

Board or superintendent of insurance may initiate with

drawal, dissolution, rehabili

tation of members and

exchange; superintendent

acts as liquidator

Art. VIII; Art. II, ?? 13, 14;

Art. XVI N.Y. Code N.Y. Oper. Rule 29.00

Not provided



Execution

of certificates

of

guaranty

Guaranty

or

security fund

required

Obligations of exchange/

members covered by state

guaranty funds?

Proscription of prohibited conduct by syndicates/ members, brokers

Retaliation

provisions Miscellaneous

Syndicate required to file certificates with exchange in

an amount equalling capitali

zation of syndicate unless exempted;

failure

to file re

sults in restriction on

leverage

? 719.27; 111. Regs. ? 8.B

Upon

entry

of order of liquidation,

funds held in trust account and funds

represented by certificates of guaranty are transferred to

Association ? 719.27

No

? 719.11

Not expressly provided

Not provided Not provided Not provided

Not provided

Not provided

Not described

?629.401(6)(b)51

No

?629.401(7)

Provided

?629.401 (6) (b)32-38

Provided

? 629.401 (6)(b)40 Satisfaction of money judg

ments against underwriting

member

?629.401 (6) (b)48 Regulation

of tender and

exchange offers ?

629.401

(6)(b)49

Underwriting members re quired to deposit $500,000; underwriting members liable for total additional assess ments not to exceed $500,000

Art.

XIII; Art. II, ? 1

No

Art. XVII, ? 5-8

Provided

Art.

XI Provided

Art. II, ? 15 Not provided Not provided




Subject Matter

Illinois

Florida

New York

Arbitration 111. Regs. ? 27

Board may conduct dis

ciplinary proceedings

111. Regs. ? 28 Not provided

Notification of exchange of change

in ownership of

syndicate required

111. Regs. ? 26

Arbitration

?629.401

(3)

(g) Not provided Not provided Notification

of department of change in ownership of

syndicate required

?629.401

(6) (b)39

Arbitration

Art. XIV

Board may conduct dis

ciplinary proceedings

Art. XII

Subvention certificates

authorized

Art. XVIII

Notification of Exchange of 5% or

more change in ownership of members and associate brokers required

N.Y. Oper. Rule 8.00 Holding companies are

regulated

N.Y. Oper. Rule 30.30



legal structures of insurance exchanges

Documents