On Friday, December 12, 2008, the California Department of Insurance (“CDI”) held its pre-notice public discussions on contemplated revisions to the prior approval rate regulations. The CDI panel that presided over the discussions consisted of Adam Cole (General Counsel), William Gausewitz (Special Counsel to the Commissioner), Jesse Huff (Special Assistant to the Commissioner), and Bryant Henley (Senior Staff Counsel).

At the outset, Gausewitz made clear that the contemplated revisions to the prior approval regulations were not being formally proposed and that this workshop was just an opportunity to get preliminary thoughts from interested parties. Gausewitz also noted that there was no formal agenda. He noted that there were a number of individuals who identified themselves as those wished to speak, but he reminded that anyone who had a comment was encouraged to speak.

The first person invited to speak was Harvey Rosenfield of Consumer Watchdog. Rosenfield initially gave an overview of his view of why Proposition 103 was approved by the California electorate and noted that Proposition 103 resulted in the savings of hundreds of millions of dollars for California consumers, particularly through the prior approval regulations in effect prior to 2007 (which Rosenfield referred to as the “Garamendi” regulations).

Rosenfield noted that the newly contemplated revisions to the prior approval regulations undermined the “Garamendi” regulations in that it would allow insurers to “game the system” and obtain excessive profits. Rosenfield also described the newly suggested revisions to be illegal, “poorly vetted,” “poorly crafted,” and “half-baked” and noted that none were pro-consumer. He believed that these newly revised regulations constituted a “wholesale deregulation” of the industry.

Cole asked Rosenfield to specifically identify what provisions he considered illegal and why. In response, Rosenfield identified those regulations that permitted the “phasing” in of rate changes that are greater than 15% (i.e., proposed Section 2644.29) and the expedited review and approval of rate reductions (i.e., proposed Section 2644.51). In explaining why he believed these suggested provisions to be illegal, Rosenfield noted that under each of these suggested regulations, it is contemplated that an insurer may charge a rate that is unlawful (i.e., that is excessive, inadequate or unfairly discriminatory).

Gausewitz noted that, at least with respect to the expedited rate reduction process, that this provision was pro-consumer as it allowed insurers a way to expeditiously role out decreased rates to the general public. Gausewitz also noted that no provision had been suggested for an expedited rate increase process. In response, Rosenfield noted that this provision was nevertheless unlawful as it did not comport with Proposition 103.

Gausewitz invited others to make any general comments on the suggested revisions to the prior approval regulations, but no one volunteered to make any such comments. He then noted that it was his view that there seemed to be four issues raised by the suggested revisions – that is, the suggested revisions concerning (1) the efficiency standard, (2) the expedited rate reduction, (3) the incremental implementation of large rate changes, and (4) the rate of return.  He invited people to speak on each subject in turn.

Notes of those comments are as follows:

Efficiency Standard

With respect to the efficiency standard, the CDI proposes creating an efficiency standard range between a “maximum and a minimum allowable ratio of historic underwriting expenses, including adjusting and other expenses to historic earned premiums, which represents the fixed and variable cost for a reasonably efficient insurer to provide insurance and to render good service to its customers.”

As further provided, “The maximum efficiency standard shall be calculated as one standard deviation above the arithmetic average of the latest three years for which data are available. The minimum efficiency standard shall be calculated as one standard deviation below the arithmetic average of the latest three years for which data are available. In any rate application in which the insurer’s actual expense ratio is above the minimum efficiency standard and below the maximum efficiency standard, the insurer’s actual expense ratio shall be employed in place of the efficiency standard.”

Shawna Ackerman of Pinnacle Actuarial Resources, Inc., who spoke on behalf of PIF and ACIC, was the first to comment on these suggested revisions. While she initially noted that she would always recommend using the individual insurer’s costs, she recognized that there is counter-balancing need on the part of the CDI to be able to effectively deal with this issue on an industry wide basis. From that perspective, Ackerman noted that the suggested revisions to the efficiency standard were generally fine, but required clarification. For instance, she noted that there needed to be a clarification of “standard of deviation.” Also, because rate-making is an exercise in predicting future rates, she noted that the regulations should permit the use of a company’s “projected” expenses and not “actual” expenses.

Gausewitz noted that the goals sought to be achieved by this contemplated change was to still allow insurers to reap the benefits of being efficient (but to limit the amount of that benefit) and expand an insurer’s ability to capture its actual expenses that might not otherwise be captured under the current system (but to still have a cap on what may be captured). Gausewitz and Huff appeared to acknowledge that historic data may not be 100% accurate in predicting future costs, but suggested that concerns over the use of “actual” expenses (as opposed to “projected” expenses) – in that “actual” expenses” may not accurately predict future costs in certain circumstances – could be dealt with by way of currently existing variances.

Diana Estrada (Fireman’s Fund) also spoke and said that she support the change to the efficiency standard calculation and believe it is a step in the right direction to enable companies to obtain correct rates.

Alice Bison (Auto Club) noted that she was uncomfortable with the change as it would result in a loss by efficient companies and would take away an incentive on the part of companies to be efficient.

Expedited Process for Approving Rate Decreases

The next potential amendment discussed at the workshop was the addition of an expedited process for the approval of a rate decrease. Under this suggested amendment, “an insurer desiring to reduce an approved rate may do so by filing an Application to Reduce Rates, on a form established by the Commissioner. The Application to Reduce Rates shall include all the information required for a complete rate application by section 1861.05 of the Insurance Code. An Application to Reduce Rates shall be deemed approved, as submitted, 60 days after the complete application is received by the Commissioner unless the Commissioner within those 60 days orders a hearing on the application pursuant to section 1861.05 of the Insurance Code.”

Pursuant to the suggested amendment, “[a] rate reduction pursuant to this section may be made only on the basis of the insurer’s certification, and the Commissioner’s finding, that the rate will not cause the insurer’s financial condition to present an undue risk to its solvency and will not otherwise be in violation of the law.”

Ackerman noted that she was generally in favor of this suggested amendment, but felt that there were a number of clarifications that could be made.

First, Ackerman noted that the 60 day period could be calculated from the date of public notice. Under the suggested amendment, this period started “after the complete application is received by the Commissioner,” which provided a less clearly delineated date from which the period would start.

Second, Ackerman believed that there should be some guidelines on what constitutes a “complete application” to assist companies in ensuring that they correctly provide all information that needs to be provided so that they could correctly comply with this regulation.

Third, Ackerman noted that the CDI may want to contemplate allowing for the expedited approval of rate decrease and class plan, particularly where a class plan is revenue neutral.

Fourth, Ackerman noted that the CDI may want to contemplate the addition or clarification allowing for the expedited approval of “forms” when then are effectively rate decreases.

Fifth, Ackerman noted the language requiring an affirmative finding by the Commissioner that the rate decrease should not pose an insolvency risk should be altered to permit approval of a rate decrease unless there is a finding of insolvency risk. The reason for this suggested change is to further the goal of getting lower rates out to consumer on a more expedited basis.

Sixth, Ackerman noted a provision should be in place making clear that a company should not be required to provide a refund of premiums if there is a subsequent review and determination that an insurer’s rate is excessive.

In response to these comments, the panel did not have any particular comments or criticisms, but did have exploratory questions. Gausewitz also noted that Ackerman’s comments would appear to indicate that she appeared to suggest that contemplated regulations would appear to provide for a “less thorough” review of a rate decrease application. Ackerman agreed that this was her understanding of the import of that provision.

Kai Fung (CSE Insurance) noted that there should be a process in place to allow for an expedited approval of a rate increase for companies that are under financial distress. The panel noted that such a provision would be problematic given the fact that the general public needs to be given adequate time to allow for consumer participation.

Rate of Return

In the May 2008 version of the prior approval regulations, the CDI had added section 2644.16(c), which provided that “The Commissioner may increase or decrease the maximum permitted after tax rate of return by not more than 2% if he finds financial market conditions to be such that the difference between the risk free rate and the cost of capital is significantly different from its historical average.” In the suggested revisions, the CDI proposes to remove this provision as unworkable because of the use of the term “cost of capital.”

Ackerman noted that an actuary from a company that was a member of PIF came up with a proposed solution to dealing with a rate of return determination. Specifically, the proposal is to use the rate of return information from the 50 largest publicly trade property and casualty companies for the last 15 years to develop an appropriate rate of return. A rate of return could be expressed in terms of a standard of deviation from the result of the survey. Ackerman noted that she would submit a specific document detailing the methodology for employing this approach with the CDI.

While it was acknowledged that this survey would only include publicly traded companies, it was only these companies who would have public filings from which rate of return data could be gathered. Further, it was also suggested that this might be a good proxy given the market share of premiums sold by publicly traded companies.

Under this newly proposed calculation, and if one standard of deviation was employed, Ackerman noted that a rate of return calculation would come out to approximately 15%, which Cole seemed to suggest was high. It was observed that the CDI could use a fraction of a standard of deviation and that while the numbers initially suggested could be modified, the overall approach would be a good way to get to the right number. It was also observed by a member of the gallery that 15% would fall right around the rate of return of 14.5%, which was used under the pre-2007 prior approval regulations under the “Garamendi” regulations.

Other Issues

No one had specific comments on the “enterprise as a whole” regulation. Further, there were additional comments on other proposed changes to the regulations that were not specifically raised by the CDI’s suggested revisions to the prior approval regulations and, therefore, were not prepared to be addressed by the panel. Finally, the Consumer Watchdog was asked if it was their intent to provide any more specific comments on the newly contemplated regulations, but it was indicated that they would not likely have any such comments at this time.

The panel noted that if anyone wanted to submit additional information on any items discussed they were encouraged to do so. While the panel could not give a firm deadline at to when they would move forward with a more formal pronouncement of revisions to the regulations, Gausewitz noted that they would not take any action before the end of the year. Therefore, he suggested that any submissions be provided before December 31, 2008.

There are a number of changes that will most certainly prompt "discussion."  For instance, the CDI contemplates the development of a maximum and minimum efficiency standard, which creates a range in which a company's actual expense ratio is compared and, if the actual expense ratio falls within the range, that ratio is used in lieu of the efficiency standard.  The CDI also proposes a removal of the regulation that permits the Commissioner to increase or decrease the maximum permitted after tax rate of return (by 2%) based upon financial market conditions.  The CDI also proposes a removal of the "higher quality of service" variance and the addition of an "higher financial investment in underserved communities" variance.

Another proposed revision that is worthy of note is the CDI's contemplated definition of "enterprise as a whole" to mean "the insurer's operations in all lines of insurance which are subject to this Article and which are conducted in California" to be used in connection with a confiscation/constitutional variance analysis.  As this issue had been the subject of substantial debate (and disagreement) in recent rate hearings, this proposed definition will like engender much discussion at the hearing.

These and other changes can be seen here.   The hearing will take place on December 9, 2008, starting at 10:00 am at the Administrative Hearing Room, which is at the CDI's San Francisco Office, 45 Fremont Street, 22nd Floor.

Owner Who Could No Longer Work "Hands On" Held not "Totally Disabled" under Disability Policy to Perform Listed Duties of Buyer/Manager:  Hecht v. Paul Revere Life Insurance Co., ___ Cal. App. 4th __ (2nd App. Dist. Div. 6 11/5/08):  Based upon Erreca v West States Life Ins. Co., 19 Cal. 2d 388 (1942), the trial court ruled that there were no triable issues of fact that appellant was not "totally disabled" to handle duties listed as "buyer/manager/office operations" though plaintiff owner could no longer perform "hands on" work due to chronic pain and lessened strength.  Court of Appeal reviewed de novo and affirmed the trial court's finding.  [Opinion here.]

Return of Premium on Surrendered Bail Bond not Permitted Where Remand was by Trial Court:  Indian Lumbermens Mutual Insurance Company v. Alexander, ___ Cal. App. 4th ___ (2nd App. Dist. Div. 8 11/4/08) (holding that insurer and bail bond company was not required to refund premium for bail bond where criminal defendant was remanded to custody by trial court, not bail bond company, for out-of-state warrant).  [Opinion here.]

Non-Arbitrable Question of Whether Claimant for UM Benefits is "Insured" Can Be Addressed by Court in Proceeding Initated by Petition to Compel Arbitration:  Bouton v. USAA Casualty Insurance Company, __ Cal. App. 4th __ (4th App. Dist. Div. 1 10/7/08):  Appellate court reversed trial court's denial of petition to compel Section 11580.2(f) arbitration of UM benefits.  While trial court denied petition on ground that it sought arbitration of non-aribtrable question of petitioner's status as "insured," appellate court held that trial court could and should have determined this question and that petitioner need not have filed a separate declaratory relief action to ascertain ability to obtain UM benefits.  [Opinion here.]

[Please note that this post does not constitute legal advice and provides only the author's own snapshot view of the cited opinion. No warranties are made as to the accuracy of the author's view of the opinion or as to its legal effect (including, but not limited to, whether it may be subsequently modified, depublished, and/or overruled). The import and applicability of a cited opinion to an actual matter depends upon the specific facts presented and should be reviewed by an attorney. ]

Though the CDI notes that it does not discern a "significant change in trends regarding automobile and homeowners insurance fraud," it is worth noting that the 2008 year is not yet over and there appears to be an uptick in the number of suspicious residential fires reported by insurers from last year.

The CDI also sets forth the number of arrests that the CDI has made for vehicle arsons and homeowners insurance fraud from 2005, which remained level throughout those years and, as for HO fraud in 2008, seemed to drop.  It is questionable, however, how much reliance can be placed upon these "arrest" numbers as reflective of the number of fraudulent claims that may be made upon the industry.  The number of arrests that the CDI may be able to make could, in part, be limited by what resources the CDI may have in conducting its investigation.  These numbers also presume that efforts to make such arrests remained on level throughout that period of time.

The data does not appear to address issues concern suspicious non-arson vehicle claims.  Also, not addressed by the post is whether claim frequency in general goes up in a slow economy.  It would seem logical that in a slow economy, individuals are more apt to make claims, fraudulent or not, as there may be less desire or means to pay for a loss out of pocket.  [If anyone is aware of a study/analysis linking claims frequency with a slowing economy, please let me know, as I would love to see it.]

Right to Arbitrate UM/UIM Disputes Held Not to be Bar to Wrongful Pre-Arbitration Handling of Claim: Brehm IV v. 21st Century Ins. Co., ___ Cal. App. 4th ___ (2nd App. Dist. Div. 7, 9/16/08) (reversing lower court’s sustaining of demurrer to claimed breach of the implied covenant of good-faith and fair dealing on ground that plaintiff alleged facts demonstrating lack of good faith conduct in resolving claim for UIM benefits and holding that exercising of right to arbitration provided under Cal. Ins. Code 11580.26(b) did not preclude bad-faith claim based upon an insurer’s alleged tortious pre-arbitration handling of the claim). [Opinion here.]

Recoverability of Damages Caused by Driver of Purchased Vehicle under Selling Auto Dealer’s “Garage Operation” Liability Policy: Spangle v. Farmers Insurance Exchange , ___ Cal. App. 4th ___ (2nd App. Dist. 8/29/08) (reversing lower court’s grant of summary judgment against plaintiff on grounds that there was a triable issue of material fact as to whether son of father who purchased a vehicle from dealership was “insured” (as “permissive user”) under dealership’s “garage operations” liability policy and holding that accident caused by son arose from “use” of the car that was covered as a “garage operation”). [Opinion here.]

[ Please note that this post does not constitute legal advice and provides only the author's own snapshot view of the cited opinion. No warranties are made as to the accuracy of the author's view of the opinion or as to its legal effect (including, but not limited to, whether it may be subsequently modified, depublished, and/or overruled). The import and applicability of a cited opinion to an actual matter depends upon the specific facts presented and should be reviewed by an attorney. ]

Triggering of Section 11580.2 Coverage: Explorer Insurance Company v. Gonzalez , ___ Cal. App. 4^th ___ (3^rd App. Dist., July 16, 2008) (holding that tortfeasor was not “underinsured” to trigger underinsurance coverage where injured person’s policy provided coverage up to “$100,000 for all damages from bodily injury sustained by any one person in a single accident” and tortfeasor’s policy provided “combined” coverage up to “$100,000 “for all bodily injury and property damage caused by any single accident.”). [Opinion here.]

Rescission of Annuity Contract & Mistake of Fact: Grenall v. United of Omaha Life Ins. Co., ___ Cal. App. 4^th ___ (1^st App. Dist., July 25, 2008) (affirming summary judgment in favor of insurer and holding that purchaser of annuity contract could not rely upon her mistaken belief as to her life expectancy as a “mistake of fact” to rescind annuity contract). [Opinion here.]

Binding Effect of Insured’s Discovery Responses on Insurer in Subrogation Action: Great American Insurance Companies v. Gordon Trucking, Inc. , __ Cal. App. 4^th ___ (5^th App. Dist., July 29, 2008) (reversing summary judgment entered against insurer on the ground, in part, that insured’s factually devoid discovery responses was not binding on insurer for purposes of summary judgment). [Opinion here.]

Estoppel to Deny Benefits under Commercial Policy: City of Hollister v. Monterey Ins. Co. , ___ Cal. App. 4^th ___ (6^th App. Dist., July 29, 2008) (affirming judgment against insurer and estopping insurer from relying upon condition precedent to obtaining “functional replacement value” benefit (here, requiring that insured enter into contract to repair or replace a building within 180 days after loss) under commercial policy where insurer determined to have failed to cooperate with insured to comply with condition). [Opinion here.]

[Please note that this post does not constitute legal advice and provides only the author's own snapshot view of the cited opinion. No warranties are made as to the accuracy of the author's view of the opinion or as to its legal effect (including, but not limited to, whether it may be subsequently modified, depublished, and/or overruled). The import and applicability of a cited opinion to an actual matter depends upon the specific facts presented and should be reviewed by an attorney.]

Let me repeat that.  You might be sued in a class action in California by a plaintiff who is unharmed by you.  While you may be in the process of having a court determine that the plaintiff was never in fact harmed (by way of a motion for summary judgment, which will take at least 4 months to be heard, but typically longer), that plaintiff can seek discovery that may be used to identify an actual injured plaintiff and have that plaintiff substituted in to maintain the class action.

Ridiculous?  Not quite since some of you may have already faced this issue.  It is an issue that regularly comes up, but even more so after the passage of Proposition 64, which suddenly resulted in a number of private attorney general plaintiffs to suddenly lose standing under California’s Unfair Competition Law. 

This issue has also received a "shot in the arm" due to the Court of Appeal’s decision earlier this year in CashCall v. Sup. Ct., 159 Cal. App. 4th 273 (2008), in which such discovery was granted. (In that case, it was alleged that the defendant was secretly recording the telephone conversations of clients without their consent. Despite not having a plaintiff who was actually subject to this alleged illegal conduct, the plaintiffs were granted discovery to identify those individuals who have been surreptitiously recorded so that they could besubstituted into the action.)

So, what does this mean for the industry? 

Well, it has really become another one of the standard issues that your attorney can expect to address in seeking to dispense of a class action lawsuit.   The bright side, however, is that the courts are mindful of the potential abuse of the class action procedure that may arise from the use of a "straw" plaintiff.  If it is the case that the original plaintiff knew or should have reasonably known that he was an inappropriate plaintiff, a court will likely be inclined to deny a request to obtain discovery for a more appropriate plaintiff.  On the other hand, if the facts are more extreme, such as those in CashCall, where no one but the defendant had information as to the identities of injured "victims," a court will be more inclined to grant that discovery. 

[For cases that have denied such discovery, see First American Title Ins. Co. v. Sup. Ct., 146 Cal. App. 4th 1564 (2007), and Cryoport Sys. v. CNA Ins. Cos., 149 Cal. App. 4th 627 (2007), are cases where such discovery has been denied.]

It was great meeting many of you.  See you at next year's conference.