Insurance Sources
Insurance is provided to the public by private commercial insurers and by government programs, with the support of service providers:
- Service Providers
- Government
- Private Commercial Insurers
Service Providers
In property and casualty (P&C) insurance, service providers are organizations that support insurers by delivering or administering risk-management and loss-adjustment services rather than issuing insurance policies.
Common examples include claim-adjusting firms, inspection bureaus, and rating organizations such as ISO (Insurance Services Office). These organizations support insurers by providing data, policy forms, and statistical services.
Government Insurers
The federal government offers several property and casualty programs designed to insure against catastrophic or otherwise hard-to-insure risks. Examples include National Flood Insurance (NFIP), Federal Crop Insurance, and Terrorism Risk Insurance (TRIA).
At the state level, governments are involved in providing unemployment and workers’ compensation insurance. States may also operate residual market (or “shared market”) mechanisms - such as Fair Access to Insurance Requirements (FAIR) Plans and Joint Underwriting Associations (JUAs) - to help ensure property coverage is available when private insurers won’t write high-risk applicants.
These public programs act as safety nets for specific classes of risk or for individuals who can’t obtain coverage in the voluntary market.
Private Commercial Insurers
Private insurers may be organized as stock companies, mutual companies, reciprocal insurers, or fraternal organizations.
An insurance company that intends to do business in a state must be authorized by that state’s director/commissioner of insurance. If the director is satisfied that the insurer meets the state’s standards for financial strength - and that allowing the insurer to sell insurance in the state won’t jeopardize the public interest - the insurer is granted a certificate of authority. The insurer is then referred to as admitted or authorized.
Stock Companies
Companies structured in a traditional corporate manner are called stock companies. They are owned by stockholders, who may or may not also be policy owners.
Profits earned by a stock company may be paid to stockholders as stock dividends. Most property and casualty insurers today are organized as stock companies.
Mutual Companies
A mutual insurance company is owned by its policy owners. It’s structured as a corporation, except that ownership is evidenced by owning a policy rather than a stock certificate.
Earnings from a mutual company’s operations may be returned to policy owners as policy dividends.
Mutual companies distribute policy dividends through participating policies. This term reflects that policy owners participate in the company’s earnings.
Stock companies generally issue non-participating policies, meaning policy owners don’t share in company profits.
Mutual companies operate on a not-for-profit basis for the benefit of policyholders, though they are not legally classified as nonprofit entities under tax law.
Reciprocal Insurers
In a reciprocal insurer, groups of people insure one another through individual indemnity agreements.
- Each insured is called a subscriber.
- Each subscriber is allocated a separate account where premiums are paid and interest earned is tracked.
- If a subscriber suffers a covered loss, each subscriber’s account is charged a proportional amount (based on the subscriber’s premium or exposure) to pay the claim.
The party who acts as principal of a reciprocal insurance company is known as an attorney-in-fact.
Fraternal Organizations
Fraternal benefit societies primarily operate in the life and health sector and are rarely involved in P&C insurance.
A fraternal benefit society is a nonprofit society that insures its own members, typically with life, annuity, disability and health benefits.
Other Types of Private Insurers
Lloyd’s
Lloyd’s of London is not an insurance company. It’s more like a stock exchange.
Just as an exchange provides facilities for its members but doesn’t buy or sell securities itself, Lloyd’s provides a marketplace where its members transact insurance.
Members may be individuals or corporations. They are grouped into syndicates, but they remain individually liable and responsible for the insurance contracts they enter into.
Excess and Surplus Lines
Some risks can only be insured through specialty carriers.
Excess and Surplus Lines is the name given to insurance for which there is no market (or no insurance available) through authorized carriers in the insured’s home state, the state whose surplus lines law governs the placement (generally where the insured resides or has its principal place of business).
Reinsurers
Reinsurance is a contract between insurers. It exists when one insurer (the reinsurer) agrees to accept a portion of a risk covered by another insurer (typically a smaller company).
The ceding company remains responsible for the coverage it has written, but it has a legitimate claim against the reinsurer for the portion of any loss that is reinsured.
- Under facultative reinsurance, risks are considered individually by both parties. The ceding insurer may submit the risk to the reinsurer, and the reinsurer may either accept or reject it.
- Under automatic reinsurance, the reinsurer agrees in advance to automatically accept a portion of a risk from the ceding insurer. Conversely, the ceding insurer has agreed to “cede” a portion of the risk automatically to the reinsurer.
A quota share agreement involves a ceding insurer agreeing to pay a reinsurer a specific percentage (i.e. 30%) of the premium collected if the reinsurer agrees to pay the same percentage of any loss that occurs.
An excess loss agreement involves the reinsurer agreeing to pay only when a loss exceeds a specific amount.
Regulatory Classifications
Another way to categorize private insurers is by how they are regulated. This approach ignores whether the insurer is a stock, mutual, reciprocal, or fraternal organization.
To understand this classification, it helps to remember that insurance is regulated primarily at the state level (not the federal level). Insurers are commonly categorized based on their state of domicile.
After the South-Eastern Underwriters Decision established that insurance transacted across state lines was interstate commerce, Congress passed the McCarran-Ferguson Act (1945), which declared that regulating the business of insurance is a matter for the states. A federal law applies to insurance only if it specifically relates to insurance, and federal antitrust law applies only to the extent that state law does not regulate the business.
- An insurance company headquartered and chartered in the state in question is a domestic insurer. For example, in the state where XYZ Life Insurance Company is headquartered and chartered, it is a domestic insurer.
- A company whose home office is in another state is a foreign company. Using the example from above, XYZ Life Insurance Company is a foreign company in every other state. A company headquartered in another country is an alien company. XYZ Life Insurance Company would be considered an alien insurer in Canada.
Lesson Summary
Insurance is provided to the public by private commercial insurers and government programs, with the support of service providers.
- Service Providers: Organizations that support insurers by providing services such as claims adjusting, inspections, and rating/statistical support.
- Government Insurers: Federal programs cover catastrophic or hard-to-insure risks (for example, NFIP, Federal Crop Insurance, and TRIA). State programs include unemployment insurance, workers’ compensation, and residual market mechanisms such as FAIR Plans and JUAs.
- Private Commercial Insurers: Private insurers can be stock companies, mutual companies, reciprocal insurers, or fraternal organizations. To operate in a state, they generally must be authorized by the state’s insurance director or commissioner and granted a certificate of authority.
Private insurers are further divided into different types:
- Stock Companies: Owned by stockholders; profits may be distributed as stock dividends.
- Mutual Companies: Owned by policyholders; earnings may be shared through policy dividends (participating policies).
- Reciprocal Insurers: Groups of people provide insurance for one another through indemnity agreements.
- Fraternal Organizations: Nonprofit societies that insure their members, typically in life and health; rarely involved in P&C.
Other types of private insurers include Lloyd’s of London (a marketplace for insurance transactions), Excess and Surplus Lines (specialty coverage when authorized carriers won’t write the risk), and reinsurers (which accept a portion of risk from other insurers).