By STEVE TUCKEY, who has written on insurance issues for a decade for several national media outlets.
Did you hear the one about the surplus lines broker who upon asking the Almighty if the tax allocation conundrum would ever be resolved in his lifetime received a reply in the negative with the additional caveat of "nor Mine."
Perhaps that broker and his ilk were tempting fate just a bit last year when they sensed a glimmer of hope with the passage of the Non-Admitted Reinsurance Reform Act.
The law supposedly once and for all said all surplus lines premium taxes must go to the home state of the insured, while providing other measures of uniformity dealing with carrier eligibility and sophisticated buyer criteria.
For example, all such taxes from Wal-Mart would go to Arkansas, despite the fact that the chain has reportedly outgrown its Bentonville roots.
But the lawmakers seemingly could not leave well enough alone when they added a provision suggesting the states could form agreements to share premium tax revenues if they could figure out a fair way of doing so. For as any preschool teacher will tell you, sometimes sharing as a concept works better in theory than in practice.
For decades, broker groups such as the National Association of Professional Surplus Lines Offices, the Council of Insurance Agents & Brokers and the Excess Lines Association of New York have tried to figure out a legislative and regulatory formula that would relieve brokers of the annual headache of trying to divvy up premium taxes stemming from multistate risks to the varying states where the risk is located.
"Under the pre-NRRA system, there have been no uniform rules for allocation of surplus lines premium tax," said NAPSLO attorney Richard Brown. "Surplus lines brokers therefore have allocated such taxes on multistate risks based largely on professional judgment and industry convention."
Flying by the seat of one's pants without any real rulebook to go by is expensive and time consuming, reflected by one major broker's estimate before a hearing that it cost about $6 million to distribute about $30 million in taxes.
And while the reinsurance reform act may have seemed to be the final answer at first, those who have been around the track a while knew better.
"I don't think we ever thought this was going to be a snap, and there would have to be some sort of transition period when you make big changes in the law," said Nicole Allen, council senior vice president of strategic resources.
Those tax-sharing agreements suggested by the new law today exist in the form two competing interstate compacts: Surplus Lines Insurance Multistate Compact (SLIMPact) backed by the brokers, carriers and the National Conference of Insurance Legislators, and the Non Admitted Insurance Multistate Agreement (NIMA), backed by more states and the National Association of Insurance Commissioners.
The compact-making process, like its sausage counterpart, often turns messy. It will produce winners and losers with each state doing everything possible to end up in the former category, particularly in an age of disappearing revenues and budget cutbacks.
As for NIMA, Brown said the relative ease of exit for states in the agreement will create instability, and even a return to the pre-reinsurance reform act confusion.
"Once a participating state sees that it is sending premium tax revenues to other participating states, or that its clearinghouse allocation is less than the premium taxes it would have received from the home state, that state will terminate and the cycle will repeat itself until NIMA collapses," he said.
Dan Maher, executive director of the Excess Lines Association of New York, said states could ultimately collect more revenue through either the home-state formula or a fair tax-sharing agreement.
"But right now the bargaining has as much to do with who is going to make fees over running a clearinghouse, and whose software is going to be used, and who has authority over the clearing house, as it does with having to do with what is the right thing to do," he said.
Louisiana Commissioner James Donelon has emerged as the main NIMA champion among his commissioners, fearing as he does the loss of revenue from the taxes associated with the many oil patch businesses thriving in his state, but based in neighboring Texas.
As a long-time veteran of these fights he knows full well that the big states such as California, Texas and New York are often reluctant to take part out of general principle, or in this case, fearing a loss of revenue because of their concentration of companies domiciled in their states.
But he believes that the success of the 50-state and 10-Canadian province International Fuel Tax Agreement, which he believes NIMA is patterned after, bodes well for its ultimate success.
"IFTA happened because the federal government made it happen," said Maher, asserting that not only does NIMA not follow the IFTA model, it isn't really even a compact, but rather a multistate agreement with a murky governing structure. "NIMA is basically what the commissioners decide on any given day."
And while the top three states have yet to join the pact, Donelon remains optimistic that the mixed signals he hears from them will prevail in NIMA's favor. "As we add more states, and get closer to critical mass, it will become economically beneficial for them to join," he said.
With 15 states on board compared to its rival's nine, NIMA is much closer to operational status. Donelon sees the critical mass as about two dozen states.
And so just how much revenue is at stake here? There is no real definite answer for the simple reason it is virtually impossible to determine with any certainty what one state would get with a home-state regime versus a sharing structure, especially when there are two competing allocation formulas.
Donelon estimates that his state will lose about $25 million in multistate premium, but he does not know how much it would gain through a 100 percent home state taxation regime.
Brown said one legislative estimate put the average 50-state variance at $1 million dollars with even a state such as California, which theoretically would make out like a bandit with a home state formula, seeing a difference of just around $10 million. After all, there are an awful lot of Wal-Marts in the Golden State.
And what about the carriers themselves and their interests compared with the brokers and states? According to a September A.M. Best & Co. report, the surplus market suffered a 3.8 percent decrease in direct premium written in 2010, compared with the previous year.
The standard market ended 2010 virtually flat compared with 2009, and 2010 represents the third straight year the standard market outperformed the excess and surplus lines market.
A.M. Best senior financial analyst David Blades said the complications of the premium tax distribution system may have had a slight effect when it comes to intermediaries looking for coverage. "But I really don't think it is an overriding factor," he said.
That is especially true because he feels that whatever softening there is the surplus lines market has come from players in the lower end of the top-25 tier trying to grab market share with more competitive pricing, compared with the situation several years ago when the standard market was intent on grabbing share from the surplus lines market.
Pam Young, associate general counsel for the American Insurance Association, said carriers would like mainly to see one national standard for eligibility to operate in each state.
The Non-Admitted Reinsurance Reform Act calls for either the states to come up with some financial standards formula, or failing that, each state deferring to the insured's home state requirements. "We just want to see greater efficiency in the whole process," she said.
Carriers have gotten behind SLIMPact for the most part because it sets eligibility, exemption and licensing standards as opposed to NIMA, which remains silent on those issues.
As for the brokers, nirvana has arrived with the July 21 enforcement date in the sense that they now must write only one check to one state for each risk.
New challenges lurk in the distance when brokers may have to file new reports to the different clearinghouses detailing information they may not have even collected in the underwriting process, said Richard Bouhan, NAPSLO's outgoing executive director. This is particularly serious in the area of casualty risk, which is notoriously difficult to allocate to the states within any risk package.
And so, we now have in essence three camps: NIMA, SLIMPact and those going the 100-percent home state route.
Allen remains confident that the decades the brokers put into figuring out some formula for tax sharing that does not put the administrative burden solely on them will be worth it.
"I think we will get there eventually, and have some growing pains along the way," Allen said. "But we just can't keep going on with these three systems."
November 1, 2011
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