Unique – risks that have unique characteristics that make them difficult for admitted carriers to insure because no policy form is available to meet their needs, or there is no rate development in the admitted market, such as with cloud-based computing development, autonomous vehicles or robotic risks.

High Capacity – risks that require higher limits of insurance than are available through the admitted insurer, or that exceed the underwriting criteria of the insurer. Such risks might include large sports arenas, airports, super drones, hydroelectric facilities, etc.

New – risks that are newly developed products, processes or services, such as new innovations into products using artificial intelligence, new autonomous processes, or new services offered by existing risks, such as including drones or robots in their business operations.

Emerging – risks that are new or just emerging into the insurance marketplace that require special expertise and the ability to adapt to changing insurance needs, such as drones, autonomous vehicles, 3D printing and cyber liability.

SURPLUS LINES PRODUCTS

In the U.S., the surplus lines market is comprised largely of property and casualty based companies that are willing to provide excess and surplus lines coverage that is generally not available or affordable in the admitted market. The benefits of the surplus lines market to the industry beyond covering these risks, are that they open up additional capacity, they can develop premiums without much if any historical data, they can offer rates specific to the risk, they can provide customers with unique or tailored coverages beyond the standard forms, and they can respond quickly to risk and market fluctuations and new, emerging risks.

SURPLUS LINES MARKET

The surplus lines market has been traditionally strong, and the operating performance of the market has outperformed the overall property and casualty industry in all but one of the last 10+ years. In 2012 surplus lines insurers posted one of their worst years, when losses from Hurricane Sandy reached near $25 billion.

The insurance market cycles affect the performance of the surplus lines market in the same manner as they do the traditional market:

Soft market – this is characterized by lower rates, relaxed underwriting position and high underwriting losses;

Hard market – this is characterized by higher rates, more restrictive underwriting position and profitable underwriting gains.

Factors that drive the market cycle include changes in interest rates, occurrences of catastrophic losses, non-catastrophic loss trends, changes in policyholder surplus and availability of coverage in the admitted market. The loss and loss adjustment reserves to the policyholder’s surplus ratio is the policyholder’s surplus. It is the ratio of the insurer reserves that are set aside for unpaid losses and the cost of investigation and adjusting for losses to its assets after accounting for liabilities.

In June, 2017, NAPSLO and the AAMGA developed a white paper, “The Excess and Surplus Lines Stamping Office: Contributing to a Stable, Efficient and Financially Strong Non-Admitted Marketplace,” which examines the importance of stamping offices to the wholesale marketplace. Highlights from this report include:

• Total surplus lines premium reported to the stamping offices was $14.3 billion through the first six months of 2017, representing a 6.6% increase over the $13.4 billion through the first six months of 2016.
• Approximately 2.1 million filings were made with the stamping offices during the first half of 2017, up 10.96% from 2016.

The results from the TX stamping office posted July 18, 2017 show that U.S. surplus lines premiums are surging nationwide, based on information retrieved directly from the 15 managing service offices across the U.S. region. To date, the TX stamping office has recorded $2.2 billion in surplus lines premium for the first five months of 2017, up from $2 billion for the same period in 2016. These snapshot results show steady, strong growth for 2017, despite a continued soft market.

The increased demand for cyber liability insurance is one of the demonstrators of the need for surplus lines insurance. Nationally, cyber premiums for the U.S. P&C industry grew by 35% in 2016, to $1.35 billion, based on Fitch Ratings. Surplus lines insurers have and continue to evolve to meet the needs of consumers, and the industry is in position for continued growth as it moves forward into the future.

SURPLUS LINES REGULATION

Surplus lines is considered to be de-regulated by most states. This means that the insurers are relatively free from state insurance regulation that is required by the admitted market.  However, this does not mean that surplus lines insurers do not have to meet any regulation requirements. What is does mean is that the carrier is a ‘free agent’, meaning that they are free from form and rate requirements and thus able to respond to changing market and coverage needs of eligible insureds.

The regulation and licensing of the surplus lines brokers is done through the office of the insurance commissioner of the state, and each state has their own specific regulations and requirements that must be met. Some of the regulations extend to required state fees, and may also include specific stamping requirements that may need to be shown on the policy.

Each state maintains a list of eligible surplus lines carriers that can write surplus lines insurance in that state, and it is in the best interest of the insured to be able to confirm that the insurer is an eligible, unadmitted carrier. To meet this need, some states have established stamping offices. The stamping office evaluates the eligibility of surplus lines companies, offers assistance to purchasers and generally provides information to the public about the surplus lines market. They also assist the surplus lines brokers in complying with the local stamping requirements. Today, roughly 80% of all surplus lines transactions are processed by stamping offices.

PURCHASE OF SURPLUS LINES COVERAGE

Surplus lines coverage may be purchased through an agent licensed to sell surplus lines insurance (an intermediary licensed by the state). The intermediary agent must then approach a surplus lines broker who is also licensed by the state. The collaborating intermediary may be a wholesale agent, Lloyd’s of London broker, managing general agent, sub-agent, program manager or managing general underwriter. While some surplus lines business is placed through retailers and national brokers who deal directly with insureds, the majority is placed through wholesalers who are uniquely qualified in the particular lines of business.  Wholesalers and retailers should both be able to expect that the other is properly licensed, carries professional errors and omissions (E&O) coverage and will pay their respective obligations promptly.

A retail agent has the right to expect the wholesaler to use financially sound carriers with quality claims departments or third party administrators.  The wholesaler should also be knowledgeable about the insurance company’s products, including being able to explain unusual forms and coverage restrictions.

Quotes should be in writing and unique forms attached for the retailer to read and explain to the insured. For example, terms such as “minimum and deposit” and “minimum earned” are traditionally used in the surplus lines market but not generally in the admitted market.

The wholesaler should also be expected to make suggestions which may make a declined risk acceptable. The ability to tailor a policy by using specific endorsements or isolating a portion of the risk for coverage (carve outs) are advantages sometimes used by surplus lines carriers.

The retail agent is expected to provide complete information on a risk, including full disclosure on losses and any other items which might cause a problem for underwriters.  A full disclosure will ensure the risk is underwritten and priced properly.  Knowing the risk’s price expectations and required coverages helps the wholesaler determine which market to use.

This intermediary process can sometimes involve contacting several brokers until the right insurer is found for the risk. Because of this process, it is to the insured’s benefit that the agent provide adequate time for the wholesaler to obtain quotes through the surplus lines market to ensure best possible coverage and rate for the risk.

The surplus lines purchase is finalized through use of the licensed broker who receives quotes from the insurer, and finalizes the policy transaction and submits payment of the premium to the insurer, including the addition of surplus lines taxes or fees required by the state.