On March 16, 2011, a Rhode Island Superior Court heard arguments on whether Rhode Island's solvent restructuring statute violates the Contracts Clause of the U.S. Constitution. The case stems from a global commutation plan developed pursuant to this statute by GTE Reinsurance Company Limited in order to settle all of its obligations under various property and casualty risks reinsured by GTE Re decades ago. Critics contend that the Rhode Island law enables policies and contracts to be modified without policyholder consent in violation of the U.S. Constitution.
Enacted in 2002, Rhode Island's solvent restructuring statute created a first of its kind, expedited process for solvent insurers to enter a solvent arrangement in the U.S. See Voluntary Restructuring of Solvent Insurers, R.I. Gen. Laws § 27-14.5-1 et seq. More commonly used in the United Kingdom, a solvent arrangement1 is a legally binding compromise between the insurer and its policyholders and creditors to pay the insurer's obligations via a global settlement as opposed to paying those obligations as they arise over the course of the runoff. This article, the first in a three-part series, will provide an introduction to solvent arrangements and Rhode Island's solvent restructuring law.
Insurance runoff in the United States is a large and growing industry. In 2006, PriceWaterhouseCoopers estimated that the runoff market in the United States alone had an estimated $150 billion to $200 billion in reserves. Solvent arrangements are designed to significantly expedite the runoff process by settling all claims between the insurer and its policyholders pursuant to a global settlement. This often includes claims of undetermined, or disputed, value as well as claims that may not yet be known by the policyholder.
From the policyholder's perspective, one might argue that a solvent arrangement guarantees payment on its claims, which could be a significant benefit if there is uncertainty regarding the long-term solvency of the insurer and its ability to pay future claims. At the same time, a solvent arrangement might be viewed by others as detrimental to some policyholders who believe they lose the benefit of the insurance protection they had purchased. This might be especially the case if a policyholder believes that it may have significant future claims that are not fully developed or known at the time of settlement.
From the insurer's perspective, solvent arrangements could significantly reduce the long-term administrative expenses associated with runoff, which could result in more money being available for the payment of claims. A solvent run-off may also offer finality to all claims covered by the arrangement. Such finality might be achieved at a cost that is lower than other alternatives to runoff, such as selling or reinsuring the block of business or seeking to individually buy back policies or commute obligations.
U.K.Schemes of Arrangement
Schemes of arrangement have become fairly commonplace in the United Kingdom. The enabling legislation for these schemes was first contained in Section 425 of the Companies Act of 1985, which was subsequently amended in full by Section 895 of the Companies Act of 2006. Under this law, schemes of arrangement are available to solvent and insolvent companies, insurance and non-insurance companies, and U.K. and non-U.K. companies with a substantial connection to the United Kingdom. Schemes of arrangement first emerged in insolvency proceedings as a means to avoid paying substantial levies to the U.K. Department of Trade and Industry that were triggered under a traditional liquidation proceeding. Schemes of arrangement were later used by solvent insurers to access excess capital that would not be available in a traditional runoff. PriceWaterhouseCoopers reports that more than 60 companies have used solvent schemes of arrangement as of November 2010.
Rhode Island's Solvent Restructuring Law
Modeled after the U.K. legislation and responding to a lack of alternatives to run-off, the Rhode Island Legislature passed a voluntary solvent restructuring statute in 2002. To be eligible under the statute, an insurer must meet certain requirements. First, the insurer must be domiciled in Rhode Island. GTE Re, for example, re-domesticated from New Hampshire to Rhode Island to meet this requirement. Through its favorable Port of Entry statute, Rhode Island also enables foreign insurers to re-domesticate so long as the insurer becomes subject to the jurisdiction and regulation of Rhode Island. Second, the insurer may have only “commercial” business on its books. This means, for example, that an insurer that has reserves attributable to life, workers' compensation, or personal lines insurance would not be eligible to pursue a solvent arrangement. Third, the insurer must be solvent. Fourth, the entire insurer (and not just a block of its business) must enter the solvent arrangement and be bound by the commutation plan.
At year-end 2009, the Rhode Island Department of Business Regulation (Department) issued Regulation 68, which set forth certain procedural requirements for insurers to effectuate a solvent arrangement. Following are some of the details of the Rhode Island law.
- Departmental approval of commutation plan. As an initial step, the insurer must allow the Department to comment upon the proposed commutation plan and resolve any comments that the Department has to the Department's satisfaction. The insurer also is required to pay the Department a $125,000 fee.
- Filing of plan with court. Upon receiving Department approval, the insurer must file its proposed commutation plan with the Rhode Island Superior Court of Providence County. GTE Re started the process by filing a Petition for Implementation of Commutation Plan in the Providence County Superior Court. On July 21, 2010, the Superior Court granted GTE Re's motion for a meeting of the creditors to vote on the commutation plan.
- Notice and provision of information. With the Superior Court's approval, the insurer must then provide notice of the plan to affected parties. It is not necessary that each policyholder actually receive notice. Instead, notice must be provided to all insurance agents and/or producers of the insurer and all persons known or reasonably expected to have claims against the insurer, including all policyholders, at their last known address in the insurer's records. In addition, notice must be printed in a newspaper of general circulation. The notice has to provide policyholders, creditors, reinsurers, and guaranty associations access to the same information relating to the proposed plan.
- Vote. To become effective, the commutation plan must be approved by more than 50 percent by number and 75 percent by value of creditors voting, in person or by proxy, at the meeting. GTE Re had representation of 79 percent of GTE Re's Composite Reserve vote at its creditors' meeting. More than 87 percent by number and 97 percent by value of those voting approved of its commutation plan.
- Court confirmation. The court must provide an order to implement the commutation plan if the required vote was achieved and it determines the commutation plan would not materially adversely affect either the interests of objecting creditors or policyholders. In determining whether the interests are not materially adversely affected, the court may consider the objections of creditors.
Status of the GTE Re Plan
Certain creditors of GTE Re have filed objections to the commutation plan premised on a violation of the Contracts Clause of the U.S. Constitution, which provides that no state shall pass a law impairing the obligation of contracts. The basis for the creditors' argument is that their insurance contracts will be substantially modified, without their consent, as a result of the state law. The Rhode Island Attorney General submitted a brief in the GTE Re hearing arguing that the law was constitutional. Separately, on January 11, 2011, a creditor objected to the commutation plan stating that its reserve methodology does not adequately address its latent exposures.
The Superior Court split the confirmation of the vote and the implementation of the commutation plan into separate issues. On January 13, 2011, the Superior Court granted the motion to confirm the vote of the meeting of creditors. The Court will next take up the objections to the plan itself. It is unknown whether the Superior Court will approve the implementation of the plan, which will allow payments to the creditors and provide a release of the insurer by all parties upon the completion of the commutation plan. A discussion of the disposition of the hearing and an analysis of the principal arguments made by both parties in briefs will be discussed in the next edition of our newsletter.