On April 25, 2011, the Rhode Island Superior Court (Silverstein, J.) ruled in favor of the constitutionality of the Voluntary Restructuring of Solvent Insurers Act (the “Restructuring Act”), a state statute enacted in 2002 that allows Rhode Island domestic commercial insurers and reinsurers (including those that redomesticate to Rhode Island) to enter into a commutation plan for their run-off business. Under such a plan, the insurer/reinsurer agrees to pay policyholders/cedents the estimated value of their claims as of a set date in exchange for extinguishing the right to make any future claims. The Restructuring Act is the first of its kind in the United States and is modeled after similar laws in the United Kingdom.

The case, entitled In Re: GTE Reinsurance Company Limited, involved a former Vermont captive reinsurer that redomiciled into Rhode Island and developed a commutation plan which garnered the support of a super-majority of its reinsureds (the “Commutation Plan”). Under the Commutation Plan, a lump-sum payment would be made to each reinsured rather than making claims payments as claims arise in the future. In exchange, the Rhode Island reinsurer filing the Commutation Plan would be released from any liabilities remaining under the contracts being commuted. The Rhode Island Department of Business Regulation (the “Rhode Island DBR”) closely reviewed and approved the Commutation Plan as being compliant with the Restructuring Act.

However, two cedents believed the Commutation Plan undervalued their claims and therefore substantially impacted their rights set forth in the underlying insurance treaties now in run-off. As a result, they filed a motion to challenge the Restructuring Act and the Commutation Plan as violations of their contract and due process rights under the United States Constitution and the Rhode Island Constitution. The court disagreed and found that (i) the actuarially based estimated payout of the insureds’ present and future claims did not substantially impair their contract rights; and (ii) even if they were substantially impaired, any such impairment would be justified by a legitimate public purpose achieved through reasonable and necessary means. With regard to the due process claim, the court was not convinced that the Restructuring Act and Commutation Plan were not rationally related to the legitimate legislative purpose of stimulating the Rhode Island economy by bringing more financial services employers to the state.

This decision upholding the statute by a Rhode Island court was not surprising. However, the question that remains open is whether courts in other states will follow the Rhode Island decision or refuse to recognize the validity of the Rhode Island court sanctioned involuntary commutation. If upheld in other states, this decision may open the way for insurers and reinsurers to discharge their run-off portfolios. This will give Rhode Island an early advantage in attracting such activity due to the first-of-its-kind status of the Restructuring Act and the Rhode Island DBR's experience with reviewing and regulating commutation plans.

For a complete copy of the Decision, please click here.