THE TEXAS DEPARTMENT OF INSURANCE: WHERE IT CAME … · 2013-10-17 · the Philadelphia...

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THE TEXAS DEPARTMENT OF INSURANCE:

WHERE IT CAME FROM, WHERE IT’S HEADED

BRUCE MCCANDLESS III, Austin

Mitchell, Williams, Selig, Gates & Woodyard

PATRICIA FULLER MCCANDLESS, Austin

Greenberg Traurig

State Bar of Texas

9th

ANNUAL

ADVANCED INSURANCE LAW COURSE

April 12-13, 2012

Dallas

CHAPTER 5

ArkansasTexasNew York Washington, D.C.MitchellWilliamsLaw.com

Mitchell, Williams, Selig, Gates & Woodyard, P.L.L.C.

106 East Sixth St., Suite 300 | Austin, TX 78701 | 512-480-5100

BRUCE MCCANDLESS III

512-480-5128512-322-0301 (fax)[email protected]

EducationB.A., Plan II, University of Texas at Austin, with high honors, 1983 M.A., University of Reading, Reading, UK, 1984J.D., University of Texas at Austin, 1989Admitted to practice in Texas , 1995Admitted to practice in New York, 1990Admitted to practice in District of Columbia, 1992Admitted to practice in U.S. District Court, Western District of Texas, 2001

Practice AreaInsurance corporate and regulatory law, administrative law and governmental relations, contract negotiation, drafting, anddisputes.

Professional ExperienceBruce McCandless III is a former Assistant Attorney General for the State of Texas and Enforcement Attorney for the Texas Department of Insurance. Mr. McCandless specializes in insurance regulatory matters and in representing insurers,agents, and lenders in insurance-related disputes before the Texas Department of Insurance and in the state and federalcourts of Texas; he has also prepared and fi led amicus briefs on insurance-related matters before the Texas Supreme Court.In addition, Mr. McCandless has handled insurer acquisitions, withdrawals and licensing matters, and recently obtained regulatory approval of a transaction involving merger of a non-insurance related entity into an affi liated life insurancecompany.

PublicationsAuthor, “A Brief History of the Texas Department of Insurance,” Journal of Texas Insurance Law, Vol. 3, Nos. 1 and 2 (Spring2002 and Fall 2002); “Reforming the Texas Windstorm Insurance Association: The Politics and Policy of Catastrophe RiskSharing,” FORC Quarterly Journal of Insurance Law and Regulation (Vol. 19, Ed. 2), Summer 2008; “Picking Up After HighTide: Thoughts on Title Agent Insolvencies in Texas,” August 2010, Mitchell Williams insurance regulatory blog.

Other ActivitiesAustin Bar Association; State Bar of Texas, Litigation Section Member; President, Zilker Theatre Productions (2007-2008).

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TABLE OF CONTENTS

I. INTRODUCTION .............................................................................................................. 1

II. A HISTORY OF TDI ......................................................................................................... 1

A. The Origins of Insurance Regulation in the U.S. ........................................................ 1

B. Early Regulation in Texas (1874-1888). ..................................................................... 2

C. The Populist Influence (1888-1905) ............................................................................ 4

D. The Quest for Control (1905-1944). ............................................................................ 7

E. The Bad Old Days (1945-1972). ............................................................................... 11

F. Consumer Protection as Guiding Principle (1973-1997) .......................................... 15

G. ―The Best Financial Services Agency in the World‖ (1997-present). ...................... 19

III. TDI TODAY ..................................................................................................................... 19

A. The New Commissioner. ........................................................................................... 19

B. Inter-Agency Organizational Chart. .......................................................................... 20

C. TDI Organizational Chart. ......................................................................................... 20

D. Where the Laws Come From. .................................................................................... 20

E. Sources of Texas Insurance Regulation .................................................................... 21

IV. THE TDI OF TOMORROW .......................................................................................... 23

A. Increasing Federal Participation in Health Insurance Regulation. ............................ 23

B. Federal Insurance Office. .......................................................................................... 25

C. Increasing Interstate Collaboration in Financial Regulation: Solvency II and

the New Model Holding Company System Act. ........................................................25

V. CONCLUSION ................................................................................................................. 27

The Texas Department of Insurance: Where It Came From, Where It’s Headed Chapter 5

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I. INTRODUCTION

This paper presents an overview of the Texas

Department of Insurance (―TDI‖). In addition to

sketching the development and present functions of

the agency, the paper addresses TDI‘s immediate

future. Will the agency‘s power and influence wane in

the face of federal regulation of the health insurance

market? How is TDI preparing for implementation of

the Affordable Care Act? And what other factors are

influencing TDI and its mission?

II. A HISTORY OF TDI1

TDI started as an administrative cubbyhole, staffed

by one commissioner and a single overworked, all-

purpose clerk. It is currently run by one commissioner

and a staff of over fifteen hundred men, women and

animals, including actuaries, accountants, attorneys,

peace officers, and arson investigators (some of whom

use dogs to sniff out chemical fire accelerants). This

staff oversees every automobile, homeowners, title, life

and health insurance transaction in Texas. It approves

insurance policy forms and many of the rates insureds

are charged for coverage. It oversees the state‘s workers

compensation system and the State Fire Marshal‘s

Office, investigates violations of Texas‘s insurance laws

and keeps tabs on the financial health of every stock

insurance company, Lloyds plan, reciprocal exchange,

county mutual, and benevolent association licensed to

do the business of insurance in the state. With a

biennial budget of over $200 million, TDI is one of

the largest insurance regulatory agencies in the United

States.

A. The Origins of Insurance Regulation in the

U.S. The origins of insurance as we know it today—

simply put, the consensual transfer of risk for monetary

consideration—can be found in several different times

and places. In his book Against the Gods: The

Remarkable Story of Risk, Peter Bernstein paints a

fascinating picture of the evolution of actuarial

science, the basis of modern underwriting. In the 17th

Century, an English button merchant named John

Graunt set out to calculate the death rates of his fellow

citizens. His study, Natural and Political Observations

1 These remarks are an updated version of a paper titled

―You Can Take That, or Worse: A Brief History of the

Texas Department of Insurance,‖ by Bruce McCandless III,

published in two parts in the Spring 2002 and Winter 2003

issues of the Journal of Texas Insurance Law.

Made Upon the Bills of Mortality, contained

information on deaths in London from 1604 to 1661.

Working with data kept by parishes of the Church of

England, Graunt analyzed who was dying, how often,

and from what causes—including plague, syphilis,

rupture, worms, and "griping in the guts.‖ Graunt's

work may in turn have inspired the astronomer

Edmund Halley's detailed analysis of population data

kept by officials in the German city of Breslaw. Using

the Breslaw information, Halley was able to compile,

in 1693, the first modern table of life expectancies.

From this he delved deeper into a detailed

mathematical analysis of annuities, including annuities

covering two and three lives as well as one. While

Halley‘s work was for him a sort of intellectual

recreation—Halley was instrumental in publishing Sir

Isaac Newton‘s monumental Principia Mathematica,

and did some work on comets, as well—it provided

the scientific foundation for a huge, and still-growing,

industry.2

In the United States, the insurance industry took

root in the country's northeastern metropolitan areas.

The ubiquitous Benjamin Franklin, the Tony Stark of

his day, was an innovator in the field. He established

America‘s first incorporated fire insurance company,

the Philadelphia Contributorship for the Insurance of

Houses from Loss by Fire, in 1752. These early

insurance companies were generally formed through

legislative charters. It wasn't until 1849 that New York

passed the first general insurance law, which is

commonly thought to mark the beginning of systematic

state regulation. New York laws forbade companies

from engaging in multiple lines of insurance. Thus, a

life insurance company could not sell fire insurance, and

vice versa—a prohibition that was to be incorporated in

Texas's first regulatory statutes twenty-five years later.

Indeed, the distinction survives even today.

In 1868, the United States Supreme Court‘s

decision in Paul v. Virginia established that states,

rather than the federal government, had the right to

regulate insurance. Paul was an agent of a New York

insurance company who was fined by the

Commonwealth of Virginia for selling insurance there

without a license. In his appeal, Paul argued that the sale

of insurance was interstate commerce and thus subject

2 Anyone interested in a discussion of the antecedents to

insurance as we know it should read Chapter Five of

Bernstein‘s Against the Gods: The Remarkable Story of

Risk, John Wiley & Sons, Inc. (New York 1998).

1


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to the regulatory jurisdiction of the federal government

under the commerce clause of the Constitution. The

case went all the way to the United States Supreme

Court, which ruled that the sale of insurance policies

was not interstate commerce and that states were

entitled to regulate insurers and agents operating within

their boundaries.3

B. Early Regulation in Texas (1874-1888). Several years after insurance regulation was a going

concern elsewhere in the country, Texas still had not

enacted legislation on the subject. This inaction was the

result of several causes. First, Texas suffered during

these years through the considerable distractions of

secession, the Civil War, and Reconstruction. Business

matters languished as northerners and southerners,

Republicans and Democrats, struggled for control of the

sprawling state. Texans fought Comanches well into the

1870s and Apaches for many years afterward. As late as

1916, violent border battles with Mexican nationals

erupted. In short, there were more important things to

worry about.

Second, there was relatively little insurance sold in

Texas before 1875. This was at least in part because few

people in the predominantly agrarian state had either the

money or the motivation to buy it. Granted, Texans

have always needed insurance. The state consistently

leads the nation in weather-related fatalities.4 The

region is plagued by hurricanes, floods, heat, hail, and

tornadoes. And that‘s just during the summer. Come

winter, blue northers sweep down off the plains, burying

the northern regions of the state in snow and ice. Still,

insurance has always been a product for the prosperous.

Many Texans in this era had little to protect, and thus

little incentive to buy financial protection.

3 Paul v. Virginia, 75 U.S. 168 (1868). Policies purchased

by Virginians, wrote Justice Field for the majority, ―do not

take effect—are not executed contracts—until delivered by

the agent in Virginia. They are, then, local transactions,

and are governed by the local law.‖

4 The state‘s destructive weather events are cited by industry

representatives to explain why Texans pay some of the

highest homeowner‘s insurance rates in the nation. See, for

example, Terrence Stutz, ―Texans Pay Most to Insure

Homes,‖ Austin American-Statesman, June 25, 2000, p. B1.

Finally, the state was only semi-settled. As

mentioned above, the American insurance industry

started in urban areas. In 1870, Texas had just two

cities, Galveston and San Antonio, with a population of

over ten thousand. Only six percent of the state‘s

population of roughly eight hundred thousand people

lived in towns with a population of over two thousand.5

The state‘s lack of regulation allowed various evils

to flourish. While commercial consumers—generally

merchants, in port cities like Galveston, Indianola, and

Beaumont—bought coverage at their own risk, they had

at least some contractual sophistication. They could

bargain at arm‘s length. Other citizens were less

fortunate. As Commissioner of Life Insurance George

B. Butler once put it, ―during this pre-regulated era in

the history of insurance law in Texas, and for several

years afterward, many various and sundry schemes of

insurance were prevalent...in the operation of which,

wholly irresponsible individuals used every technical

device and at times resorted to trickery and fraud to

defeat and keep from paying their bona fide claims and

losses.‖6

Since there was no insurance regulation taking

place, it is difficult to know precisely what the major

regulatory issues posed by the insurance industry in

Texas were before 1874. There were probably two.

First, Texas was missing out on a significant source of

revenue due to its failure to collect taxes and fees from

insurance companies doing business in the state.

Second, the state generally lacked control over and even

information about the industry, which led to consumers

being damaged by insurer fraud, insolvency, and willful

failure to pay claims.

In 1874, the 14th Legislature enacted the state's first

insurance law, ―An Act to Regulate Life and Health

Insurance Companies.‖ The new law required

companies doing insurance business in the state to

register with the state‘s Comptroller and to make

certain financial disclosures. It also specified that

marine, fire, and casualty companies could not do

5 Carl H. Moneyhon, ―Reconstruction,‖ The Handbook of

Texas Online (Austin: The University of Texas 2000).

6 George B. Butler, ―History and Development of Insurance

Law in Texas,‖ revised by William J. R. King, published in

14 Tex. Civ. Stat.-1: West Publishing Company,

Washington, D.C. 1979).


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business in life insurance and that companies that

failed to pay losses on a policy were subject to

forfeiture of their right to do business within the state.

The Legislature followed up in 1875 with a more

comprehensive statute governing fire and marine

insurance companies. These laws were initially enforced

by the Comptroller of Public Accounts. In 1876,

however, the newly-enacted Constitution of Texas—the

same decentralizing, much-criticized constitution in use

today—authorized creation of a ―Department of

Insurance, Statistics, and History‖ to regulate the state‘s

free-range insurers. The Legislature established the

agency later that same year.

The Department‘s first commissioner was Valentine

Overton King, a former physician, Confederate medical

officer, school superintendent, and lawyer from New

Orleans. It was fitting that the first commissioner was a

man of diverse talents. As indicated by the agency‘s

title, the Department's executive officer had numerous

responsibilities. Under the heading of Statistics, the

Commissioner was charged with gathering agricultural

data from every county in Texas. Once gathered, the

information was to be disseminated throughout the

nation and abroad to publicize the Lone Star state's

resources—chiefly, millions of acres of semi-arid but

highly affordable land, retained by the state upon its

entry into the Union in 1845—as a magnet for both

investment and immigration. In their duties as

commissioners of History, King and his successors were

charged with collecting material related to the state's

origin and development. The Commissioner also served

as Superintendent of Public Grounds, responsible for

overseeing and maintaining the state‘s properties in

Austin, including the Capitol building and the new state

cemetery. Finally, and almost as an afterthought, he was

put in charge of the state library. In 1885, the 20th

Legislature conferred substantial additional duties on the

agency, which had become a sort of governmental sock

drawer. It was renamed the ―Department of Agriculture,

Insurance, Statistics and History.‖ The Commissioner

was now expected to ―keep in constant communication

with the Department of Agriculture of the United States,

distribute annually seeds and plants solicited from that

office and transmit back all results of agricultural

experiments and such other information as may be

accessible.‖

In addition to all these tasks, the Commissioner was

charged with identifying, registering, and collecting

taxes from all insurance companies doing business in

the State of Texas. With the assistance of his staff of

one, a clerk named Paul McCombs, Commissioner King

set about these tasks with his customary diligence. In

1879, King reported that forty-two fire and marine

insurance companies were registered to do business in

the state, of which three were Texas corporations, and

that seven life and health companies, all from out of

state, were legally selling insurance in Texas. That year

the Commissioner and his clerk collected a total of

$12,176.90 in state fees and taxes. Since the

Department‘s budget was a little over two thousand

dollars, the agency was clearly a money-maker for the

cash-strapped state.

The Commissioner of Insurance, Statistics, and

History had little disciplinary power in this era other

than his ability to impair the license of a registered

insurer or agent. But this was a significant threat. "The

power invested in this office to suspend or vacate...the

license of a company," noted one early Commissioner,

"may oftentimes have greater terrors to an insurance

corporation, to which public confidence may be truly

said to be the breath of life, than the judgment of a

court."7 To their credit, these early officials were

generally willing to use this power—oftentimes after

conducting the necessary fact-finding themselves. They

were also possessed of formidable rhetorical skills.

Wrote Commissioner Lafayette Lumpkin Foster in his

official report of 1888:

I revoked the authority of the Insurance

Company of Dakota, July 18th, on account of

the insolvent condition of the company, which

was ascertained by me upon a personal

examination of its affairs... The statement of its

condition December 31st, 1887, upon which it

was authorized to continue business, was a

unique piece of perjury, and the subsequent

management of its affairs illustrative of a

species of financial jugglery rarely, if ever,

equaled. The company is in a hopeless

condition, being without either assets or

honor.8

7 Id., p. 8.

8 L. L. Foster, ―Report of the Commissioner of Agriculture,

Insurance, Statistics, and History for the Year 1887,‖

December 31, 1888, p. 4.


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But getting the insurance companies operating in

Texas to submit to state regulation in the first place

proved to be a difficult proposition. As Commissioner

King's successor, A. W. Spaight, put it in 1881, "Illicit

insurance, like illicit distilling and smuggling—kindred

offenses against the revenue laws—has ever been

difficult to detect, and for that reason next to impossible

to wholly suppress."9

C. The Populist Influence (1888-1905) In

dealing with unlicensed insurers, known in those days

as "wildcat" companies, the Commissioner was obliged

to call on the office of the Attorney General of Texas.

Attorney General and soon-to-be Governor James

Stephen Hogg was happy to oblige. The state‘s first

nationally prominent demagogue, Hogg was an

imposing physical specimen (over six feet tall and

weighing some 250 pounds), a gifted orator and rabble-

rouser with keen political instincts. Leader of the state‘s

well-entrenched Democratic party, he played on popular

passions without ever wholly succumbing to them. As

historian T. R. Fehrenbach notes in Lone Star, Hogg

was a born populist, capable of rousing his fellow

Texans to a fever pitch against Yankee capitalists and

financiers.

Brilliantly intuitive, he chose the 'soulless

corporation' as the burning issue of his day. As

Attorney General of Texas, he declared war on

big business, wherever it might be found. He

became the center of attention and won a

million farmers' hearts. In office, Hogg struck

first against insurance companies and drove

some forty from the state… On the stump, he

could hold a crowd of Texas farmers for hours,

blasting railroads, bloated capitalists,

insurance companies, gold.10

Hogg was never a Populist in the formal sense—i.e.,

a member of the farmer-dominated Populist Party that

challenged the Democrats from the left in the 1890s.

However, he incorporated enough Populist ideas—

9 A. W. Spaight, ―Report of the Commissioner of Insurance,

Statistics, and History for the Year 1881,‖ March 31, 1882, p.

13.

10

Lone Star, pp. 619-620.

regulation of the railroads, for example—in his own

platform that he was able to ride the whirlwind of

popular discontent that welled up in Texas rural

communities in the last decades of the 19th Century. In

those days, cash-poor farmers agitated against big

business of all types, including the railroads, banking,

and insurance, because it was seen to be a tool of Eastern

financial domination. It was felt that such domination

kept Western agriculturalists from receiving the cheap

credit they needed to keep their farms afloat on seas of

dust. Because the overwhelming majority of insurance

companies operating in Texas were from out of state,

they were prime targets for harassment and rhetorical

ambush.

Though Populism as a viable political platform had

died by 1900, many of its sentiments (opposition to the

gold standard, for example) made their way into the

mainstream of the state‘s Democratic party and,

eventually, into the national political debate.11

One of

the most lasting of these sentiments was an abiding

dislike of ―combinations,‖ or ―trusts,‖ of businesses in a

particular industry, which were seen as vehicles for the

companies to control prices and supplies of products. A

dramatic demonstration of the way such sentiments

could be directed at insurance companies occurred in

1899. Legislators in Arkansas enacted a bill to combat

trusts that forbade the presence in the state of any

―combination‖ seeking to control the price of a

commodity or service. Despite its broad language,

which could also have been interpreted to outlaw the

activities of labor unions, the bill was aimed quite

deliberately at insurance companies. The state‘s attorney

general promptly filed one hundred and twenty-six

lawsuits against fire insurance companies doing

business in the state that had connections with

associations, exchanges, or rating bureaus, whether such

associations or bureaus were located in Arkansas or not.

Most, if not all, fire insurance companies operating in

Arkansas suspended their operations.

11

The idea that poor but virtuous farmers needed protection

from the predatory practices of Wall Street‘s plutocrats and

money-changers remained potent for at least the next fifty

years. And not just in Texas. Indeed, Harry S. Truman won

the 1948 U.S. Presidential election in large part by playing on

traditional small-town distrust of big business in terms not so

different from those used by Jim Hogg seventy years earlier.


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Sensing a crowd-pleaser, politicians in Texas

promptly introduced essentially identical legislation in

Austin. Thus began a political fire storm of a sort that

was to be repeated many times over the course of the

next century. Insurance men boarded trains for the

Capitol, sputtering that enactment of the law would

drive insurance companies, and capital, out of the state.

In the words of one contemporary account, ―everybody

was here,‖ and ―an outsider had naught to complain of

in having a free circus arranged for his especial benefit.

There were hundreds of men in and out of the

legislature to whom this matter was no laughing one,

however.‖12

The Arkansas Senate sent a telegram to

legislators in Texas, urging them to ―stand by your guns.

Pass your anti-trust bill, the corporations will complain,

but the people will rejoice.‖

Fire Insurance

During these years, the insurance industry in Texas

was dominated by the fire insurance companies. It may

be difficult for us to comprehend 19th Century

America's fear of fire. Fires still kill people and animals

and damage property, but the destruction they cause

today is minor compared to the results of the

conflagrations that took place in the United States in the

fifty years following the Civil War. The largest of these

was the Chicago Fire, in October of 1871. At least three

hundred people died in the disaster. Another ninety

thousand were left homeless. Frederick Law Olmsted,

who wrote a famous and not-altogether flattering

account of his travels through Texas in the 1840s, and

later won fame as one of the principal designers of New

York City's Central Park, visited Chicago shortly after

the Fire. He estimated that "the houses burned, set ten

feet apart, would form a row over one hundred miles in

length" (emphasis added).13

Though not as destructive, there were similar large

fires in Baltimore and Boston in these years, as well as a

vicious blaze that gutted parts of Galveston.

Conflagrations hit small towns in Texas as well, literally

wiping such communities as Elmina, Newtown, and

Olive off the map. Much of the damage caused by the

12

―The 26th

Legislature,‖ Austin Daily Statesman, April 19,

1899, Page 2a.

13

Frederick Law Olmsted, ―Chicago in Distress,‖ Nation,

November 9, 1871.

apocalyptic 1906 earthquake in San Francisco was in

fact a result of fires that started in the wake of the

tremors. The results were appalling. ―The total value of

the property destroyed,‖ wrote a stunned Texas

Commissioner of Insurance William J. Clay of the San

Francisco disaster, ―is estimated at more than

$300,000,000, and the loss to fire insurance companies

exceeded $225,000,000. This amount, it will be seen, is

nearly double the total surplus of all fire insurance

companies reporting to this Department. In all the

history of fire insurance no condition approximating this

one has arisen. It is estimated that the loss was sufficient

to exhaust the surplus earnings for the last thirty-six

years of every company doing business in the United

States.‖14

As if to underscore the desirability of insurance, a

fire in the autumn of 1881 destroyed the state capitol in

Austin. At the time, the state's agencies shared the

building with the governor and both houses of the

legislature. When fire broke out in the building just after

noon on November 9th, devoted agency officers and

clerks, including Commissioner of Insurance, Statistics,

and History A. W. Spaight, dashed in and out of the

burning building to save official records.

Texas‘s oldest insurance companies started in the

1880s and ‗90s as mutual aid associations, intended to

enable their members, mostly farmers, to safeguard their

property against fire and weather-related risks. For

example, Brenham‘s Germania Farm Mutual Insurance

Association can trace its roots back to the formation of

the Germania Mutual Aid Association by thirty-one

farmers in Perry, Texas in 1896. For years, disaster

relief from such associations was as likely to come in

the form of neighbors arriving with hammers and saws

as it was in the form of a check.

Life Insurance

Life insurance became popular in the latter half of

the 19th Century. Its virtues were touted by scores of

new companies and agents, who competed aggressively

for business. They had in their favor a potent marketing

pitch—the notion that here, finally, was a way the

working man could provide for his loved ones in the

14

William J. Clay, ―Report of the Commissioner of

Agriculture, Insurance, Statistics, and History for the Year

1906,‖ October 15, 1906, pp. 6-7.


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event of his sudden death, which in those days, before

the advent of Social Security, workers‘ compensation,

and 401(K) plans, was often a more devastating

financial occurrence for surviving family members than

it is today. The insurance companies were not shy about

invoking such concerns, or about praising themselves

for addressing them. They painted their business as a

sort of sacred trust, and themselves as bow-tied cherubs.

These were characterizations that would come back to

haunt them when financial scandals rocked the industry

in the early Twentieth Century.15

The so-called ―old line‖ legal reserve life

companies of the northeast were best-positioned to take

advantage of life insurance‘s new popularity. In Texas,

however, these companies were viewed with

considerable skepticism. Waco journalist W. C. Brann,

publisher of the Waco-based The Iconoclast, used his

position as editor as the largest-selling magazine of the

day to blast legal reserve life insurance as ―the most

colossal scheme of predacity known to human history,‖

and opined that ―the government should suppress these

eminently respectable gambling games. They have

caused more sorrow, destitution and crime than all the

cards and dice this side of the dark dominion of the

devil.‖

Brann‘s criticism focused on the notion that

―reserving‖ was a sort of scam that entitled the insurers

to accumulate vast reserves of capital for no good

reason. By attacking the old-line companies so

vehemently, he must, intentionally or not, have given

assistance to their competitors. Among such competitors

were fraternal benefit societies, which were "lodges" or

"orders" of mostly working class Americans. Some of

these societies were legitimate social and service

organizations. Many more, however, were sham

societies that existed primarily as a vehicle for the sale

of unregulated insurance. Because they were

unregulated, and frequently unprincipled as well, they

could offer coverage at very low rates. This made them

15

The notion was repeated by others. Former U.S.

President Grover Cleveland, for example, asserted in 1905

that ―life insurance has to do with the most sacred things

that stir the human affections…its management involves a

higher duty and more constant devotion than we associate

with a mere business enterprise.‖ Quoted in Patricia

Beard‘s After the Ball: Gilded Age Secrets, Boardroom

betrayals, and the Party that Ignited the Great Wall Street

Scandal of 1905, p. 27, New York, HarperCollins 2003.

extremely popular. A few of the fraternal benefit

societies operating in Texas in 1900 were the Royal

Tribe of Joseph; the United Order of Friendship and

Sisters of the Mysterious Ten; the Pecan Valley

Benevolent Society; the Modern Tonties; the Order of

Pendo; and the Knights of Kadosh. Most of these

organizations might just as well have been called the

Order of Ponzi.16

Frequently the claims of early

investors were paid with funds obtained from later

investors, while management of the societies grew rich

in the meantime. Insurance officials were frustrated but

essentially powerless in the face of these societies,

which were phenomenally successful in warding off or

subverting legislative attention. In 1899, such

organizations were made subject to the Fraternal

Beneficiary Law, which required little more than

registration. It wasn‘t enough. The Department

registered some two hundred and thirty-two new

―orders‖ between 1900 and 1904, many of which issued

insurance policies that weren‘t worth the paper they

were printed on.17

It wasn‘t until 1914 that fraternal

benefit societies were governed by any meaningful law

in Texas.

As the state‘s population and prosperity increased,

more and more insurers, and an increasing number of

insurance products, appeared in Texas. By 1900, some

eighty-five stock companies were writing fire and

marine insurance in the state. Another thirty-one (not

counting the fraternal benefit societies) were selling life

and health insurance. None of these companies was

organized in the state. In addition, there were five

guaranty companies, thirteen accident companies, one

steam boiler inspection company, and three ―plate glass

16

As early as 1883, Commissioner Spaight called the

fraternal benefit societies ―three-card monte corporations,‖

and despaired of estimating the ―grand total of money

hopefully invested and hopelessly engulfed‖ therein. A. W.

Spaight, ―Report of the Commissioner of Agriculture,


January 15, 1883, p.7.

17

W. J. Clay, ―Report of the Commissioner of Agriculture,


September 8, 1904, p. viii.


7

2023534v.1 901170/1

insurers‖ licensed in Texas. In that year the agency

collected some $132, 283.47 in taxes and fees.18

Despite this growth in the industry, the agency

continued to operate on a shoestring. In 1900, for

example, the Commissioner led a staff that consisted of

a chief clerk, three lesser clerks and a porter. The

agency had a budget of only $9,120.00. With the

Department so undermanned and poorly provided for, it

is little wonder that unauthorized insurance (led by

unlicensed but aggressive ―Lloyds associations‖ of

unincorporated underwriters, which weren‘t officially

allowed to do business in the state until 1921) made a

strong comeback in the last decade of the 19th Century.

The growing number and sophistication of insurers

demanded a more aggressive and professional

regulatory agency. Consumers were victimized by

complicated policy forms and discriminatory pricing,

and the few domestic firms that struggled into existence

(and, generally, stumbled back out again) found it

difficult to compete against the established eastern legal

reserve companies.

D. The Quest for Control (1905-1944). The

Department, which functioned as the ―Department of

Insurance and Banking‖ from 1907 until 1923, began

gaining power in the first part of the Twentieth

Century. The agency‘s fortunes started to change in

1905, when the New York legislature‘s Armstrong

Committee19

made national headlines with its

investigation of fraudulent and financially reckless

practices at the highest levels of the life insurance

industry. The investigation grew out of allegations

made by rivals for control of one of the nation‘s

largest life insurers, the Equitable, and came to

involve some of Wall Street‘s biggest names,

including Henry Clay Frick, E. H. Harriman, and J. P.

Morgan. For months, New York newspapers

18

Jefferson Johnson, ―Report of the Commissioner of

Agriculture, Insurance, Statistics, and History for the Year

1900,‖ April 4, 1901, p. 4.

19

The committee was headed by New York state senator

William W. Armstrong. In many people‘s minds, however,

it was dominated by Charles Evans Hughes, the young

judge who spearheaded the investigation. Hughes went on

to become governor of the State of New York, a United

States Supreme Court justice, and the Republican Party‘s

candidate for President of the United States in 1916.

published shocking details of corporate misconduct—

nepotism, self-dealing, questionable stock deals and

bookkeeping sleight-of-hand—on the part of officers

and directors not only of the Equitable, but also of the

New York Life Insurance Company and the Mutual

Life Insurance Company. Among the revelations were

details of reduced-rate lending between executives of

one company and those of another, and the fact that

the companies funneled revenues to political ―war

chests‖ to influence state legislators. One executive

explained that this was the way the companies kept

from being ―badgered and harassed to death in every

state in the Union by the introduction of bad bills of

every kind.‖20

In its day, the Armstrong Committee‘s findings

were phenomenal, a sort of Unsafe at Any Speed of

the industry. Texas Commissioner of Insurance

William J. Clay wrote at the time that ―the year 1905

is the most eventful recorded in the history of life

insurance. During the entire year life insurance

underwent investigation of one kind or another. There

was a spirit of unrest, distrust, and dissatisfaction

throughout the entire country.‖21

Clay himself traveled

to New York in the autumn of 1905 to inspect the

affidavits given to the Committee by various

insurance executives.22

The impact of the disclosures made during the

Armstrong Committee investigation—disclosures

indicating that even some of the most illustrious

companies in a major financial industry were being

run on an irresponsible and sometimes corrupt basis—

were immediate and sensational. Suddenly, just

having (and taxing) an insurance industry in the state

appeared insufficient. It became clear that this

industry, like many others, needed aggressive

policing. The result of the Armstrong Committee‘s

investigation, says one source, "was the adoption of a

report making specific recommendations for industry

20

―Most Insurance Bills Blackmail, Says McCall,‖ Austin

Statesman, October 5, 1905, p. 1.

21

William J. Clay, ―Report of the Commissioner of

Agriculture, Insurance, Statistics, and History For the Year

1906,‖ October 15, 1906, p. 8.

22

―Commissioner Clay Returned From East,‖ Austin

Statesman, October 10, 1905, p. 1.


8

2023534v.1 901170/1

reforms, including standardized policy forms, limits

on industry lobbying, a limit on commissions to

agents, a prohibition on prizes and bonuses, legal

liability for misrepresenting the terms of an insurance

contract, uniform accounting procedures, and a

prohibition on investments by insurance companies in

common stocks.‖23

Because this was an era of

―Progressivism,‖ or political reform, it is not

surprising that many of the Armstrong Committee‘s

recommendations were soon enacted into law in New

York and other states.

Texas too began to increase its supervision of the

insurance industry. As the success of the Populist Party

in the 1890s demonstrated, many Texans were highly

suspicious of the Eastern establishment, and eager to see

stronger regulation. In 1909, the Legislature

incorporated many of the Armstrong Committee‘s

recommendations in a new law entitled ―Authorizing

Incorporation of Life, Accident and Health Insurance

Companies.‖ The law established a $100,000 minimum

capital stock requirement for such companies. It placed

restrictions on the type and amount of real estate that

companies could hold, set out certain provisions

required to be contained in policies issued in Texas, and

prohibited misrepresentations by insurers and their

agents. In addition, Section Nineteen of the new law

stated that ―[n]o insurance company doing business in

this State shall make or permit any distinction or

discrimination in favor of individuals between insurants

(the insured) of the same class and equal expectation of

life in the amount of or payment of premiums or rates

charged for policies of life or endowment insurance.‖

Thus was born Texas‘s original insurance ―anti-

discrimination‖ law. Though it applied originally only

to life insurance policies, the law was reconstituted over

the years into a general anti-discrimination statute. See

TEX. INS. CODE ANN. 544.052. It continues to regulate

the behavior of insurers today.

There were other signs that the state was getting

serious about regulating the insurance industry. In

1907, for example, the 30th Legislature created the

Department of Agriculture, leaving a newly streamlined

―Department of Insurance and Banking‖ to deal with the

state's two major financial industries. The first

23

Henry C. Dethloff, Forward to Douglas Caddy,

Understanding Texas Insurance (College Station: Texas

A&M University Press, 1984), pp. xviii-xix.

Commissioner of this new incarnation of the agency

was a heavy hitter: Dallas lawyer and former state

legislator and Speaker of the House Thomas Bell Love,

who held the job until 1910. Highly influential in Texas

politics, Love later served in Washington as Assistant

Secretary of the Treasury under President Woodrow

Wilson. He was for many years known as a leading

advocate of Prohibition, sometimes called ―the Dry

Moses.‖

Also in 1907, under fire-breathing Governor

Thomas Mitchell Campbell of Palestine, the Legislature

passed the Robertson Act, which required life insurance

companies to invest seventy-five percent of their legal

reserves on Texas policies in Texas securities. Named

for its legislative sponsor, former district judge and

Hogg confidante James Harvey Robertson, the act was

pure populism, a heavy-handed attempt to keep Texas

premium money within the state. The measure was

naturally resented by the industry, which had long

enjoyed a sort of financial colonialism in Texas and

other western states. Company representatives fought

the Robertson proposal tooth and nail, predicting

imminent disaster for the Texas insurance market if it

became law. But Texas legislators refused to

compromise. They passed the bill and, despite intense

lobbying pressure, Governor Campbell signed it into

law. A contemporary account in the Dallas Morning

News portrayed the reaction of several dismayed

insurance company representatives:

The governor was a visitor to the

senate chamber a few moments after he

signed the bill, and Thad Bell of the

New York Life walked in. He learned of

the bill being approved and started

across the capitol to tell Mr. Hamilton

Cook. Mr. Cook had already heard it

and, with Charles T. Bonner of Tyler,

was coming from the House. Mr. Bell

met them. “It’s 23, skiddoo for you,”

said Bell.24

At least twenty insurance companies did in fact skiddoo

shortly thereafter, choosing to leave Texas rather than

24

―Signed Deposit Bill,‖ The Houston Post, April 25, 1907,

Page 7.


9

2023534v.1 901170/1

comply with the law, but the Robertson Act remained

on the books, albeit in a gradually watered-down form,

until the early Sixties. One observer has suggested that

this large-scale defection of insurers from the state was

crucial to the success of Texas‘s first domestic life

insurers—insurers like the now-gigantic American

National Life Insurance Company, organized in

Galveston in 1905 by William L. Moody—which

suddenly found themselves almost alone in a growing

market.25

In 1910, the Legislature appropriated funds for the

hiring of the Department‘s first actuary, R. C. Burton, a

graduate of the University of Michigan.26

Burton, who

immediately became the agency‘s highest-paid

employee besides the Commissioner, did much of the

initial work associated with a new law requiring all life

insurers doing business in the state to file their policies

for review by the Department--another example of the

state‘s increasing supervision of the industry. Burton‘s

appointment embodied the movement of both the

industry and state regulators toward treating insurance

―scientifically‖—i.e., according to mathematical rules of

pricing and prediction—rather than as simply another

marketing-driven business enterprise.

In 1923, the Legislature created the Department of

Banking, leaving the Department of Insurance to focus

on the state's rapidly growing risk-sharing industry.

Only four years later, the 40th Legislature created a

three-member ―Board of Insurance Commissioners‖ to

govern the industry. At the same time, it merged the

Department with the State Fire Insurance Commission,

the state‘s insurance rate-making body. The three

commissioners—R. B. Cousins, Jr.; Raymond Mauk;

and Walter S. Pope—appointed by Klan-busting

Governor Dan Moody had supervisory power over life,

fire, and casualty insurance, respectively. The Life

Insurance Commissioner was also made the boss of the

bosses, the ex officio Chairman of the Board of

Insurance Commissioners. The three divisions of the

new agency were run completely independently, with

separate budgets, personnel, and regulatory missions.

This three-headed system was to continue until 1957,

25

Allen Duckworth, ―1907 Act Sparked Growth,‖ Dallas

Morning News, January 30, 1956, p. 1.

26

Annie N. and Lloyd K. Friedman, On the Trail of Actuaries

in Texas, 1844-1964 (San Antonio: The Watercress Press

1998), p. 53. And yes, this is a real book.

when the Legislature fused the three divisions back into

one agency, headed by a single commissioner who was

himself answerable to a three-man board of

commissioners. In 1991, the entire board system was

scrapped, and control of the agency consolidated in a

single, CEO-like commissioner who answered to the

governor.

The power of the agency, and thus of each of its

commissioners, had increased dramatically since

Valentine Overton King‘s day. As Commissioner R. L.

Daniels put the matter in 1936:

[The Commissioner] is the point of contact

between the state and the insurance business,

and it is through him that the insurance laws

are executed and enforced. When he speaks,

'the State' speaks, whether he be addressing the

public, the companies, the Legislature or the

Courts. He looks for violations of the law,

apprehends and cites the offender and

prosecutes him in a tribunal wherein he is also

jury and judge, and whose mandates he

executes himself, frequently basing the whole

proceeding upon a rule which he himself has

made because he can find no applicable

statute.27

The Age of the Automobile

The biggest development in the insurance industry

in the first half of the 20th Century involved the

phenomenal growth of the automobile market. Given

the state‘s vast expanses and primitive public

transportation systems, cars quickly became a necessity

in Texas. The ascendance of the automobile led

27

R. L. Daniel, ―State Supervision of Insurance,‖ Lecture

Delivered to the Students of the Insurance Institute at

Austin, January 13, 1936, p. 4 (Texas Department of

Insurance archival collection). Commissioner Daniel was

clearly proud of his job, which was at that time unconstrained

by the dictates of the Administrative Procedure Act. At the

same time, one wonders if Mr. Daniel might have read one

too many policy filings. In another portion of the same

speech, he states, "I sometimes doubt whether any man ever

conceives the beauty of this unfinished tapestry of insurance,

or thrills at the opportunity to weave into its gigantic but

harmonious design another appropriate figure of his own

dreaming, until he has been an insurance commissioner."


10

2023534v.1 901170/1

unsurprisingly to a booming business in auto

insurance—and to considerable work for the Board of

Insurance Commissioners.

The destructive capabilities of a speeding

automobile became apparent early on. An article in the

December 21, 1903 edition of The Austin Statesman

details ―the first fatal accident credited to automobiling

in Texas,‖ which occurred in what was then the rural

expanse of land between Fort Worth and Dallas.28

In the

face of increasing litigation and often contradictory

results in the various courts, the Casualty Division,

joining with regulatory authorities in other states,

promulgated the state‘s first uniform automobile

insurance policies—―consisting of the Liability Policy

Form, All Coverage Form, Fire and Theft Form,

Combination Form, and Garage and Liability Form,

together with 110 endorsements‖—in 1934.29

The idea

was to create essentially standardized contracts that

reflected court rulings interpreting the various policy

provisions in use at the time. It was a massive

undertaking, requiring, as one Division official put it,

―much night work.‖ As Casualty Commissioner Walter

S. Pope said of this development, "From then on, these

policies and contracts have probably been more

universally unread by the purchaser, and more money

has probably been paid out thereon, than on any other

policy contract in existence." 30

The agency exercised

strict control over the language and interpretation of

provisions of the state‘s automobile insurance policy, as

well as its residential property insurance policy forms,

for decades. Legislation passed in 2003 cleared the way

for insurers to start using individual, ―proprietary‖

forms.

Rate-Making

The most important development in insurance

regulation during this period, just ahead of policy

standardization, was the state's insistence on controlling

insurance premium rates. Rate-setting is seen these days

28

The accident, which killed at least one young boy, was

blamed on a group of people who were racing their cars.

29

Walter Pope, ―59th

Annual Report,‖ p. 22. 30

Walter Pope, ―Scrapbook History of the First Seven

Years of the Casualty Division,‖ p. 11 (Texas Department

of Insurance archival collection).

primarily as a consumer-protection measure. However,

at least as important to regulators in the first part of the

20th Century was the question, How do we keep insurers

from harming themselves? One way to do this, they

decided, was to dampen competition among insurers by

limiting the range of premiums each company could

offer.

The impetus of this movement probably arose from

repeated failures in the fire insurance market. In 1891,

for example, the East Texas Fire Insurance Company,

one of the state's few domestic insurers, organized in

1875, went into voluntary liquidation. While worrying

aloud about the alarming tendency of Texans to torch

their own property in order to collect insurance

proceeds, Commissioner John E. Hollingsworth was

moved to warn Texas insurers that "companies must

make a rate commensurate with the risks, for they

cannot live and do business at a loss."31

If they could

not make appropriate rates themselves, he implied, the

state would do it for them.

Not everyone agreed with Hollingsworth.

Commissioner Spaight wrote in 1882 that rate-making

appeared to him to be ―wholly impractical,‖ and that

―such legislation would have the inevitable effect of

driving out of the state a large proportion of the

insurance capital of other states and countries engaged

in business here.‖32

But the pressure to regulate rates only increased, at

least partly in response to the disastrous rate-cutting

wars engaged in by the fraternal benefit societies. The

idea became a reality in 1909, when the Legislature

created the Fire Insurance Rating Board, which was

given authority to correct rates that were either

"excessive or unreasonably high" or "not adequate to the

safety and soundness of the company granting the

same." In 1910, the ―State Insurance Board‖ replaced

the Fire Insurance Rating Board; in 1913, the State

Insurance Board was renamed the ―State Fire Insurance

Commission‖ (later simply the ―State Insurance

Commission‖) and given ―sole and exclusive power and

31

John E. Hollingsworth, ―Report of the Commissioner of

Insurance, Statistics and History for the Year 1891,‖ May

12, 1892, p. 32.

32

A.W. Spaight, ―Report of the Commissioner of

Insurance, Statistics and History for the Year 1882,‖

January 15, 1883, p. 5.


11

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authority…to prescribe, fix, determine and promulgate

the rates of premiums to be charged and collected by

fire insurance companies doing business in this State.‖

The State Fire Insurance Commission was composed of

the Commissioner of Insurance and Banking (serving as

Chairman of the Board) and two appointed members

(one of which was designated the State Fire Marshal).

Until 1927, the State Fire Insurance Commission and

the Department of Insurance operated as separate and

distinct divisions of state government.

In 1927, when the Department and the State Fire

Insurance Commission were merged under the auspices

of the Board of Insurance Commissioners, the Board

assumed responsibility for setting workmen‘s

compensation rates. It was given authority to

promulgate title insurance rates in 1929, and to

promulgate auto insurance rates in 1937. In 1939, at or

near the high water mark of Franklin Delano

Roosevelt‘s New Deal and its use of government to

supervise the workings of the economy, the Board

enacted a retrospective rating plan for all lines of

commercial casualty insurance. Since personal lines of

coverage were already subject to promulgated rates,

Texas thus became one of the most restrictive rate

regulators in the nation.

While Texas generally controlled rate-making in

the property and casualty area, there were significant

loopholes that eventually destroyed the system. For

example, while homeowners‘ insurance premium rates

in the standard market were regulated by the

Department, policies sold by Lloyds plan companies

were not regulated. Unsurprisingly, standard-market

insurers began to acquire or organize their own Lloyds

plan companies of their own and shift business to

these affiliates. Thus, by the late 1990s, some ninety-

five percent of homeowners‘ policies issued in Texas

were sold by Lloyds plan companies. County mutual

insurers were similarly exempt from automobile

insurance rate regulation. While a ―gentleman‘s

agreement‖ existed for many years, under which the

county mutuals undertook to write insurance only in

the non-standard market—i.e., for drivers who weren‘t

able to get insurance elsewhere—the agreement broke

down in the 1990s. Large insurers simply acquired

county mutuals of their own and used them to write all

or a large part of their auto insurance, free from rate

regulation. The purpose of the county mutual laws

was protectionism—an attempt to shelter domestic

insurers from the competitive advantages enjoyed by

aggressive out-of-staters.

Many of the insurance laws enacted by the

Legislature through the 1950s were similarly biased.

Agent licensing rules were frankly insular, requiring

anyone who wanted a license to sell insurance in the

state to be a Texas resident. Some of those rules

lingered on for decades. Until 2001, for example,

Texas was one of the very few states in the nation that

required all officers and directors of a corporate

insurance agency to be individually licensed by the

state.

E. The Bad Old Days (1945-1972). As T. R.

Fehrenbach drily put it in his history of the state,

"Political corruption apparently increased in the

1950s."33

Austin writer Billy Lee Brammer was less

diplomatic. His novel The Gay Place brilliantly evokes

the lives of several young men and women working on

the fringes of state political power during the

gubernatorial reign of Arthur Fenstemaker, an earthy,

profane literary amalgam of Earl Long, Beauford Jester,

and Lyndon Baines Johnson. Brammer speaks of the

political corruption in Texas in the Fifties several times.

Indeed, the plot of "The Flea Circus," the first of three

interlinked stories in the book, revolves around the

attempts of a loan association lobbyist to bribe selected

legislators. In the story, Fenstemaker makes passing

reference to "Phillips," a ―minor state official now

serving time in the penitentiary" partly as a result of

evidence of corruption developed by a progressive

newspaper obviously patterned after Ronnie Dugger's

muckraking Texas Observer. At one point Fenstemaker

fields a telephone call from a lawyer friend who has just

been asked by his client, an indicted insurance

executive, to fix a jury. Fenstemaker is unsurprised by

this turn of events. He offers the lawyer words of

warning:

Charley, they'll drink your blood if you let 'em.

That insurance company of his just didn't

happen to collapse—it wasn't the [expletive]

law of gravity...He milked the business dry and

stuffed the profits somewhere… no tellin'

where—but he got away with it for four years

33

Lone Star, p. 661.


12

2023534v.1 901170/1

and now he's hired a smart lawyer like you

thinkin' he can buy his way out...34

Regulatory failures and corruption in the insurance

industry were not unique to Texas. The stage was set in

1944, when the United States Supreme Court reversed

its 1868 decision in Paul v. Virginia and held, in United

States v. South-Eastern Underwriters Association, that

the federal government did have authority to regulate

insurance because the business of insurance was in fact

interstate commerce.35

The context of this decision is at

least as important as the conclusion. The case involved

the failed efforts of the State of Missouri to stop South-

Eastern Underwriters, a trade association with a

membership of nearly two hundred private stock fire

insurance companies, from allegedly fixing prices in the

Missouri market. Frustrated, the state sought the

assistance of the Justice Department. The Association

was subsequently indicted in federal court for numerous

violations of the Sherman Anti-Trust Act. When a

district court judge dismissed the indictment, the Justice

Department appealed, setting the stage for the Supreme

Court‘s dramatic reversal of almost eighty years of

insurance law.

State governments and the insurance industry

immediately joined forces to prevent assertion of federal

control. This was accomplished in 1945 with enactment

of the McCarran-Ferguson Act, which gave states the

right to regulate insurance in all instances except where

federal law specifically pre-empts state law. The

McCarran-Ferguson Act dominated the field of

state/federal relations in the insurance industry for

decades. It is unclear that its effects have been

uniformly beneficial. Indeed, the conflict between those

who want federal regulation of the country‘s insurance

markets and those who prefer state-by-state regulation

is now more heated than ever. Proponents of state

control argue that the populations of different regions of

the country want and/or need various amounts of control

over the activities of companies doing business there.

Critics of the arrangement have frequently pointed out

that insurance companies have had more clout in

dealing with under-funded state regulatory bodies than

34

Billy Lee Brammer, The Gay Place (Austin: The

University of Texas Press 1995), p. 110.

35

United States v. South-Eastern Underwriters Association,

322 U.S. 533, 64 S.Ct. 1162 (1944).

they would have exercised with any federal, and

necessarily much larger, insurance authority. Large

insurers argue back that it is time-consuming and

expensive to deal with fifty different regulatory schemes

and authorities. Whoever is ultimately right, there is no

denying that in Texas, at least, the state‘s oversight of

the insurance industry has occasionally proven to be

woefully inadequate.

At no time was Texas regulation worse than it was

during the ten-year period between 1947 and 1957. At

least three factors combined to create the dynamics of

this dark era. First, the political climate in the U.S. after

the Second World War changed dramatically. The Cold

War settled in for a prolonged engagement.

Conservatism reigned, and for a time anything that

smacked of state supervision of the economy—a sort of

interference, some sniffed, that could only lead to full-

fledged socialism—was suspect. While the Board of

Insurance Commissioners was no doubt lackadaisical in

its efforts to enforce the new Texas Insurance Code,

published in 1951, and to oversee the solvency of Texas

companies, its laissez-fare approach was, in some broad

sense, in accord with the times.

Second, the state was still trying to ―grow‖ its

domestic insurers. Texas laws were meant to encourage

the formation of insurance companies, not to make it

more difficult. As the postwar economy gradually

picked up steam, however, capitalization laws that were

adequate during the 1930s quickly became outmoded,

leading to a situation in which it was simply too easy to

form and obtain regulatory approval of an insurance

company. Scores of new companies sprang to life—

some with little or no financial backbone. Although as

late as 1904 there was not a single stock insurance

company incorporated in the State of Texas, fifty years

later the scene was considerably different. By 1954,

Texas was home to some 1,102 insurance companies—

almost a third of the national total!36

Third, there was a strong tradition of cronyism and

influence-peddling in state government. This was an era

of unabashed bribery and vote-buying, a time when a

36

―Insolvency in the Texas Insurance Industry 1939-1954,‖

Staff Research Report to the Texas Legislative Council No.

53-5 (Austin, Texas 1954) (Texas Department of Insurance

archives).


13

2023534v.1 901170/1

few bottles of booze and an attractive blonde could and

occasionally did alter the course of regulatory policy.

The men who ran the state‘s Board of Insurance

Commissioners were allegedly among the most

egregious offenders. Penn Jackson, first chairman of the

reorganized ―State Board of Insurance,‖ acknowledged

this situation in an October 1957 speech to the Texas

Life Convention. Commenting on the Legislature‘s

reorganization of the Board, and his own commitment

to cleaning up the agency‘s operations, Jackson assured

the assembled agents and company representatives that:

Now you can come down to see us and

transact your business on a friendly but

impartial basis, without worrying

about entertaining us or what brand we

would prefer. And they tell me we have

made a real contribution to the

solvency of companies by diminishing

considerably the expense accounts of

those coming to Austin.37

The changes were long overdue. Eighty-six Texas

insurance companies failed in the first ten years after

World War II. Among the fallen were General

American Casualty Company; Lloyds of Great State;

Unified Lloyds of El Paso; and Lloyds of North

America, organized in Houston in the early fifties by

Ralph W. Hammonds, a flamboyant former Olympic

wrestler.38

1954 saw the collapse of the Texas Mutual

Insurance Company, a Beaumont enterprise that

started out as a fraud, capitalized by means of bogus

loans and significantly overvalued real estate

holdings, and quickly got worse. The story of Texas

Mutual illustrates many of the flaws in the state‘s

insurance regulatory system at the time. According to

one account, the company was organized in 1949 with

stated capital of $20,000—$19,500 of which was

repaid to its lender within a week.39

The company‘s

downfall brought out ugly testimony at a subsequent

civil trial concerning bribes taken by the state

37

On the Trail of Actuaries in Texas 1844-1964, p. 163.

38

Understanding Texas Insurance, p. xx.

39

―An Old Pattern,‖ The Texas Observer, January 25, 1956,

Page 7.

insurance examiner charged with certifying the

company‘s solvency. Testimony also indicated that a

prominent state senator was on the company's payroll.

In a concurring opinion that dripped with contempt for

the Board‘s sloppiness and venality, one judge

referred to a record ―replete with evidence of

fraudulent and corrupt abuse of our insurance laws

and gross if not criminal laxity in their

enforcement.‖40

In late 1955, the Board of Insurance

Commissioners announced the bankruptcy of the U.S.

Trust and Guaranty Company, a financial

conglomerate that controlled seventy-four insurance

and finance companies in twenty-two states and

Alaska. An estimated 150,000 investors and

policyholders faced losses.41

The Board was widely

attacked for failing to place the company in

receivership until long after its own examiners had

warned it of the company‘s insolvency. Some critics

insinuated that the delay had been bought—either

directly, or through legislators in the pocket of U.S.

Trust and Guaranty. This ―insurance mess,‖ opined

the Houston Chronicle, was giving the state a

―scandalous reputation‖ throughout the nation.42

Presiding over the Board of Insurance

Commissioners during this dismal period was Garland

A. "Chink" Smith, a dark-haired, good-looking

confidante of Governor Allen Shivers. A former

bandleader, journalist, and Senate secretary, Smith was

appointed Casualty Commissioner in 1952. To the job

he brought no apparent familiarity with any aspect of

the insurance industry. Despite (or perhaps because of)

this glaring ignorance, he moved up quickly. In October

1953, following the retirement of George B. Butler,

Shivers appointed Smith to be the state‘s Life Insurance

Commissioner and thus Chairman of the Board. It was a

difficult time for the three essentially autonomous

40

Moreland v. Knox, 268 S.W. 2d 744 at 751 (Tex. Civ.

App.—Austin 1954, no writ).

41

―At Least 400,000 Policyholders,‖ The Texas Observer,

January 11, 1956, p. 1 (the headline refers to a count of

policyholders affected by a number of Texas insurance

solvencies, not just the U. S. Trust and Guaranty situation).

42

As reported in ―Papers Lash Out,” The Texas Observer,

January 4, 1956, p. 2.


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agencies overseen by the Board. In the midst of

numerous grotesque insolvencies, Smith‘s downfall was

hastened by allegations that he had accepted an all-

expenses-paid vacation trip to Hawaii from an insurance

company under his jurisdiction. His wife, meanwhile,

had reportedly received a real estate loan from another

insurance firm.43

It didn‘t help appearances that the

agency itself was housed in offices leased from the

International Life Insurance Company for much of this

period—that, in other words, one of the companies the

Board was attempting to regulate was in fact its

landlord.

Smith resigned as Commissioner on January 30,

1956, purportedly for medical reasons. But his

―retirement‖ had no immediate salutary effect. In 1957,

Ben Jack Cage, a businessman with labor connections

and what one observer has called "movie-star good

looks," was indicted for embezzling a hundred thousand

dollars from ICT Corporation. ICT Corporation was

closely affiliated with ICT Insurance Company. Both

were controlled by Cage. Though at one point he fled to

Brazil, Cage was eventually returned to the U.S.,

convicted, and sentenced to ten years in prison.44

The news just kept getting worse. In the course of

Cage‘s criminal trial, evidence was presented that ICT

had made some sixteen payments to Garland Smith‘s

successor, Life Insurance Commissioner J. Byron

Saunders. Though the payments were ostensibly for

"legal services," no one could recall any particular

services Saunders had actually performed for the

company. Saunders, a Tyler attorney and former head

of the State Welfare Board, exercised his Fifth

Amendment right not to testify at the Cage trial and was

later convicted of perjury for lying under oath about the

sixteen payments to a legislative investigating

committee. His conviction was subsequently overturned

by the Texas Court of Criminal Appeals, which ruled

that Commissioner Saunders had committed the lesser

crime of "false swearing," not perjury, and therefore

dismissed the prosecution altogether—a holding the

dissent called "inconceivable" and "shocking."45

The

43

―Smith Quits Job,‖ The Houston Post, January 31, 1956, p.

1. 44

Cage v. State, 320 S.W.2d 364 (Tex. Crim. App. 1958).

45

Saunders v. State, 341 S.W.2d 173 at 180 (Tex. Crim. App.

1960).

decision was an important one. Because of it, perjury

charges that had been brought by the Travis County

District Attorney‘s office against hapless former

Chairman Garland Smith and his son-in-law, Max

Wayne Rychlik, also had to be dismissed.

In the face of such conflicts of interest, the

Legislature finally changed the structure of the Board of

Insurance Commissioners in 1957. The various

commissioners on the Board—Life, Fire, and

Casualty—were stripped of their personal bailiwicks

and made jointly responsible for the operation of the

agency, which was renamed the ―State Board of

Insurance.‖ The three divisions were melded into one,

under the day-to-day supervision of a sort of

governmental CEO, the Commissioner of Insurance,

who answered to the Board. The agency now employed

over three hundred people. New Chairman of the State

Board Penn Jackson characterized the operational

changes this way:

There will be no more private

meetings, secret persuasions, or

surprise decisions. We have substituted

due process for ex parte in all hearings

before the Board and the

Commissioner. We are operating as a

unit, and no member is undertaking to

make any decision or take any action

as an individual.46

The Commissioner also served as State Fire Marshal, a

dual responsibility he held until 1975, when the 64th

Legislature created a separate State Fire Marshal's

Office.

While it may have seemed like a good idea to

relieve the individual commissioners of sole control of

certain agency functions, the practical effect of the

change was, of course, to let each commissioner have an

equal say in every function. This led, inevitably, to

conflicts among board members—and set the stage for

the Legislature finally to do away with the ―board‖

structure altogether in 1991. But the dismal performance

of Commissioners like Chink Smith and Byron

Saunders in the Fifties, along with the gleeful exposes

of their shenanigans run relentlessly by Ronnie

46

Quoted in On the Trail of Texas Actuaries 1844-1964, p.

163.


15

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Dugger‘s Texas Observer, at least alerted Texans to the

regulatory responsibilities exercised by the state‘s

insurance officials. Never again would the agency

function in such utter obscurity.

F. Consumer Protection as Guiding Principle

(1973-1997).

The Strange Origins of Consumer Protection

It is now commonplace to look at TDI as, at least in

part, an organization that exists to assist policyholders.

This was not always true. In fact, the agency took its

first steps toward being a consumer protection agency

almost in spite of itself. As discussed above, the

practical effect of the McCarran-Ferguson Act was to

allow states to ―reverse pre-empt‖ federal authority over

insurance matters. In most instances, as long as the state

had adequate laws governing insurance, those laws

trumped federal jurisdiction; it was only where a state

did not have adequate statutes, or any statutes, that

federal law would apply.

Like most states, Texas was prepared to do almost

anything to prevent federal regulation of insurance, if

only to protect its claim to the millions of dollars it

collected in taxes and fees from insurers each year. In an

attempt to demonstrate the coherence and completeness

of its regulation of the field, legislators moved to collect

all of Texas‘s many scattered insurance related laws in

one place. Thus, in 1951, the Texas Insurance Code was

born.47

While organization of the insurance laws was a step

in the right direction, certain areas of regulation were

thin at best. Though the National Association of

Insurance Commissioners had, in response to

McCarran-Ferguson, promulgated a model deceptive

trade practices statute for use by the states, Texas

declined for several years to adopt it. This left the field

wide open for federal action—or, as it was known in

Texas, ―interference.‖ In fact, according to Austin

attorney and author Philip K. Maxwell, the state was

47

Departmental officials—including Commissioners

Charles Austin in 1918 and George Waverly Briggs in

1925—had been calling for issuance of such a code for

years.

only convinced to enact its own insurance practices law

when the Federal Trade Commission initiated

administrative proceedings against several insurers

doing business in Texas. At this point, insurance

companies as well as state officials suddenly decided

that they were in favor of incorporating the NAIC

model into Texas law. There was little thought for

consumers at the time. Indeed, the emergency clause of

the legislation stated that ―substantially the same Act

has previously been enacted in thirty-nine states, and…it

is designed to prevent federal regulation and taxation of

the business of insurance‖ (emphasis added). Note, too,

that the statute did not create any private cause of action

for disgruntled consumers. Rather, it was up to the

Board, even after 1957 a staunchly pro-industry body, to

refer enforcement cases to the Office of the Attorney

General.48

Such were the humble origins of Article

21.21 (now Chapter 541) of the Texas Insurance Code.

Still, the winds of change were blowing. The simple

fact that there was an unfair insurance practices statute

emboldened those with what were called ―consumerist‖

sentiments to press for further protections. Eventually,

in the marginally more liberal atmosphere of the late

Sixties and early Seventies, the Legislature gave the

Board power to issue rules and regulations governing

unfair insurance practices in the state. The Board took

this authority to heart. During the brief tenure of

Chairman Larry Teaver, the Board in 1971 issued Order

18663, which outlawed ―not only unfair practices ‗as

defined by the provisions of the Insurance Code of

Texas or as defined by these and other Rules and

Regulations of the State Board of Insurance authorized

by the Code,‘ but also any ‗improper trade practice‘

that, though not defined as unfair in any of the rules and

regulations, had been determined to be so ‗pursuant to

law.‘‖49

48

This didn‘t change until 1991, when the Office of the

Attorney General was given statutory authority to prosecute

certain insurance-related cases at its own discretion, without

insurance agency‘s approval.

49

Philip K. Maxwell, History of Article 21.21 of the Texas

Insurance Code, unpublished manuscript, p. 13 (presented

in connection with ―Article 21.21 of the Texas Insurance

Code: A Historical Review,‖ a Continuing Legal Education

presentation made by Bill Goodman and Philip K. Maxwell

at the Texas Department of Insurance, October 20, 1999).


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TDI‘s development into a consumer protection

agency was aided by passage of the first major

consumer protection statute in the state, the Deceptive

Trade Practices Act of 1973 (the ―DTPA‖). While it

took awhile for the repercussions of the act, and the pro-

consumer sentiments behind it, to percolate upward,

consumer protection eventually became a profound

influence on the agency. The DTPA might never have

seen the light of day if it hadn't been for the Sharpstown

Scandal of the early Seventies. The Scandal and its

many seedy subplots are too complicated for full

treatment here. The essence of the affair lay in

allegations that Houston banker and financier Frank

Sharp attempted to bribe several state officials in return

for favorable treatment of bank deposit insurance

legislation he favored. Three men—House Speaker Gus

Mutcher, Jr.; Rush McGinty, an aide to Mutcher; and

State Representative Tommy Shannon, also known as

the ―Abilene Three,‖ for the venue of their criminal

trial—were each eventually convicted of conspiracy to

accept a bribe and given five-year terms of probation.

Despite this fairly slight criminal outcome, the scandal

derailed the political careers of many others, including

Governor Preston Smith and Lieutenant Governor Ben

Barnes.

The biggest impact of the affair came at the polls

during the statewide elections in 1972. Texas was still

effectively a one-party state. Thus, election fights

weren‘t generally between Republicans and Democrats.

Rather, the real battles occurred between conservative

Democrats and liberal or ―reformist‖ Democrats. In

1972, ―reform‖ won big. Texans elected a new governor

(Dolph Briscoe), lieutenant governor (Bill Hobby), and

attorney general (plaintiff‘s lawyer John Hill).50

This era also saw the polarization of critics of the

agency into two now-familiar coalitions: industry and

industry supporters on the one hand, with their dire

economic predictions and ever-ready statistics, and trial

lawyers and consumer advocacy groups on the other,

armed with populist rhetoric and an occasionally

paranoiac distrust of big business. For the first time but

certainly not the last, citizens began to question the

purpose of the State Board. Did it exist to support the

industry or to protect the industry‘s consumers? The

50

See, generally, Sam Kinch, Jr., ―Sharpstown Stock-Fraud

Scandal,‖ Handbook of Texas Online (Austin: University of

Texas, 2000).

agency became more than ever a political football. At

one point in the early 1970s, Governor Preston Smith

unsuccessfully attempted to appoint four different

candidates to the position of chairman of the State

Board. Larry Teaver, Ray Kirkpatrick, Bob Bullock and

Dorsey Hardeman all ran into politically related

confirmation difficulties.51

It wasn't until newly-elected

Governor Dolph Briscoe appointed El Paso attorney and

former state senator Joe Christie to head the Board that

the agency saw any stable leadership.

Boyish and charismatic, a dabbler in the esoteric

New Age philosophies espoused by Austin‘s Arica

Institute, Christie touted himself as a friend of the

consumer. He advocated for the use of plain language in

Texas insurance policy forms and refused to grant the

industry‘s request for an automobile insurance premium

rate increase on the basis of the high policyholder

dividends paid out by one company. Christie touted the

benefits of an innovative new way to insure against

health risks, an exotic entity called the ―health

maintenance organization.‖ He also headed the State

Board‘s successful efforts to establish minimum benefit

standards for individual accident and health insurance

policies. But while Christie made much of his

consumerist sentiments, he was criticized at the time for

his failure to refer even a single insurance case to the

Attorney General's office for prosecution.52

Christie

resigned in 1977 to launch a campaign for the United

States Senate. The campaign was unsuccessful, and he

eventually faded from public life.

In 1982, automobile insurance consumers received

help from an unlikely source when Board Chairman

William Daves, an appointee of conservative

Republican Governor Bill Clements, acted to reshape

the rate-setting process. The Board had for years

allowed annual rate increases as a matter of course,

engaging in just the sort of administrative ―rubber-

stamping‖ critics were learning to hate. But Daves

began to wonder if such increases were necessary in

light of soaring interest rates, which were pushing

insurance company investment income to record levels.

Working secretly with Board member Lyndon Olson, Jr.

51

Lee Manross, ―Joe Christie: Politician for a New Era,‖

Austin People Today, October 1974, p. 6.

52

―Consumerists Wary of New Insurance Chairman,‖ Dallas

Times Herald, September 5, 1977, p. 1A.


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(but not, evidently, with long-time Board member

Durwood Manford, rumored to have become set in his

ways after more than two decades on the Board), Daves

and agency staff member David Eley pored over

investment research data compiled by Best's. "Sure

enough," said Daves in a contemporary account, ―the

trend had continued. 1979 was the best investment year

in [industry] history," with after-tax returns on

stockholder equity averaging 25.6 percent. Citing these

record investment income levels, Daves and the Board

substantially scaled back the industry‘s rate hike

request, insisting that the overall profit/loss numbers

used to justify any request for a rate increase should

more broadly reflect the company‘s financial

performance. Since that time, agency rate-setting has

taken investment income into account, often applying a

negative underwriting profit factor as a result of the new

methodology. Despite vehement industry protests at the

time, other states and the NAIC eventually fell into line

with the ―total return‖ approach pioneered by Texas.53

The agency's biggest setback in recent years

occurred when National County Mutual Fire Insurance

Company went into receivership in 1988. National

County Mutual, a Dallas-based company that wrote

automobile insurance in the non-standard or ―high risk‖

market, was the largest property and casualty insurer

ever to collapse in Texas. Like other spectacular

implosions before it, National County Mutual was only

one entity in a network of insurance-related businesses

controlled by the same person. Its principal, Robert

Walker, was a high-flying Dallas millionaire who

delighted in showing off his expensive baubles:

airplanes, boats, and a ―pair of ornamental saddles

valued at $100,000 apiece.‖54

He went on the lam

shortly after the scandal broke, leaving 125,000

policyholders to find a new insurer. Later, after an

anonymous tip to Chairman of the State Board of

Insurance James E. Saxton, Jr., Walker was located and

apprehended in Barbados, where he owned a tourist

resort, and extradited to the United States to stand trial

on fraud charges.

53

Quote from Lee Jones, ―Newsmaking Leadership,‖ Texas

Insuror, November/December 1980, p. 16; additional

information supplied by Lee Jones.

54

Bruce Tomaso, ―Walker Lived Idyllic Life Before Arrest

in Barbados,‖ Dallas Morning News, July 10, 1990, page

1A.

The failure of National County Mutual left behind

millions of dollars in unpaid claims against the company

and seemed like a nightmare rerun of the Fifties.

Because claims against the company would have to be

paid out of the state‘s property and casualty guaranty

fund, and thus, indirectly, out of state tax revenues, the

Legislature howled. The Board appointed former

Department of Public Safety Colonel Jim Adams to

conduct a full investigation into whether and how the

agency had mishandled the National County Mutual

situation. Under a sort of organizational martial law,

morale at the Department fell to abysmal lows—

especially when Adams issued his highly-publicized

conclusion that the agency had known of problems at

the company for some two years prior to the insolvency

but failed to do anything to solve them.

Standing squarely in the spotlight of these

allegations was Commissioner Doyce Lee, a former

state legislator and agency general counsel. Lee

resigned in December of 1988, leaving a farewell letter

that was both poignant and practical:

I have become a symbol...It has been a pleasure

working with each of you and I will treasure

your friendship. My keys and telephone credit

card have been given to the Chairman. I elect

to receive my accumulated leave in a lump sum.

The Department‘s Head of Liquidation resigned the

same day. Within a year, every one of the members of

the State Board of Insurance—Jack Smith, James

Nelson, and David Thornberry—had moved on.

The National County Mutual debacle taught the

agency one lesson that it has so far not allowed itself to

forget. There is nothing more disastrous for

policyholders, or damning for regulators, than the

insolvency of a major insurer. Fortunately, the affair led

to some much-needed changes. For example, the

Department was given a criminal fraud unit, charged

with investigating just the sort of financial wrongdoings

that led to the collapse of National County Mutual.55

55

While the Fraud Unit was created to ferret out insurance-

related fraud generally, including corporate misdeeds, its

greatest successes so far have come in combating the illicit

acts of claimants and agents. Perhaps its highest-profile

case involved the investigation and conviction of Michael

Lee Davis of Plano, better known by his previous name of


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The situation also led to passage of laws aimed at

increasing the accountability and solvency of managing

general agencies and reinsurers, and to the

establishment of the agency‘s ―early warning‖ system,

designed to ―red flag‖ the business affairs of carriers in

response to certain statistical indicators.

The Department Swings Left. Under Governor Ann

Richards, TDI placed consumer protection front and

center on its regulatory agenda. Richards appointed

Washington-based consumer advocate J. Robert Hunter

to be Commissioner of the new, streamlined agency.

This was a deliberately confrontational move, somewhat

akin to naming Ralph Nader the CEO of Ford Motor

Company. Hunter picked fights with the industry on a

regular basis, and spoke of taking one major property

and casualty insurer ―to the woodshed‖ when he ordered

the company fined.56

) Governor Richards also picked a

brilliant young environmental lawyer, Amy Johnson, to

head up the newly-created Office of Public Insurance

Counsel, established in 1991 to provide a voice for

Texas insureds in what Governor Richards declared to

be an industry-friendly regulatory environment. Johnson

campaigned successfully for insurers to offer premium

discounts for cars with airbags (uncontroversial these

days, but at the time a source of contention) and joined

others, including the Austin American-Statesman and

certain state legislators, in accusing Texas automobile

and home insurers of ―redlining,‖ or declining to write

business in areas where minority populations lived.

Johnson earned high marks for her efforts from the

Governor, but one publication stated that the industry

Walter Alfred Waldhauser, Jr. Waldhauser was a convicted

murderer who ran afoul of the Department as a result of his

involvement in a viatical settlement ―clean-sheeting ring,‖

in which brokers allegedly conspired with HIV-positive

men to submit false life insurance applications to carriers

doing business in Texas. When policies were issued

(without a medical examination, because the policies had

relatively low stated values), the brokers were said to have

purchased them at a discount from the insureds, on the

expectation that the insureds would soon die. Convicted on

charges of money laundering and securing the execution of

documents by deception, Davis was sentenced in the spring

of 2000 to sixty years in prison and ordered to pay $3.6

million in restitution.

56

―Hunter Fines [Insurer] $850,000 for Unfair

Discrimination.‖ Texas Department of Insurance Press

Release, May 2, 1994.

was ―not sorry to see her go‖ when Johnson resigned in

1994.57

Johnson, considered by many to be a rising star

in the Texas Democratic Party, never sought political

office again.

The Health Insurance Wars. Things didn‘t work out

as well for managed care as Commissioner Christie and

other advocates predicted in the 1970s. In fact, while

HMOs made a significant impact on the Texas health

care market in the following decades, they attracted

opposition from many of the same people who once

criticized physicians for being aloof, expensive, and

irresponsible. Some of the biggest critics of managed

care were doctors themselves, who saw their ability to

dictate the terms of medical treatment to patients being

eroded by the HMO industry. In Texas, the feud

between medical providers and managed care played

out with particular ferocity.

In stark contrast to the long period of relative

obscurity of health insurance issues, the last thirty-five

years have seen a mystifying proliferation of health

insurance products—HMO and PPO health benefit

plans, consumer choice plans, consumer driven health

plans, health savings accounts and high deductible

health plans –along with a welter of state and federal

laws, rules, and regulations designed to delineate

them. In this field, far more than has ever been the

case with life or property & casualty insurance, the

federal government has proven eager to "supplement"

state jurisdiction—or, more recently, to replace it

altogether. Congress enacted the Employee

Retirement and Income Security Act in 1974, creating

a system of self-insurance outside the scope of state

regulation. In 1996, President Bill Clinton signed into

law the ambitious Health Insurance Portability and

Accountability Act (―HIPAA‖). HIPAA guaranteed

the renewability of group and individual health

insurance plans, allowed for portability of health

insurance coverage by limiting application of

preexisting condition exclusions, and prohibited plans

from discriminating against eligible employees on the

basis of their health status. HIPAA also made small

group policies ―guaranteed-issue‖ throughout the

nation: carriers writing in this market were required to

cover small employers regardless of the health status

of their employees. Finally, in 2010, Congress passed

57 ―State Public Insurance Counsel Leaves Office,‖ The

Victoria Advocate, May 13, 1994, p. 7A.


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the Affordable Care Act (the ―ACA‖)—which, if it

survives a Constitutional challenge and the 2012

elections, will fundamentally change the delivery of

health insurance in the United States. Salient

provisions of the ACA are discussed in Section IV of

this paper.

G. “The Best Financial Services Agency in the

World” (1997-present). Starting with the appointment

of Jose Montemayor as Commissioner of Insurance in

1999, TDI shifted focus. While consumer protection

efforts certainly continued, Montemayor stated that his

―whole goal [was] to make the consumer better off, and

the avenue to do that in my view [was] to minimize the

regulatory burden.‖58

He also on at least one occasion

voiced an ambition to make TDI the ―best financial

services agency in the world.‖ The agency began to

think of itself as more of a financial regulator than a

market conduct policeman. There is a consumer

protection aspect to solvency, of course. An insolvent

insurance company can‘t pay anyone’s claims. But the

confrontational, State versus Industry, rule-making

approach to regulation that flourished during the Ann

Richards era faded after the election of George W. Bush

as governor in 1994.

The early years of the 21st Century saw a series of

financial crises that started with the collapse of Enron

Corporation in 2001 and seemed to grow more ominous

with the widely-publicized struggles of Worldcom,

Lehman Brothers, Bear Stearns, and, in 2008, American

International Group (―AIG‖). AIG is a large holding

company system with insurance and financial operations

around the world. Press reports have alleged that a

London-based financial unit of AIG (not an insurance

entity) over-invested in credit default swaps earlier in

the decade. There were fears that financial losses

incurred by the unit on the swaps, as well as increased

collateral requirements brought on by related credit

rating downgrades, would have to be paid for by other

companies in the AIG system. According to one senior

regulator at TDI, the agency was one of the first to raise

concerns about the financial links between members of

the holding company system, and to call for increased

inter-state cooperation in addressing those concerns.

58

―Past Poverty Gives Focus to Job, Says Insurance Chief,‖

Austin-American Statesman, December 20, 1999, p. B1.

The particulars of the AIG situation, and the

wisdom of the federal government‘s response to it, are

still being debated. The issue state regulators have

raised is that no insurance department had a clear view

of the AIG system‘s activities as a whole. Thus, when

one unit of AIG was stressed, there was lag time before

federal agencies and regulators in other states could

coordinate their efforts to safeguard the various

constituent companies under their watch.

While only one of the various widely-publicized

financial contretemps of the last fifteen years directly

involved TDI, federal legislation (including the

Sarbanes-Oxley and Dodd-Frank Acts) that resulted

from these situations affected all state insurance

regulators. And attempts to safeguard against future

financial threats to insurance entities in a large—and, in

some cases, multi-national—holding company system

are being implemented in NAIC model legislation even

as we speak.

III. TDI TODAY

A. New Commissioner. In August of 2011,

Governor Perry appointed Eleanor Kitzman as

Commissioner of Insurance for a term that will expire

on February 1, 2013. Kitzman is an attorney and has

significant experience in the insurance industry. She

served as the Director of the South Carolina

Department of Insurance and, subsequently, as

Executive Director of the South Carolina Budget and

Control Board. Her private employment experience

includes positions in the insurance industry, an

investment banking firm, and the law firm Akin Gump

Strauss Hauer and Feld, L.L.P.

Kitzman shared her regulatory philosophy in a

recent speech at the 2011 annual conference of the

Texas Association of Health Plans. She said the

agency‘s job is to enforce the insurance laws as

specified by statute and that agency rules and

positions must be based on clear statutory authority.

She is not a supporter of ―desk drawer rules,‖ where

an agency uses informal positions to make decisions

impacting the industry. She highlighted the expertise

and professionalism of agency staff and emphasized

her goal of making the agency more efficient and

expeditious in terms of regulatory decisions. She said

that a prompt answer, even if the answer is ―no,‖ is

preferable to drawn-out decision making.


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B. Inter-Agency Organizational Chart. TDI‘s

links with various organizations under its control,

supervision, or influence, through the ability to

appoint board members or otherwise, is set out in

Appendix A, attached. Note that the precise nature of

the various affiliations suggested in the chart are

somewhat undefined, and may be subject to dispute.

The chart is neither an argument for nor a concession

of TDI supervisory authority over any particular

entity.

C. TDI Organizational Chart. TDI‘s current

internal organization is set out in Appendix B. Note

that the Division of Worker‘ Compensation, formerly

the Texas Workers‘ Compensation Commission, was

grafted on to TDI in 2005. The history of

workers‘compensation regulation in Texas deserves

its own lengthy paper.

D. Where the Laws Come From. The Texas

legislature meets for 140 days beginning on the

second Tuesday in January of every odd-numbered

year. Over 5,000 pieces of legislation are filed during

a regular session of the Texas Legislature, with

numerous bills aimed at the business of insurance in

Texas. TDI‘s latest annual report to the Governor and

the Legislature indicated that the agency tracked over

1,000 insurance and workers‘ compensation-related

bills during the most recent (82nd

) legislative session,

of which 214 were eventually signed into law.

Where do these bills come from? Legislators

typically file bills in response to a perceived problem

or deficiency in the system. An individual constituent

or an advocacy group may contact a legislator and

request legislation. The most common sources of

insurance legislation in Texas are:

i. Texas Department of Insurance. Prior to

every legislative session, TDI makes

recommendations for legislative changes.

Typically, the agency‘s recommended

changes are contained in bills filed by the

Chairman of the respective committees

with jurisdiction over most insurance

related issues, the House Insurance

Committee and the Senate State Affairs

Committee, chaired by Representative

John Smithee and Senator Robert Duncan,

respectively.

ii. Texas Sunset Commission. On a periodic

basis, typically at least once every twelve

years, every state agency in Texas

undergoes a review by the Texas Sunset

Commission to determine if a public need

for the existence of the agency remains.

The Sunset Commission also makes

recommendations for legislation related to

the agency and the industry it regulates.

TDI underwent sunset review in 2008 and

legislation was considered, but was not

passed, during the 2009 legislative session

to continue the agency and make changes

to the state‘s regulation of homeowners

insurance, among other things. The 2009

TDI Sunset bill died in the House when

the bill got caught up in a political

maneuver by Democratic House members

who wanted to kill Voter ID legislation.

Governor Perry had to call a special

session in July of 2009 to pass a stop gap

bill to ensure TDI was not ―abolished‖ as

of August 1 of that year. The agency was

continued for two additional years and

HB 1951 was passed in 2011 to continue

TDI‘s functions until September 1, 2023.

iii. NAIC. The National Association of

Insurance Commissioners (the ―NAIC‖) is

an association of state insurance officials

that functions primarily to rationalize and

promote similarity—if not always

uniformity—in state regulation. The

NAIC meets several times a year and

committees of regulators work on model

statutes and regulations. Numerous

industry and other stakeholder

representatives attend NAIC conferences

to monitor and influence the development

of model laws. NAIC has continued to

increase in power over the years as

interest in uniformity in state regulation

has gained ground. In addition, the ACA

delegated certain functions to the NAIC,

directing Secretary of the Health &

Human Services Department Kathleen

Sebelius to act on recommendations of the


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NAIC related to Medical Loss Ratio

regulation and development of uniform

terms and definitions in health insurance

materials.

iv. NCOIL. The National Conference of

Insurance Legislators is also a source of

model insurance laws. The official

purpose of NCOIL as posted on the

organization‘s website is ―to help

legislators make informed decisions on

insurance issues that affect their

constituents and to declare opposition to

federal encroachment of state authority to

oversee the business of insurance, as

authorized under the McCarran-Ferguson

Act of 1945.‖ State Representative Craig

Eiland, a former Speaker Pro Tem of the

House and a long-time member of the

House Insurance Committee, is an active

member of NCOIL and was the entity‘s

President in 2005. Other Texas legislators

actively participate in NCOIL meetings

held across the country several times a

year.

v. Industry and Special Interests. The Texas

Ethics Commission website, the

regulatory authority over state lobbyists,

lists hundreds of associations

representing, among others, doctors, cattle

ranchers, energy producers, summer

camps, deer breeders, tort reform

supporters, trial lawyers, parents,

teachers, unions, realtors, and a laundry

list of organizations representing every

type of licensed and regulated entity in

the state, including the insurance industry.

Industry-related groups include America‘s

Health Insurance Plans (AHIP), the

American Insurance Association (AIA),

Property & Casualty Insurers Association

of America (PCI), the Texas Association

of Health Plans (TAHP), the Texas

Association of Life & Health Insurers

(TALHI), the Texas Association of

Benefits Administrators (TABA), the

Texas Association of Health Underwriters

(TAHU), and the Independent Insurance

Agents of Texas (IIAT). Each of these

organizations is a frequent source of

insurance-related bills, as is the

consumer-oriented Center for Public

Policy Priorities (CPPP).

vi. Constituent Requests. Constituents of

legislators are another source of insurance

legislation. In terms of health insurance

legislation, mandated benefits (a bill that

requires a health plan to cover a

specific treatment or health condition) are

the most common insurance-related bills

resulting from constituent concerns.

Constituents may also have concerns

about claims payment delays or

underwriting practices that result in new

insurance laws.

vii. International Association of Insurance

Supervisors (the “IAIS”). This multi-

national group of insurance regulatory

officials was established in 1994, and has

been influential in a number of recent

financial initiatives, including the Model

Holding Company Act amendments

discussed in Section IV below. IAIS has

been a primary proponent of the so-called

Own Risk and Solvency Assessment, or

―ORSA,‖ an NAIC-endorsed method of

getting insurers to engage in self-

examination of the sort of enterprise risk

discussed in Section IV. Expect to see

ORSA made the subject of NAIC model

legislation in the near future, and to show

up on the desks of state legislatures within

the next two years. Many insurance

regulators hope to have state ORSA

requirements in place in time for the

International Monetary Fund‘s next

review of the U.S. financial system in

2014.

E. Sources of Texas Insurance Regulation

viii. Texas Insurance Code. The annotated

version of the Texas Insurance Code now

merits two volumes containing almost

3500 pages of insurance laws. The

Legislative Council has been involved in


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a recodification effort for over ten years,

with the result, widely deplored by

insurance regulatory lawyers, that much

of the Code has been renumbered and

revised. Beware reliance on references to

enactment dates of statutes because in

many cases the legislative history refers

only to the recodification bill and not the

date of original enactment. For lawyers

that practice at TDI, many of the forms

and checklists may refer back to original

citations. Recodification is not supposed

to affect the substance of any restated

law; whether it does, or has, is a subject

for another CLE course.

ix. Texas Administrative Code. TDI

regulations are contained in Title 28 of

the Texas Administrative Code. TDI has

initiated a more collaborative process in

the development of regulations. On

controversial rules or rules impacting

multiple stakeholders, TDI typically

issues an informal draft rule and will host

a stakeholder meeting to solicit feedback.

After vetting the draft, the agency then

proceeds with the formal Administrative

Procedure Act requirements of publishing

a proposed rule in the Texas Register and

holding a formal hearing if requested. A

practice warning to insurance lawyers: not

all rules are updated to reflect statutory

changes. For example, 28 TEX. ADMIN.

CODE 3.504 requires health insurers to

offer ―conversion‖ policies. The

Legislature made this an optional practice

in the mid 90s but the rule has yet to be

updated. Conversely, if you can‘t find a

rule that a given statute seems to mandate,

don‘t despair. There may not be one. One

very valuable resource for understanding

the scope and nuance of a particular rule

is the particular rule‘s adoption order.

Typically the adoption order will contain

a recitation of various consumer and

industry comments to the rule, and the

agency‘s responses to the comments.

Refer to the Texas Register citations

related to the rule to locate the full

adoption order and regulatory comments.

x. Bulletins. TDI issues agency bulletins, or

directives, on a broad variety of matters.

Often, the agency may issue a bulletin to

alert the industry or regulated parties of

an agency position on particular practice

or an agency interpretation of a statute or

regulation. Bulletins are also used for

routine reporting and collection of data

from regulated entities.

xi. Manuals. To make matters more

complicated, some areas of the industry—

automobile, workers‘ compensation, and

title insurance, for example—are

regulated in part in ―manuals‖—

collections of forms and procedures

adopted by rule but not to be found in the

Administrative Code.

xii. Orders. Commissioner‘s Orders can also

be a valuable source of information about

TDI‘s interpretation of the Insurance

Code and related rules, and its judgments

regarding the relative severity of

violations of the law. Commissioner‘s

Orders are available here:

http://www.tdi.texas.gov/orders/index.htm

l and

https://wwwapps.tdi.state.tx.us/inter/aspro

ot/commish/da/clips2011.asp .

xiii. “Desk Rules” A ―desk rule‖ or ―desk

drawer rule‖ is a position of the agency

that is not formalized by statute,

promulgated rule, or bulletin. How does a

lawyer unfamiliar with agency workings

know that a desk rule may come into

play? He (or she) doesn’t. Traditionally,

the agency has utilized ―desk rules‖ most

often in connection with the review and

approval of insurance policy forms, in

determining what language is acceptable

and what is not. For the most part, many

of the desk rules are related to statutes

that are very broad or are not totally clear.

They serve a purpose—promoting

uniformity in what TDI will or will not

approve—but their informality can be

frustrating. It will be interesting to see

http://www.tdi.texas.gov/orders/index.html

http://www.tdi.texas.gov/orders/index.html

https://wwwapps.tdi.state.tx.us/inter/asproot/commish/da/clips2011.asp

https://wwwapps.tdi.state.tx.us/inter/asproot/commish/da/clips2011.asp


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what changes may appear in light of

Commissioner Kitzman‘s apparent dislike

of such practices.

IV. THE TDI OF TOMORROW

Predictions are a foolish business. But some

trends seem inevitable. Health insurance will continue

to be a political football. TDI will face increasing

pressure to align state law and solvency requirements

with the laws and policies of other states—and

possibly even other nations. Finally, TDI and the

system of state regulation generally will face

continued scrutiny from the federal government.

A. Increasing Federal Participation in Health

Insurance Regulation. The federal health care reform

bill of 2010, widely referred to now as the Affordable

Care Act or ACA (or, in some circles, ―ObamaCare‖),

is the elephant in the room in terms of regulation of

health insurance across the nation. If the law survives

Supreme Court review and the 2012 elections, it will

fundamentally change the landscape of health

insurance coverage in our state.

Texas is a plaintiff in Florida, et al. v. U.S.

Department of Health and Human Services, the so-

called ―multi-state‖ lawsuit, challenging the

constitutionality of the ACA. (See attached Appendix

C for a summary and current status of the health care

reform-related lawsuits.) Oral arguments before the

U.S. Supreme Court are scheduled for March 26

through 28, 2012, with some observers predicting that

a decision will be handed down this summer. If the

Court upholds the law and President Obama is

reelected, implementation will likely go forward.

However, any other results could result in radical

changes to ACA as currently adopted.

The centerpiece of ACA is the creation of state

health insurance ―exchanges‖ where individuals and

small employers can purchase health insurance. Under

the new law, states are required to have an exchange

implemented in time for enrollment effective on

January 1, 2014. Federal subsidies are available only

for insurance purchased through the health insurance

exchange. In addition, the exchange is supposed to be

the access point for individuals who may be eligible

for Medicaid or the Children‘s Health Insurance

Program (―CHIP‖). During the last session of the

Texas Legislature, enabling legislation was proposed

to authorize TDI and the Texas Health & Human

Services Commission to begin the task of

implementing a health insurance exchange. Despite

the urging of the bill‘s sponsor, Rep. John Zerwas, a

conservative Republican member of the Legislature

and practicing anesthesiologist, HB 636 did not even

make it out of committee. The Texas Legislature

soundly renounced any bills that appeared to support

―ObamaCare.‖ Thus, Texas has been noted in the

media as having done little to prepare for

implementation of a health insurance exchange.

Without enabling legislation or executive

direction, TDI is in the difficult position of monitoring

but taking no action in regards to an exchange. Under

ACA, the federal government will establish an

exchange if a state is not willing to do so. Notably,

fourteen states have implemented an exchange to date,

primarily Democratic controlled states such as

California, Colorado, Oregon, and Washington. Four

states have plans to establish exchanges, and twenty-

three others are studying options. For more

information on the status of state implementation of

ACA, see the Kaiser Foundation healthcare reform

website at www.statehealthfacts.org.

TDI is, however, enforcing the current provisions

of the ACA, such as ensuring that health plans comply

with the mandates related to coverage of children up

to age 25; the mandate for preventive care benefits at

no cost; and new restrictions on annual and lifetime

benefit limits. In addition, the agency recently

announced its external review process was compliant

with federal minimums, assuming health insurers

voluntarily complied with several missing

requirements. (See TDI Bulletin B-0051-11,

December 28, 2011). TDI is also charged with

enforcing minimum loss ratio requirements and rate

reviews related to potentially unreasonable rate

increases (those in excess of 10% without adequate

actuarial justification).

While ACA initially seemed to take all discretion

away from the states, it now seems apparent that the

tug of war between federal and state regulatory

authority will continue. For example, while the

Department of Health and Human Services recently

rejected the State of Texas‘s application to allow

phased-in compliance with ACA‘s Medical Loss

http://www.statehealthfacts.org/


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Ratio requirements, the federal government did cede

some discretion to the states on the subject of defining

―essential benefits‖—the minimum benefits that all

health plans must cover. (See Appendix D for a

timeline of ACA implementation dates, courtesy of

AHIP and the Texas Association of Health Plans.)

Also, an excellent source of "consumer friendly"

information on health care reform is the Office of

Consumer Information and Industry Oversight, or

―OCCIO.‖ OCCIO is a division of the Centers for

Medicare and Medicaid Services (―CMS‖), which is

part of the U.S. Department of Health and Human

Services (―HHS‖). OCCIO is implementing the

provisions of ACA related to private health insurance;

see. http://cciio.cms.gov/ for further information.

Side Note. The impact of health care reform on

the Medicaid population in Texas. While this paper

focuses on TDI, it is impossible to mention health care

reform without at least touching on the impact to our

state Medicaid population. Programs administered by

the Texas Health & Human Services Commission,

primarily Medicaid and CHIP, absorb around 32% of

the total two year budget for the state of Texas. (This

percentage represents the percent of all funds—both

general revenue and federal matching dollars). In

general, childless adults are not eligible for Medicaid

in Texas regardless of income levels. The Texas

Medicaid program currently covers children, pregnant

women, the disabled, and the elderly. As of June

2011, there were 3.6 million Medicaid enrollees and

almost 600,000 children enrolled in CHIP in Texas.

Under health care reform, all states must expand

eligibility for Medicaid beginning January 1, 2014 to

childless adults under 133% of the federal poverty

level (that equates to an annual income of slightly

under $15,000 in 2012). ACA is expected to add over

1.2 million more Texans to the Medicaid and CHIP

population.

Other Regulatory Trends Related to Health Plan

Coverage. TDI spent much of the first ten years of this

decade regulated disputes between health plans and

providers, primarily related to ―prompt pay‖ issues.

TDI routinely assessed fines of $1,000,000 plus

against health insurers and HMOs for violating the

Texas prompt pay laws. While much of the prompt

pay enforcement actions have tapered off, the agency

continues to monitor and enforce prompt pay

requirements. Much of the regulatory focus over the

last few years have related to balance billing and the

amounts health plans pay for services provided by out

of network health care providers (providers without a

contract with the health plan). TDI continues to tinker

with network adequacy regulations contained in rules

related to preferred provider benefit plans (commonly

referred to as ―PPO plans‖). (See TDI Bulletin B-

0051-11 dated December 28, 2011). In addition, the

agency is working on new rules related to Exclusive

Provider Organization plans or EPOs. (See HB 1772,

82nd

Legislative Session, 2011). An EPO plan is an

HMO look-alike health plan that does not generally

provide benefits for services from out of network

providers other than emergency care. However, the

health plan is offered by an insurance company and

generally is subject to the insurance code provisions

related to PPO products. (See TEX. INS. CODE ANN.

Chapter 1301).

HMOs in Texas. HMOs remain part of the health

care landscape, but they are less prominent than they

once were. For much of the 1980s, HMOs were touted

as the answer to the nation‘s health care problems. By

the 1990s, though, HMOs were the villain that

everyone loved to hate.59

The vitriol reached a

crescendo in the 2002 movie John Q, in which the

decisions of a heartless HMO cause Denzel

Washington to run amok in a Chicago hospital. HMOs

were also a popular target at the Texas Capitol, where

the Legislature passed several omnibus bills, including

the patient protection act and managed care liability

legislation, that were duplicated across the country.

Most of the major commercial health plans doing

business in Texas today continue to offer both HMO

and PPO products to their customers. However, HMO

products have changed as a result of consumer

disfavor (most plans eliminated the ―PCP gatekeeper‖

requirement) and market share for HMO products

dropped dramatically, with many employers favoring

PPO options for their employees. Much of the

premium dollar in the HMO market relates to the

federal Medicare Advantage and Texas Medicaid

managed care program. The majority of the Texas

Medicaid and CHIP population are now enrolled in a

managed care plan operated by HMOs contracted with

the Texas Health & Human Services Commission.

59

See, for example, ―The Doctor is Not In,‖ by Dr. Ronald

J. Glasser, Harper’s, March 1998, p. 35.

http://cciio.cms.gov/


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B. Federal Insurance Office. The Federal

Insurance Office (―FIO‖) is a new office within the

U.S. Department of the Treasury established by the

Dodd-Frank Wall Street Reform and Consumer

Protection Act of 2010. According to the FIO itself,

the FIO ―establishes needed insurance expertise at the

Federal level‖—for what purpose, is left unstated.

The FIO is also charged with advising the

Secretary of the Treasury on major domestic and

international insurance policy issues and consulting

with the states and state insurance regulators regarding

―insurance matters of national and international

importance.‖ The Office will monitor all aspects of

the insurance industry, including the availability of

affordable insurance to traditionally underserved, low

to moderate income, and minority persons and

communities. The Office‘s authorities extend to all

lines of insurance except health insurance (which is

now regulated, to a significant extent, by the

Department of Health and Human Services), long-

term care insurance (except that which is included

with life or annuity insurance components), and

federal crop insurance.

State regulators and some insurers view the FIO

with thinly veiled suspicion, suspecting it to be the

federal government‘s first beachhead in the invasion

of the property and casualty industry. While the FIO

has no actual regulatory authority yet, it does have

limited subpoena powers, which also rubs many

insurers and regulators the wrong way.

Probably the FIO‘s most popular proposed

function—one that almost everyone agrees could

actually be useful—will be to represent the United

States in dealing with other nations on insurance

issues. While the NAIC occasionally attempted to do

this, it had no authority to negotiate on behalf of the

nation as a whole. The FIO also has ―authority to

identify issues or gaps in the regulation of insurance

that could contribute to a systemic crisis in the

insurance industry or the broader US financial system;

and to make recommendations to the Financial

Stability Oversight Council as to whether an insurer,

including affiliates of an insurer, should be an entity

subject to supervision by the Board of Governors of

the Federal Reserve.‖ No such entity has been

identified yet. The Office also says it will play a role

in the ―resolution‖ of certain troubled insurance

companies, though as yet no one knows of any such

companies the FIO has tried to ―resolve.‖

In 2011, FIO Director Michael McRaith called for

public input on a report to be issued by FIO on the

state of U.S. insurance regulation, and how it could be

improved. The report was due out in January of this

year. So far, nothing has been issued. This could mean

that FIO has found nothing at all to criticize in the

way the states regulate the industry. But it probably

doesn‘t.

C. Increasing Interstate Collaboration in

Financial Regulation: Solvency II and the New

Model Holding Company System Act. One final

influence on TDI‘s role going forward is coming from

Europe. European insurance regulators have

traditionally taken a more ―holistic‖ view of solvency

oversight, looking beyond individual insurance

entities to the corporate groups to which they belong.

This ―European approach,‖ reflected in the ―Solvency

II‖ regulatory initiative of the European association of

insurance regulators, is beginning to find advocates in

the U.S. as well. Insurance companies in this state

have long been subject to the Insurance Holding

Company Systems Act, originally promulgated as a

model act by the NAIC in 1969 and codified in

Chapter 823 of the Texas Insurance Code. The NAIC

amended its model act in 2011. Texas was the first

large state to adopt the amendments and, as of this

writing, one of only three states to have done so.

Unsurprisingly, the Legislature added a few minor

tweaks to the amendments.

One major reason for the recent changes to the

Holding Company Systems Act was the AIG situation

discussed above. The amendments were drafted to

address the need of state insurance regulators to assess

the ―enterprise risk‖ within a holding company

system, rather than simply overseeing constituent

members of the system. Specifically, there were fears

that the financial activities of non-insurer affiliates—

large investments in over-valued real estate mortgage

securities, for example—could result in significant

damage to the solvency of affiliated insurers. The

point of the model act‘s new provisions is to try to

obtain a more ―holistic‖ reporting of possible risks to

a regulated insurer‘s solvency by looking at the

financial activities, and liabilities, of the entire group.


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Enterprise Risk Reporting. The biggest change to

the HCA is a new requirement that the ultimate

controlling person in the insurance holding company

system provide TDI with annual reports of potential

―enterprise risks‖ that may spread to insurers and

negatively impact their financial condition.

―Enterprise risk‖ is defined as ―any activity,

circumstance, event, or series of events involving one

or more affiliates of an insurer that, if not remedied

promptly, is likely to have a material adverse effect on

the financial condition or liquidity of the insurer or its

insurance holding company system as a whole.‖ TEX.

INS. CODE ANN. Sec. 823.002(4-a).

The enterprise risk report will be filed annually,

along with the holding company system‘s registration

statement, known as the Form B. This new report will

be designated as a ―Form F,‖ and will be promulgated

by rule by TDI. The amended statute adds to the list of

documents and information that an insurer must

provide. The new law requires companies to provide

financial statements for all affiliates of the holding

company system. The insurer will also have to file

information about the ―corporate governance and

internal control responsibilities‖ of the insurer‘s board

of directors—an echo of the corporate governance

concerns contained in the Sarbanes-Oxley Act—

including a statement that the insurer‘s senior

management or officers have approved and

implemented, and continue to maintain and monitor,

corporate governance and internal control procedures;

and the insurer‘s board of directors oversees corporate

governance and internal controls; plus any other

information the Commissioner requires by rule.60

No

such rule has been promulgated to date.

Supervisory Colleges. Section 823.0145 provides

that the Commissioner may participate in what is

called a ―supervisory college,‖ established to monitor

the regulatory compliance of insurance holding

company systems with international affiliates. It is

unclear what such colleges are meant to look like,

who will belong, and exactly what they will do. One

point of interest is that the Commissioner can

participate in such colleges with regulators of non-

insurer affiliates. Apparently, this could include the

SEC or one or more banking regulators, or any other

number of regulators. Also, note that insurers subject

60

See Section 823.052(c)(12) of the Code.

to the HCA may be required to pay for the expenses of

the Commissioner in participating in a ―supervisory

college‖ involved in overseeing the insurer.

Presumably, TDI will promulgate rules that lay out the

detail related to these supervisory colleges.

Disciplinary/Enforcement Provisions. There are

several new provisions that provide the Commissioner

with investigative tools and disciplinary measures

relevant to the statute‘s new focus on enterprise risk

management. One of high importance is new Section

§823.351, which provides that the Commissioner can

order an insurer to produce books and records from

non-insurer affiliates related, not just to the insurer

itself, but to the enterprise risk faced by the holding

company system as a whole, if the insurer is entitled

to get them through ―contractual relationships,

statutory obligations, or other methods.‖ The

Commissioner can fine an insurer not less than $100 a

day for delays in producing requested information.

Furthermore, the Commissioner can petition a court of

competent jurisdiction to compel a person, not

necessarily an insurer, or anyone employed by an

insurer, to give evidence related to an investigation by

the Commissioner under the HCA. Code § 823.452

specifies that if the Commissioner determines that a

person has committed a violation of provisions

relating to the control of a domestic insurer that would

tend to obscure the true enterprise risk faced by a

holding company system, the violation may serve as

an independent basis for disapproving dividends and,

more drastically, for placing an insurer in supervision

or receivership.

The Legislature‘s recent amendments to the

Holding Company System Act have been and will

continue to be the subject of much speculation. Who

decides what rises to the level of an “enterprise risk,”

for example? How must such risk be reported?

Several provisions, most notably those pertaining to

enterprise risk reporting and supervisory colleges, will

have to be supplemented considerably by TDI

rulemaking before we can come to any definitive

understanding of them. Likely, the rulemaking will be

fairly substantive, with significant impact on subject

insurers. Some of the law‘s new provisions may also

be subject to judicial review and scrutiny, since they

at least arguably grant TDI broader authority than its

mandated jurisdiction of regulating the conduct of

insurance in the State of Texas.


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V. CONCLUSION

The amended Model Holding Company System

Act is another effort by the NAIC to nudge its

constituent regulators out of their state-by-state,

entity-by-entity mindset and into a broader, more

holistic approach to regulation. The effort isn‘t

completely altruistic. Behind it is the knowledge that

if the states don‘t become more consistent, proactive,

and sophisticated in their analysis and regulation, the

federal government may step in and do these jobs for

them. Federal participation in the health insurance

market is already occurring at a level that seemed far-

fetched only a few years ago. State regulation of the

property and casualty industry seems safe for now,

through the Federal Insurance Office may be looking

for a reason to change that. The next battleground may

well be financial oversight. If an insurance and

financial holding company system faces significant

enterprise risk in the future without state regulators

being able either to predict the consequences or

prevent adverse risks from spreading, the results could

provide some final impetus to federal financial

oversight. If this happens, the days when TDI

consisted of a commissioner, a single clerk, and an

overstuffed filing cabinet may return sooner than

anyone anticipates.


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THE TEXAS DEPARTMENT OF INSURANCE: WHERE IT CAME … · 2013-10-17 · the Philadelphia...

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