Specialty Insurance Blog

The For-Benefit Corporation

There is a new corporate form gaining acceptance, and insurance agents & brokers should be aware of this, particularly when applying for directors & officers (D&O) liability insurance. Wikipedia provides a definition (see here, here, here & here):

A benefit corporation is a class of corporation required by law to create general benefit for society as well as for shareholders.

This new form of corporate entity is called a variety of names, including for-benefit corporation, benefit corporations and B corp. These entities are not to be confused with public benefit corporations, which are quasi-governmental entities.

The purpose of for benefit corporation law is to protect directors and officers from shareholder suits alleging any deviation from maximizing shareholder profits. This provides management with leeway to run a benefit corporation for the benefit of parties in addition to shareholders and for the benefit of the environment.

A number of states have passed benefit corporation legislation. According to the website B Corporation, 7 states have passed the enabling legislation. Maryland was the first, in 2010, and most recently California passed enabling legislation. There is also an organization called B Lab which certifies benefit corporations, and claims 450 certified entities to date.

It is unlikely that all professional liability underwriters will be up to speed on this new corporate form, and some education may be necessary when a for benefit corporation is requesting D&O and other liability insurances. (See here and here for additional information.)

Specialty Insurance Expertise: Tennant Risk Services
Supporting Insurance Entrepreneurship: Tennant Capital Partners

Professional Liability Market Tightening – A Little

After many years of relaxed underwriting and rate declines we are seeing limited signs of tightening in all segments of the professional liability insurance market – E&O, D&O, EPL and Technology/Cyber. Most of this change is tighter underwriting rather than rate increase, but both are occurring – a little. Most importantly, many underwriters are not tightening and increasing rates, leaving competitive options for many accounts.

While there have been isolated changes during the last few years, the current changes impact many more classes. Here are a few examples:

• A private company D&O market is raising rates approximately 10% on all renewals
• Market withdrawals in A&E (architects & engineers)
• Market withdrawals in insurance agents E&O
• A technology/cyber market is looking more closely at security measures utilized
• An E&O market is attempting to get 5-10% increases on all accounts
• One EPL market is restricting terms in certain jurisdictions

Underwriting changes are concentrated in a few segments and markets. This is an opportunity for smart underwriters and also for creative brokers. Competitive underwriters remain, and brokers can find the best client solution with some work.

What is the best way to navigate this changing market?

• Make sure submissions are complete and clear. We may request specific information not noted on an application in order to improve the presentation
• Look for market alternatives – there are still many markets
• Prepare clients for the changes
• Utilize an expert wholesale broker (ok, like us!)

Specialty Insurance Expertise: Tennant Risk Services
Supporting Insurance Entrepreneurship: Tennant Capital Partners

 

Small Companies at Risk of Data Breach

Small companies are at risk of hackers and resulting data breach exposure, and should be buying Cyber Risk coverage, according to Markel (see here).

Although the thefts of records at large corporations such as Sony have garnered headlines, hackers are finding it simpler going after small-to-midsize companies

Cyber Risk insurance is easy to obtain, provides broad protection and is inexpensive (see here, and our prior post here).  Our range of markets can provide Cyber Risk and Technology Professional Liability to all types of technology exposures.

Specialty Insurance Expertise: Tennant Risk Services
Supporting Insurance Entrepreneurship: Tennant Capital Partners

 

Encryption & Cyber Risk Insurance

Cyber Risk insurance underwriters have recently become more focused on the data security practices for portable media devices such as laptops, thumb drives and smart phones. Underwriters expect accounts with confidential data to use best practice to help mitigate the exposure, and we are seeing this put into practice as underwriters review encryption needs and use more closely.

Hackers are becoming increasingly successful in breaching security measures at both large and smaller organizations. While encryption is not a silver bullet, it does provide a level of protection from lost or stolen media. In a 2010 study, 46 percent of the lost laptops contained confidential data, only 30 percent of those systems were encrypted, and only 10 percent had other anti-theft technologies (see here). And lost laptops are the leading cause of HIPAA data breaches (see here).

Recent examples:

• BCBS employee loses laptop with info on 850,000 docs (see here)
• Stolen device held 520 patient records from a health office in Michigan
• Theft of laptop from employee home contained sensitive HR information
• Unencrypted flashdrive containing employee information lost during mailing to benefit provider
  Physicians smart phone, containing patient records, stolen from car
• Encrypted computer stolen from employee house, along with paper with password, contained patient records (see here)
• Stolen laptop contained names, social security numbers and credit cards numbers

A complicating and expensive factor is statutory notice requirements. Many jurisdictions have passed laws and regulations requiring notice to regulators and to individuals whose information may be compromised when a breach occurs, and the notifications costs and the adverse publicity are significant.

Underwriters are assessing the need for encryption by asking detailed questions, and for those accounts that do not use encryption underwriters are increasing pricing, declining risks, or carving back coverage (see here).

Please contact us for a Data Security and Encryption brief, and for more information on Cyber Risk and Technology Professional Liability insurance. Cyber Risk insurance is easy to obtain, provides broad protection and is inexpensive (see our prior post here). Our range of markets can provide Cyber Risk and Technology Professional Liability insurance to all types of technology exposures.

Specialty Insurance Expertise: Tennant Risk Services
Supporting Insurance Entrepreneurship: Tennant Capital Partners

 

Cyber Risk Insurance Need

Cyber Risk insurance is widely available and inexpensive, but not enough companies are buying the protection.  As noted in a recent survey by Towers Watson (see here), the majority of companies do not buy the coverage.  The survey of 164 risk and finance managers found that 73% have not purchased network liability policies. 

This survey was focused on larger companies, and we believe the uninsured number is much higher if small companies are included.  One estimate of the percentage of companies without Cyber Risk coverage is 80-90%, but our experience indicates that the number is likely in excess of 90%.

The obvious exposure is loss of data from hackers.  However, the majority of breaches are the result employee errors – lost laptops & thumb drives.  And sometimes these breaches can be extremely expensive due to the large volume of data residing on the lost media.

Technology coverages encompass a range of exposures.  Some are specifically tailored, and others are broader.  More information is available on the Technology page of our web site (see here).  Often these coverages are combined in one policy – which we call Cyber Risk – but sometimes the forms are not quite as comprehensive.

The names used to describe the coverage can be confusing as well, which is why we use the term cyber risk.  Some of the names used to describe these coverages include cyber liability, data breach, privacy, hacker coverage, network liability and technology E&O. 

Specialty Insurance Expertise: Tennant Risk Services
Supporting Insurance Entrepreneurship: Tennant Capital Partners

Cyber Risk Insurance & Recent Breaches

Cyber Risk insurance is widely available and inexpensive, but not enough companies are buying the protection.  This is surprising given the number of high profile breaches that have occurred recently.  Two recent breaches garnered significant press:  Eplison & Sony, and many more have been noted in the press.

Epsilon, a marketing firm whose services include permission-based e-mail marketing and database hosting, suffered a massive breach (see here).  Epsilon provides marketing services to some of the largest companies in the US.  It is estimated that the breach resulted in the loss of only names and email addresses.  However, security experts have speculated that this list could increase the responses of phishing emails.

Sony’s breach was significantly more complicated and potentially damaging (see here, here, here and here, and note that this breach is still evolving as this is written):

• The breach appears to be a series of breaches
• Sony took its PlayStation Network offline for nearly two weeks due to an intrusion
• Hackers gained access to databases containing subscriber information for Sony Online Entertainment
• The stolen data includes customer names, e-mail addresses and hashed versions of their account passwords
• Sony discovered a file that makes a clear reference to the “Anonymous” hacking group.
• The breach could impact as many as 100 million of its customers
• Stolen data could be used to spam customers or trick them with phishing e-mails.

Lastly, Kaiser was fined $200,000 for accidentally posting confidential information on 150 individuals (see here).

For some short summaries of a number of other breaches, see here.

Technology coverages encompass a range of exposures, including protection for various types of breaches.  More information is available on the Technology page of our web site (see here).  Often these coverages are combined in one policy – which we call Cyber Risk insurance.

The names can be confusing as well.  A long list of impressive sounding names are used to describe these coverages, including cyber liability, data breach, privacy, hacker coverage, network liability and technology E&O. 

Specialty Insurance Expertise: Tennant Risk Services
Supporting Insurance Entrepreneurship: Tennant Capital Partners

Insurance Market Turn

Industry experts have been speculating about a turn in insurance pricing for quite a while (see older commentary here, here and our prior post), but are we actually getting close?  Some very impressive experts are saying so.  Not right now, but over the next couple of years.

The first is Alirt Research, an insurance analyst firm focused on the insurance business.  As noted on PropertyCasualty360 (see here), Alirt believes a turn is on its way, but not for a year or two:

[The hard market] is definitely coming, but maybe not as fast as some people would think

Additionally, Robert Hartwig, President of the Insurance Information Institute (I.I.I.), sees a gradual turn starting to show (see here & here):

Prices are beginning to firm in the sense that insurers are not granting dramatic decreases on the businesses they write. Over the next two to three years, rates will move up gradually as carriers flee inadequately underwritten business and work to replace their reserves

Bill Berkley, Chairman and CEO of W.R. Berkley Corp., is also expecting a tightening of pricing (see here) from a change in mind set:

One of the primary drivers of the new market direction will be the realization that pricing cannot continue in the direction it has been and needs to change. Whether it will be a single dramatic event, the eventual realization that reserves are inadequate or an increase in reinsurance rates, there will be a mind change that will precipitate a change in market direction.

Note – the insurance industry is cyclical, ranging from “soft” to “hard” (see here).

Specialty Insurance Expertise: Tennant Risk Services
Supporting Insurance Entrepreneurship: Tennant Capital Partners

Corporate Forms for Insurance Businesses

What corporate form should you choose if you are starting an agency or brokerage insurance business?  The most obvious choices are a C corporation, an LLC, or an S corporation (as they are commonly referred to).  S corporations were a widely used corporate form for small business, LLCs have their advantages and are highly popular, and the traditional C corporation has its own practicalities.  Sole proprietorships and partnerships are sometimes used as well, but these days neither is ideal for a new insurance agency or brokerage business.

Both LLCs and S corps are pass through entities for tax purposes, but LLCs generally have more flexibility.  Here are some of the pluses and minuses of each for consideration, and some sources of additional information.

LLCs are generally considered the best structure for tax purposes due to the pass through feature and their flexibility.  This is especially important in a sale of the business because insurance agency buyers generally want to buy assets, not the corporate entity.  With an LLC form, a sale of assets is taxed at the member level, not at the LLC level.  However, members of LLCs are considered self-employed, and will be subject to employment taxes.

While the sub-S corporate structure provides the income tax pass through feature of an LLC, there are more restrictions on who can be owners.  While this may not be an issue at startup, the structure can impact subsequent capital raising and strategic partnership efforts.  Salary compensation paid to the owner is subject to employment tax and the rest is paid as a distribution.  This can be an advantage, but is also a complex area subject to IRS scrutiny for abuse.

The traditional C corporation structure has the disadvantage of no tax pass through, which creates a double taxation on any distributions beyond compensation.  Therefore, it is hard distribute profits to owner without excessive taxation.  Dividends are double taxed – they are taxed at both the corporate level and at the investor level.  In addition, a sale of assets is double taxed in a corporation as well, which means it is imperative that the buyer agree to acquire the entity.  Insurance buyers typically do not want to buy the corporate entity, just the agency or broker business & other assets.

A new issue for pass through entities in the insurance business may be coming as states look for new sources of revenue.  Insurance agencies and brokers licensed as non-residents may become subject to income taxes on business originating in these non-resident states even if the agent or broker has no presence in the state.  For example, California has revised its approach (see here):

California has adopted a new "doing business" standard beginning 1/1/2011 which will impact taxpayers, including corporations, pass-through entities and their owners.  Owners of pass-through entities that did not have nexus before may have nexus starting in 2011.

The filing of multiple state income tax returns for each member of an LLC will be an undue burden on the LLC, and therefore a more traditional C corporation form may be preferable.

Additional Sources of Information:

S Corps vs LLCs (see here, here & here)
S Corporations
LLC vs C corp
Table Comparison of Entities
New York Discussion
S Corp Tax Increase
California Tax Changes (see here, & especially here and here)

Specialty Insurance Expertise: Tennant Risk Services
Supporting Insurance Entrepreneurship: Tennant Capital Partners

 

Cyber Risk & Corporate Boards

Data security and cyber exposures are becoming a greater threat to organizations of all sizes, and insurance agents and brokers can provide valuable counsel to their clients on insurance and associated risk management services available.  According to a recent article in BoardMember.com, Boards are not paying enough attention (see here):

Many boards have largely failed to recognize the basic existence of cyber risks, much less understand the different types that are out there.

The article also points out that cyber crime has grown significantly more sophisticated, and notes a new type of attack:

Advanced persistent threats, or APTs, slowly rob companies of their most valuable information. They are not the work of hackers, but of tenacious, well-funded professionals focused on espionage…While breaches of customer data usually generate administrative costs, the newer breed of APT attacks could thwart strategic plans, costing untold amounts. In a 2010 report, Mandiant, a computer security firm, relayed the case study of a Fortune 500 manufacturing company that was forced to give up its plan to acquire a Chinese firm after discovering that details of its pricing and negotiating strategies had been pilfered from its computers.

Obviously, organizations need to be proactive in protecting their data and business processes through appropriate security measures.  Insurance offers an additional form of protection that organizations can use. 

Increasingly, companies are turning to cyber risk and privacy insurance to protect themselves. Such policies generally cover damage to a company’s data or lost income resulting from a cyber break-in, as well as liability from any lawsuits….The most useful aspect of the policies may be coverage for post-breach response costs, as well as services designed to help companies respond.

The counsel provided by insurance agents and brokers to their clients on insurance and associated risk management services can be a critical component of an organizations cyber security strategy.

Specialty Insurance Expertise: Tennant Risk Services
Supporting Insurance Entrepreneurship: Tennant Capital Partners

 

NY Producer Disclosure & Surplus Lines

If there is a question whether New York’s new Regulation 194, the new insurance producer compensation disclosure regulation which became effective on January 1 of this year, applies to excess and surplus lines wholesale brokers, the Excess Line Association of New York (ELANY) and the Insurance Department have the answer (see here and here). 

From the Department:

Section 30.5(d) of Regulation 194 states that the regulation does not apply to an insurance producer that has no direct sales or solicitation contact with the purchaser, which may include a wholesale broker or a managing general agent. Therefore, such a producer has no obligation to maintain records pertaining to producer compensation, unless the insurer has specifically contracted with the producer to maintain the records pursuant to Regulation 152. Of course, it is always prudent for a producer to maintain such records.

Reg 194 applies to surplus lines placements, but not wholesale placements.  So if a producer has direct contact with the insured, Reg 194 applies to that producer regardless of whether the transaction is admitted or non-admitted (surplus lines).

Specialty Insurance Expertise: Tennant Risk Services

Supporting Insurance Entrepreneurship: Tennant Capital Partners