When the California Department of Insurance (CDI) sent out a blanket order telling insurers to refund policyholders, it may have appeared a little draconian. In fact, the thinking behind the apparent demand is not quite as simple as that, as one US expert tells Intelligent Insurer.

What is clear is that the outbreak of COVID-19 has created a situation that makes setting future premium rates much more complicated in the Golden State.

As the US state with the largest economy, what California does is important. When the pandemic reached US shores, it was the first mainland state to issue a shelter-in-place order on March 20, 2020, and as a result has so far avoided the high infection rates seen in the northeast of the country.

But the decision to shut down was not without cost. California’s sizeable economy, equivalent to that of the whole of India, has been hit hard.

It was in this context that Ricardo Lara, commissioner of the CDI, made a number of requests and orders for insurers to give affected businesses much-needed financial relief.

On April 3, he called for an extension of claims deadlines, with a minimum 60-day grace period for policyholders to pay their premiums. On April 10, he extended auto insurance cover to include delivery drivers for essential businesses, for example for food deliveries.

The commissioner stepped up his actions on April 13 when he ordered insurance companies to return premiums to consumers and businesses affected by the COVID-19 emergency. This order was for March and April and covered lines such as private passenger automobile, commercial automobile, workers’ compensation, commercial multi-peril, commercial liability, medical malpractice, and “any other insurance line where the risk of loss has fallen substantially as a result of the COVID-19 pandemic”.

Lara pointed to the findings in the UC Davis COVID-19 Research Working Group report published on April 3 “Impact of COVID-19 on California traffic accidents”, which showed a reduction of more than half in accidents. Lara said that Californians were driving fewer miles, while falling payroll and receipts, due to closure orders, have also dramatically reduced risk of a liability loss for businesses.

“Consumers need relief from premiums that no longer reflect their present-day risk of accident or loss,” he said at the time.

Before the April 13 order, insurers such as Allstate and American Family had already said they wanted voluntarily to refund a portion of the premium to their policyholders because they could see that their claims costs were coming down.

In some US states, insurers would have been able to act on this. But in California it was not quite so simple.

Taking action

Dee Dee Mays, principal and chief actuary at Perr&Knight, explains: “In California, if most insurance companies want to adjust their rates they have to submit a filing to the CDI. This is reviewed to make sure their rates are adequate, not excessive, and it takes a long time. It could take months.

“So if an insurance company in California wanted to give someone back 15 percent of their premium for two months, as Allstate and American Family were saying across the country that they were doing, there wasn’t really a mechanism to do that under ‘prior approval’ Californian regulations,” Mays explains.

This is where the CDI’s refund order comes in. To enable insurers to offer rebates as claims fell, the department issued its order which, it could be argued, acted as a shortcut around the state’s ‘prior approval’ regulations. Under the order, insurers in the state could adjust their rates more quickly and pay refunds.

Mays adds: “Every state has different regulations regarding filing rates. Some have ‘file and use’ instead of ‘prior approval’, where you could just file it and do it that same day.

“For example, Allstate could have filed in Colorado on April 6 and said: ‘starting on April 6 we’re giving 15 percent of the premium back for April and May policies’. And they could go ahead and implement it. But because California is a ‘prior approval’ state they didn’t have that ability.”

On May 15, the CDI expanded the premium refund order to include the month of May. The department stated: “The commissioner’s bulletin in April 2020 requires insurance companies to provide an adjustment to the premium in the form of a premium credit, reduction, return of premium, or other appropriate adjustment as soon as possible, and no later than August 11, 2020.

“For most if not all consumers, this will be a percentage of the premium—not 100 percent—and the CDI will validate each insurance company’s plan so that refunds are adequate and reflect the reduced risk.”

The department has also called on insurers to file reports on their refund decision to the CDI by June 12.

How much?

A question remains around what percentage the refund should be and how that is determined.

Mays says: “This is a one-time refund. Companies have to say what refunds they’re giving on the premiums they have charged for a portion of March and all of April and May.

“Usually companies evaluate their rates about once a year to determine whether they are adequate or inadequate and to decide whether they need to make changes. This situation will make it more challenging to do that.

“Even without the refunds you would have this period of reduced driving or restaurants being closed, whichever line you’re looking at.

“How do you evaluate how that’s going to impact the future? It will be difficult for companies to evaluate what their rates need is after everything gets back to normal. For a while you’ll have to assume it should be the same as it was before.”

Some will point to the UC Davis report that found there was a more than 50 percent reduction in collisions and injuries and fatal accidents reported by the California highway patrol as people stayed at home.

Should this inform the percentage of refund? Mays says probably not as much as might be expected.

She highlights the role of commissioned agents in the policy-writing process.

“It depends on an insurer’s structure. If they write directly an agent may not be involved. But in a lot of cases, they might have a percentage of the premium going straight to the agent when the policy is written.

“So when an insurer is giving a refund to the policyholder, you have to consider that,” she says.

Unless the insurer is going to take money back from the agent, then an amount lower than 50 percent is more likely, hence the 15 percent figure being touted by many insurers.

But again, that is not quite the whole story.

Larger insurers with lots of policyholders and a higher volume of premium are better able to absorb refund payments, says Mays. However, smaller insurance companies, referred to as ‘non-standard’ insurance companies, may not be experiencing as much of a decrease in claims frequency.

These firms might typically write policies for younger drivers, people who have had accidents or people who want to pay their premium monthly rather than have a long-term policy. Mays says that these companies may have a larger decrease in premium due to the shutdown.

“As claims were going down, the volume of premium they were expecting was also going down. Those two things cancel each other out,” she explains.

“If they have to go back and refund, these ‘non-standard’ insurers have all their fixed expenses to cover. As premium falls those costs stay flat, meaning that costs have gone up as a percentage of premium.

“They don’t have as much premium coming in to cover that and some of these companies may be struggling with the refunds.”

Mays says that based on correspondence she’s had with the CDI, they want companies to reflect the reduction in risk of loss when determining their refunds.

“They did not seem open to saying ‘you can consider that your expenses have gone up’, but they also said they don’t want to put anyone in financial danger.

“Part of their duty as the CDI is to make sure that their insurance companies are healthy and able to continue writing business and paying claims,” she adds.

The CDI’s actions could have further far-reaching implications, particularly for non-admitted insurers, according to Mays. In broad terms these are insurers that can write policies for people who could not get insurance from a company that is licensed in the state.

This could be because a licensed insurer was not willing to write a certain limit, so a non-admitted insurer is an alternative. Such insurers are not required to file their rates for approval in the state.

However, the CDI order sent out in May “was specifically addressed to non-admitted insurers as well as licensed insurers”, Mays points out.

She says people have questioned whether the CDI has the authority to order anything from an insurer that it isn’t regulating.

“Potentially companies won’t want to say ‘we don’t want to pay refunds’ because they don’t wish to stand out as saying ‘we don’t want to help policyholders’.

“But if a non-admitted insurer goes along with the order to avoid bad publicity, that might potentially set a precedent, although that would be a legal question.”

What happens next?

In terms of the COVID-19 pandemic, strategies designed to tackle the pandemic appear to be moving in the right direction, although the risk of a second and subsequent waves of infection remains.

Insurers were required to file their refund decisions to the CDI by June 12. These reports could be made publicly available, although Mays says she expects that people will request them.

“What I’ve seen in other states is that most companies are giving about 15 percent refunds, some a little higher.

“In the CDI bulletin a 50 percent reduction in frequency is quoted, so I’ll be curious to see if companies get a lot of push-back once the reports are filed, with people asking ‘why is the refund 15 percent, why isn’t it 50 percent?’,” she concludes.

Image: shutterstock.com / IM_photo