Insurance Industry Developments for Fall 2009

Preview of the 2010 Florida Legislative Session
By Leonard E. Schulte

The Florida Legislature’s 2010 regular session will convene on March 2, 2010 and is scheduled to end 60 days later on April 30. Hundreds of bills have already been filed for 2010, and legislative committees have already held several rounds of meetings to prepare for the 2010 session, though the session’s major insurance controversies have yet to emerge.

The Political Environment
Under Florida’s unique governmental structure, some insurance matters (including company licensing, rates, forms, and solvency) are regulated by the Office of Insurance Regulation (OIR). The OIR is governed by the Financial Services Commission (FSC), which adopts rules and appoints the Insurance Commissioner. The FSC, also known as the governor and cabinet, consists of the governor and three other officers who are elected statewide: the chief financial officer, the attorney general, and the commissioner of agriculture. Other insurance matters (including agent licensing, consumer complaints, and insurance fraud) are regulated by the Department of Financial Services, which is headed by the elected chief financial officer.

The 2010 election cycle will see contested races for all four offices with regulatory power over insurance. Republican Governor Charlie Crist is running for the U.S. Senate; Attorney General Bill McCollum is the likely Republican nominee for governor; Chief Financial Officer Alex Sink is the likely Democratic nominee for governor; and term limits prevent Republican Agriculture Commissioner Charles Bronson from seeking reelection.

Insurance matters have been among the most controversial issues of recent legislative session, but it is unclear at this point whether any of these statewide campaigns will try to make insurance a major issue in the upcoming session or whether they will seek instead to avoid insurance controversies, at least while the Legislature is in session.

Key legislators also are seeking higher office. Senate President Jeff Atwater (R-North Palm Beach) is running for chief financial officer; Sen. Carey Baker (R-Eustis), who has been prominent in insurance issues for many years, is running for commissioner of agriculture; and several members of the state House who have been involved in insurance issues are running for election to the state Senate.

Does Deregulation Have a Future?
In 2009, the Legislature passed HB 1171, the so-called Consumer Choice bill, which effectively deregulated residential property insurance rates for insurers that met certain surplus requirements. Gov. Crist vetoed the bill, alleging that it would cause significant and unpredictable rate increases, would harm newly created Florida domestic companies, and would give large insurers the ability to cherry-pick among their customers. Supporters saw the bill as a means of preserving a private sector property insurance market, while opponents viewed it as increasing the market power of large companies.

The sponsors of the vetoed bill, Rep. Bill Proctor (R-St. Augustine) and Sen. Mike Bennett (R-Bradenton) have stated publicly that they intend to file legislation for the 2010 session with similar goals to the vetoed HB 1171, while trying to address at least some of the governor’s objections. As an alternative, other prominent legislators are suggesting a new openness to more flexible regulatory approaches, including rapid recovery of reinsurance costs and “flex-band” rating that would allow small rate changes without regulatory approval.

Other Property/Casualty Issues
A number of other property/casualty issues are currently in the discussion stage, including:

• Mitigation: Property insurers have raised concerns that mandatory premium discounts for hurricane shutters, roof anchors, and other devices that reduce losses were too high or were being applied fraudulently. Under legislation enacted in 2009, the Florida Commission on Hurricane Loss Projection Methodology is studying mitigation discounts. The study could result in regulatory or legislative actions to revise the mandatory discounts. Insurers also are seeking to address the concern that substantial numbers of mitigation discounts may have been obtained fraudulently.
• Florida Hurricane Catastrophe Fund: Legislation enacted in 2009 will gradually reduce the fund’s obligations by phasing out the optional TICL layer of reinsurance coverage, which was added in 2007 in an effort to force property insurers to lower their rates. However, another provision in the same bill changed the start date of insurers’ reimbursement contracts, which has had adverse accounting impacts on insurers. While the Legislature is likely to address the contract date issue, no other major changes to the fund are currently under discussion. Legislators’ interest in making major changes to the fund appears to have waned in light of the improving world financial markets. Because of these improvements, the fund now estimates its claims-paying capacity at $18.7 billion, which would enable the fund to meet all of its obligations up to the top of the mandatory “basic” layer of reinsurance coverage. At the peak of the financial crisis, the fund projected a shortfall in the basic layer of at least $6.7 billion.
• Other fraud issues: The Division of Insurance Fraud of the Department of Financial Services is expected to propose legislation to address a perceived increase in auto insurance fraud and to expand the division’s investigative jurisdiction into non-insurance areas such as money laundering. Several auto insurers also are seeking solutions to what they see as a growing problem. Property insurers are likely to focus on mitigation fraud and what the insurers see as abuses by public adjusters.
• Citizens Property Insurance Corp.: Legislation enacted in 2009 provided for the first rate increases for Florida’s insurer of last resort since 2005. Some legislators have expressed their concern that the Citizens rate increases under the 2009 law, as approved by the OIR, are lower than anticipated and will delay efforts to make the state-created entity solvent. It is not clear whether these concerns will prompt legislation to speed up Citizens’ “glide path” to solvency. The improved financial standing of the Florida Hurricane Catastrophe Fund may affect legislators’ sense of urgency about Citizens, which is heavily dependent on the fund.

A Perspective on Health Insurance Reform: The Unintended Paradox of the Individual Mandate
By Kenyatta Bolden

As Congress continues to inch closer to passing sweeping reform of the U.S. health insurance system, lawmakers still have a long way to go to ensure that such reform does not unleash a flurry of costly unintended consequences. One such unintended consequence is tied directly to the concept of the individual mandate, which is the requirement that everyone obtain insurance or pay a penalty.

The problem, plainly stated, is that the relative low cost of the proposed penalties for not obtaining insurance, coupled with the requirement that insurance companies accept applicants with pre-existing conditions, creates an inverse incentive for healthy individuals to simply not buy into the new health insurance system until after they are sick, thus decreasing the size and relative health of the risk pool and increasing the cost of insurance for everyone.

Under the status quo, forgoing health insurance is unwise and dangerous, as unforeseen accidents and illnesses can be financially devastating. An individual who does not purchase insurance and then tries to buy into a plan when coverage is needed is, currently, often rejected or priced out and generally subject to pre-existing condition exclusions and waiting periods should they find any insurance at all. However, under the current versions of the health bills in both the House and the Senate, these same individuals are guaranteed the right to come back into the system at any time they need insurance and cannot be discriminated against in any way.

While there are penalties imposed on those who do not purchase insurance, they are fairly weak. Notably, the House bill penalty is capped at 2.5 percent of the taxpayer’s modified adjusted gross income, while on the Senate side the penalty would start at $95 in 2014 and would increase to $750 for qualified individuals by 2017. Compared to the $5,000 estimated cost for health insurance for an individual in the post-reform market, the individual mandate penalty, which comes with the right to purchase a guaranteed issue policy, will be the deal of the new decade for healthy Americans. That is, the ability to purchase insurance at any time and at a price that does not discriminate based on health status could lead many healthier Americans to forgo insurance until there is a major illness. Such adverse selection among America’s healthy individuals could lead to an individual health insurance market that is saturated with sicker, more costly individuals.

While there are arguments to be made on both sides regarding the appropriateness of the individual mandate, the purpose of it is clearly to strengthen and stabilize the health insurance risk pools by making sure they include healthy people (who would represent a lower cost to the insurance companies, but who also are more likely to take the risk of not having insurance). If these individuals pay into the health insurance system, there will be more resources to pay for high-cost individuals. However, if only high-cost individuals purchase insurance, the cost for health insurance will be more expensive for everyone else in the pool. Therefore, instead of providing affordable health insurance for every American, health insurance reform initiatives may result in insurers raising rates to pay for the new, sicker enrollees.

While Congress continues to debate the specific provisions of health insurance reform, it must closely analyze whether the health system it is proposing will actually work in the real world of layoffs, recession, and frugality, where the possibility of saving several thousand dollars on insurance is more than a marketing campaign.

Supreme Court Hears Oral Arguments Regarding Standard for Patent Eligibility — Decision Could Have Significant Impact on Insurance Industry
By David G. Luettgen

On November 9, 2009, the U.S. Supreme Court heard oral arguments in Bilski v. Kappos, No. 08-964, which is an appeal from the U.S. Court of Appeals for the Federal Circuit’s (Federal Circuit) decision in In re Bilski, 545 F.3d 943 (Fed. Cir. 2008). Bilski raises the issue of what kinds of ideas are eligible for patent protection. Stated more simply, “Is this idea the type of thing I can possibly patent?” The Court’s decision in this case could impact the extent to which patents are available for insurance-related innovations.

Background
The invention in Bilski relates to a method for managing the consumption risk costs of a commodity sold by a commodity provider. The patent claim at issue merely recites various forms of human activity such as “initiating a series of transactions between said commodity provider and consumers of said commodity,” “identifying market participants for said commodity,” and “initiating a series of transactions between said commodity provider and said market participants.” The patent claim does not transform matter in any way and does not involve the use of a computer or other type of machine.

At the Supreme Court, the USPTO argued that the Bilski invention is not patentable because mere methods of organizing human activity are not eligible for patents under the Patent Act. The USPTO argued for affirmance of the machine-or-transformation test, which was adopted by the Federal Circuit as the test for patent eligibility. According to the machine-or-transformation test, a process is patent eligible under 35 USC § 101 if: (1) it is tied to a particular machine or apparatus, or (2) it transforms a particular article into a different state or thing. In re Bilski, 545 F.3d at 943, 954 (2008). Bilski, on the other hand, argued that the machine-or-transformation test is unduly narrow. Bilski urged the Supreme Court to adopt a test that would allow patents on processes so long as they represent a practical application of an otherwise unpatentable law of nature, natural phenomenon, or algorithm. Not at issue on appeal is whether the Bilski invention meets other standards for patentability such as the requirements of novelty and non-obviousness under 35 USC §§ 102 and 103.

Oral Arguments
During oral arguments, the Justices expressed skepticism of Bilski’s proposed broad standard for process patents, suggesting that there was no basis in either the framers’ intent, past legal precedent, or historic practice to allow patenting of methods from almost every business. One example of such skepticism happened to relate to the insurance industry. Specifically, Justice Kennedy expressed skepticism about whether Congress would have wanted to grant a patent to whomever invented the concept of insurance in the late 1600s, stating:

[T]he insurance business, as we know it, really began in England in 1680, when they discovered differential calculus, and they had expectancy and actuarial tables, actuarial for life, expectancy for shipping, and this really created a whole new industry. In your view, I think, clearly those would be patentable, the explanation of how to compile an actuarial table and apply it to risk. [I]t’s difficult for me to think that Congress … would have wanted to give only one person the capacity to issue insurance.

However, the views of the Justices on the patent eligibility of software were less clear. Some Justices appeared to express support for broad patent eligibility of software and medical innovations. For some Justices, the issue may be how to craft a test that permits patenting of software in general but avoids or limits the use of software patents as a back door for patenting pure business methods. Some Justices also appeared to express the view that the Bilski case should be narrowly decided. This would leave unresolved the important question whether implementation of an invention in a general-purpose computer system is sufficient to satisfy the standard for subject matter eligibility.

Potential Industry Impact
The Supreme Court’s decision in Bilski will likely have a broad impact on the insurance industry. While most insurance companies would not consider themselves to be in the software industry per se, most insurance companies rely heavily on computers in their day-to-day business operations. Thousands of patent applications have been filed relating to computer-implemented insurance innovations in such areas as application processing, claims processing, underwriting, risk modeling, fraud detection and prevention, Web site features, and benefit plan administration.

In recent years, there has been an increase in patent litigation between insurance companies. Insurance companies also face patent threats from companies outside the insurance industry; for example, from software companies that believe they have patented innovations used in many industries, including the insurance industry. The impact of Bilski on existing and future patent litigation could be significant if the patents involved in litigation do not meet the new standard for subject matter eligibility.

A decision in the case is likely to be handed down sometime in the first half of 2010. In the meantime, insurance companies should consider continuing to proceed with filing patent applications, particularly where commercializing the inventions involves the use of a computer system. Any such patent applications filed now will likely be pending long after June 2010 and will be analyzed by the USPTO under whatever new standard is formulated by the Supreme Court. At the same time, to the extent possible, efforts also should be made to prepare patent application claims that comply with tighter standards for subject matter eligibility.

Wisconsin Supreme Court to Decide Whether Group Health Insurers Must Provide Maternity Coverage to Surrogate Mothers
By Bartholomew F. Reuter

In 2002, pursuant to Wisconsin’s form filing rules, MercyCare Insurance Company and MercyCare HMO, Inc. (together, MercyCare) filed a group health insurance certificate with the Wisconsin Office of the Commissioner of Insurance (OCI). Significantly, the certificate excluded coverage for “surrogate mother services” from the pregnancy benefits provided under the group policy. OCI approved MercyCare’s filing.

Two women who agreed to serve as surrogate mothers for other couples sought pregnancy benefits under the MercyCare certificates. Based upon the surrogate mother services exclusion, MercyCare denied the claims for those benefits. Although third parties ultimately paid for the surrogate mothers’ health care services, one of the surrogates filed a complaint with OCI alleging that it was improper for MercyCare to refuse to provide maternity benefits based on the surrogate mother services exclusion.

In response to the complaint, OCI issued a notice of hearing to determine whether the certificate violated Wis. Stat. § 632.895(7). The statute provides:

Every group [surgical, medical, hospital, major medical, or health insurance] policy which provides maternity coverage shall provide maternity coverage for all persons covered under the Policy. Coverage required under this subsection may not be subject to exclusions or limitations which are not applied to other maternity coverage under the Policy.

Following the submission of briefs, the Commissioner ruled that MercyCare could not deny health insurance benefits to surrogate mothers because “the legislative history indicates that the statute’s purpose is one of inclusiveness … .”

MercyCare petitioned a Wisconsin Circuit Court for review of OCI’s decision. MercyCare argued that the surrogate mother exclusion was permissible under Wis. Stat. § 632.895(7) because the exclusion applied uniformly to surrogacy maternity coverage for all insureds. In response, OCI asserted that, if a group policy provides maternity coverage, the statute requires the insurer to provide all such benefits to every insured regardless of how or why the insured became pregnant. The Circuit Court agreed with MercyCare and held that the exclusion was permissible because it applied uniformly to all covered persons. Accordingly, the Circuit Court reversed OCI’s ruling. OCI appealed the Circuit Court’s decision to the Wisconsin Court of Appeals.

The Wisconsin Court of Appeals reviewed the legislative history of Wis. Stat. § 632.895(7). That history suggested that, by passing the statute, the legislature intended to prevent an insurer from “treating group insurance members, their spouses, and their dependent children differently for purposes of maternity coverage.” Put another way, the statute appears to have been designed to require that the spouses and children of the primary insured be provided the same maternity coverage as the primary insured. The legislative history of the statute and MercyCare’s and OCI’s competing interpretations led the Court of Appeals to conclude that the statute was susceptible to more than one reasonable interpretation.

To resolve the competing interpretations, the Court of Appeals analyzed the level of deference that was due to OCI and its interpretation of the statute. MercyCare contended that because OCI had not previously interpreted Wis. Stat. § 632.895(7), the Circuit Court correctly interpreted the statute de novo when it overturned OCI’s ruling. OCI, on the other hand, contended that its decision should be afforded “great weight” deference because it is charged with the administration and interpretation of Wisconsin’s insurance statutes. The Court of Appeals found that Wisconsin case law could support either level of deference, and so it certified the case to the Wisconsin Supreme Court to resolve the conflicting case law.

In September 2009, the Wisconsin Supreme Court accepted the certification. Briefing to the state’s high court is currently underway and will likely be concluded in the first quarter of 2010. A decision from the Wisconsin Supreme Court is expected in the summer or fall of 2010.