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Legal Ease by Scott Sinder A-I-Geeeze!

NAIC and Congress posture but do not panic as world’s largest carrier is derailed by its financial products unit.

By  Scott Sinder and John Fielding

The NAIC’s Fall National Meeting just outside our nation’s capital had an unusual air of urgency. Beyond the standard discussions about model laws and proposed rules, everyone was talking about the economy, the proposed bailout of Wall Street and—closer to home for the insurance regulators and industry hangers-on—the fate of AIG.

The regulators devoted a full day to meeting with AIG officials (including new CEO Ed Liddy), holding task force meetings, briefing state legislators and the public, and answering press questions.

The regulators established an AIG Special Task Force to coordinate action and the flow of information on the many issues facing AIG companies and their policyholders. The task force is, essentially, a committee of the whole. The real work will be done in two smaller committees focused on Form A transactions and possible redemption issues for AIG’s life companies.

New York Insurance Superintendent Eric Dinallo is taking the lead on the substantive issues, along with Pennsylvania Commissioner Joel Ario. New York’s interest in the matter is obvious. Ario is deeply involved because several AIG operating companies are domiciled in Pennsylvania. Other regulators, including NAIC President Sandy Praeger and Illinois Insurance Director Michael McRaith, are also heavily involved.

The regulators’ overriding message to everyone who would listen—legislators (including members of Congress), the press and the public—was simple: AIG’s dozens of insurance subsidiaries operating in the U.S. are financially sound. In fact, Dinallo suggested that the federal government’s willingness to extend the huge line of credit to the parent company is itself proof of the health of the subsidiaries. The problems the company faces arise out of its non-insurance activities—activities, the regulators were quick to point out, that are subject to federal regulatory oversight. Insurance policyholders are protected by state solvency rules, regulatory controls limiting the parent company’s ability to tap into a subsidiary’s assets, and, if necessary, state guaranty funds.

Regulators are concerned about how this will play out, but at the same time they are confident that the overall health of the AIG insurance subsidiaries will ensure policyholders are protected. Ario noted that insurance agents and brokers have a significant responsibility here. It is in all our interests—regulators, the federal government, carriers, producers and policyholders—that these companies remain solvent. He cautioned that taking advantage of the situation to move policies out of AIG companies would undermine those efforts. Moreover, he pointed out that spreading misleading or false information about an insurance company (“disparagement”) is an unfair trade practice violation in every state—subject to potentially significant penalties. Both Ario and McRaith emphasized that this does not mean any carrier should get favored treatment to avoid possible bad consequences—just fair treatment based on fair competition in the marketplace that is not skewed by false information or self-interest.

Given their concerns, regulators were pleased to hear all that The Council and Council members have done to educate individual brokers and clients about the situation and to reassure them about the health of the AIG insurance subsidiaries.

As for the NAIC, McRaith has taken the lead in reaching out to the industry and public on the issue. Most, if not all, the states will be issuing bulletins and other communications to the public about the AIG situation, and many of the commissioners are organizing conference calls with brokers and agents to discuss the issues involved.

Let’s hope the current level of good communication continues. This will be increasingly important as the current crisis mode evolves into the more mundane day-in, day-out job of dealing with the aftermath.

Part of that job will be selling off at least some of the AIG subsidiaries. The regulators seem confident—or maybe just hopeful—that the AIG subs will find strong insurance company suitors, resulting in straightforward Form A transactions. And they’ve promised to coordinate with each other through the NAIC to ensure that sales are not unnecessarily hung up by regulatory hurdles.

Finally, I think we will also see some chest thumping by the regulators. They proudly credit the state system and their oversight with keeping the AIG insurance subsidiaries solvent and ensuring that the collapse of the (federally regulated) parent does not harm policyholders. Even Warren Buffet complimented Dinallo’s handling of the situation.

Conversely, we will also hear from detractors claiming this is evidence the state insurance regulatory system doesn’t work. Treasury Secretary Henry Paulson called for federal regulation, and several insurance trade groups have, as well, pointing to this episode as proof that the state system simply cannot oversee these multinational, multifaceted financial conglomerates.

Clearly, there was a regulatory failure here. But given that Congress was ready to leave so members could campaign for reelection, resolving the details of the problem will have to wait until next year. In the meantime, all the hot air will keep us warm in Washington this winter.

Sinder, a partner at Steptoe & Johnson, is CIAB General Counsel.

Fielding is of counsel at Steptoe & Johnson.

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