What Happens When an Insurance Company Fails?

A Company In Trouble

Insurance is monitored and regulated by state insurance departments, and one of their primary objectives is protecting policyholders from the risk of a company in financial distress. When a company enters a period of financial difficulty and is unable to meet its obligations, the insurance commissioner in the company’s home state initiates a process—dictated by the laws of the state—whereby efforts are made to help the company regain its financial footing. This period is known as rehabilitation.

If it is determined that the company cannot be rehabilitated, the company is declared insolvent, and the commissioner will ask the state court to order the liquidation of the company.

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Role of the Insurance Commissioner

The insurance commissioner, either appointed by the governor or elected, heads the state insurance department and monitors and regulates insurance activity within the state. The commissioner also has the responsibility to determine when an insurance company domiciled in the state should be declared insolvent and to seek authority from the state court to seize its assets and operate the company pending rehabilitation or liquidation.

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Role of the Receiver

By obtaining control of a company, the commissioner (or the insurance department) is, by law, the rehabilitator or liquidator of the company. In this capacity, the commissioner or department takes control of the company’s operations. Rather than do so directly, the commissioner may retain a special deputy receiver to supervise the company’s activities. The receiver may be an employee of the state insurance department or an independent professional experienced in legal, accounting, and actuarial issues.

The receiver oversees an accounting of the company’s assets and liabilities and administers the estate of the company. In doing so, the receiver seeks to maximize the company’s assets, transfer them to cash, and then distribute that cash to creditors having valid claims against the insurer in accordance with payment priorities specified by state law (in all states, policyholders are priority claimants whose claims are paid before those of general creditors).

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Role of the Guaranty Associations

State life and health insurance guaranty associations are state entities (in all 50 states as well as Puerto Rico and the District of Columbia) created to protect policyholders of an insolvent insurance company. All insurance companies (with limited exceptions) licensed to sell life or health insurance or annuities in a state must be members of that state’s guaranty association.

The guaranty association cooperates with the commissioner and the receiver in pre-liquidation planning. Once the liquidation is ordered, the guaranty association provides coverage to the company’s policyholders who are state residents (up to the levels specified by state laws—see below; any benefit amounts above the guaranty asociation benefit levels become claims against the company's remaining assets). For a complete listing of each state’s laws regarding this coverage, see Guaranty Association Laws in the “Facts & Figures” section.

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Guaranteed Coverage

While laws governing maximum limits and types of policies covered vary from state to state, most states are consistent with the NAIC Model Act and provide coverage at least in the amounts specified below. Check your state association’s website to confirm the applicable benefit levels in your state.

  • $300,000 in life insurance death benefits
  • $100,000 in cash surrender or withdrawal values for life insurance
  • $250,000 in present value of annuity benefits, including net cash surrender/withdrawal values
  • $500,000 in major medical or basic hospital, medical and surgical insurance policy benefits
  • $300,000 in long-term care insurance policy benefits
  • $300,000 in disability insurance policy benefits
  • $100,000 in other health insurance benefits

In most states, the aggregate benefit level for an individual life in any one insolvency is $300,000 (except if there is covered major medical insurance or covered basic hospital, medical and surgical insurance, in which case the aggregate benefit is $500,000). The above coverage levels apply separately for each insolvent insurer.

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How Coverage Is Funded

When an insurer fails and there is a shortfall of funds needed to meet the obligations to policyholders, state guaranty associations are activated. Guaranty associations have two main sources of funding when providing coverage to policyholders. First, guaranty associations have subrogation rights to a proportionate share of the assets remaining in the failed insurer. Those assets, which can be substantial, may be used by the guaranty associations to pay covered claims. Second, insurers doing business in that state are assessed a share of the amount required to meet the portion of the guaranty associations’ covered claims not otherwise funded with estate assets. The amount insurers are assessed is based on the amount of premiums that they collect in that state.

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Role of NOLHGA

The National Organization of Life and Health Insurance Guaranty Associations (NOLHGA) is made up of the life and health insurance guaranty associations of all 50 states and the District of Columbia. Through NOLHGA, the associations voluntarily work together efficiently and effectively to provide continued protection for policyholders affected by a multi-state insurance insolvency. NOLHGA establishes a task force of representative guaranty associations to work with the insurance commissioner to develop a plan to protect policyholders.

For more information on NOLHGA's role in the process, see "What Is NOLHGA?" and "The Safety Net at Work."

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National Organization of Life & Health Insurance Guaranty Associations
13873 Park Center Road, Suite 505, Herndon, VA 20171
Phone Number: 703.481.5206