The New York State Department of Financial Services investigation has produced a settlement with the country’s largest “force-placed” insurer, Assurant Inc.

New York Gov. Andrew Cuomo, who announced the news this morning, said the settlement will help lead a nationwide reform effort for this industry.

The settlement includes restitution for homeowners who were harmed, a $14 million penalty paid to the State of New York, and industry-leading reforms that will save homeowners, taxpayers, and investors millions of dollars going forward through lower rates.

“The force-placed insurance industry has for too long been plagued by an intricate web of relationships between insurers and banks that pushed distressed families over the foreclosure cliff,” Gov. Cuomo said. “Today’s agreement starts us on the road to reform, which will clean up this industry and truly protect working people.”

New York’s superintendent of financial services, Benjamin Lawsky, said regulators’ investigation found that insurers and banks built “a network of troubling relationships and payoffs that helped drive premiums sky high.”

Superintendent Lawsky said those improper practices created significant conflicts of interest and saddled homeowners, taxpayers, and investors with millions of dollars in unfair and unnecessary costs.

Lawsky said this settlement includes major reforms that aim to put a stop to those practices at Assurant, provide restitution to homeowners who were harmed, and save millions of dollars for homeowners, taxpayers, and investors going forward through lower rates.

Details of Investigation

The Department of Financial Services said that it launched an investigation on October 2011 to examine the force-placed insurance industry, including Assurant and its subsidiaries.

The department said that force-placed insurance is insurance taken out by a bank, lender, or mortgage servicer when a borrower does not maintain the insurance required by the terms of the mortgage. This can occur if the homeowner allows their policy to lapse (often due to financial hardship), if the bank or mortgage servicer determines that the borrower does not have a sufficient amount of coverage, or if the homeowner is force-placed erroneously.

Regulators said their investigation revealed that the premiums charged to homeowners for force-placed insurance can be two to 10 times higher than premiums for voluntary insurance—despite the fact that force-placed insurance provides less protection for homeowners than voluntary insurance.

Regulators said that even though banks and servicers are the ones who choose which force-placed insurance policy to purchase, the high premiums are ultimately charged to homeowners, and, in the event of foreclosure, the costs are passed onto investors. And when the mortgage is owned or backed by a government-sponsored enterprise, such as Fannie Mae or Freddie Mac, those costs are ultimately borne by taxpayers.

According to the New York investigation, Assurant competed for business from the banks and mortgage servicers through what is known as “reverse competition.” That is, rather than competing by offering lower prices, the insurers competed by offering what is effectively a share in the profits, regulators said.

This profit sharing pushed up the price of force-placed insurance by creating incentives for banks and mortgage servicers to buy force-placed insurance with high premiums. That’s because the higher the premiums, the more that the insurers paid to the banks, regulators said.

Regulators said this reverse competition was carried out by:

• Paying commissions to insurance agents and brokers affiliated with the banks even though the agents and brokers did not perform the customary tasks that would justify a commission.

• Paying banks’ “expenses” related to force-placed insurance. These expenses were typically a percentage of premium, and were paid to banks that did not have agents or brokers that would collect a premium.

• Paying lump sum amounts, such as one bank’s $1 million termination fee for switching its business to Assurant from another insurer.

• Allowing a reinsurance company owned by a bank to take as much as 75 percent of the premium and therefore 75 percent of the profit. A reinsurance company provides insurance to insurance companies by sharing risk. But since there was little risk in force-placed insurance relative to the high premiums, this was effectively a way to transfer profits, regulators said.

Thus, regulators said, the bank put itself on both sides of the transaction, paying an inflated premium that hurt the homeowner and then reaping 75 percent of those gains back from Assurant through a reinsurance agreement. For example, JPMorgan Chase has made approximately $600 million since 2006 by taking 75 percent of the profits from the force-placed business it gave Assurant, according to the investigation.

Regulators said one measure of how profitable force-placed insurance has been for Assurant could be found in the loss ratio.

In its 1994 rate filing with the Department of Financial Services, one of Assurant’s subsidiaries based its rate on the expectation that it would pay 58 percent of premium on claims. The department said that in fact, from 2006 through 2011, that subsidiary actually paid only 24.7 percent, 19.4 percent, 17.3 percent, 22.8 percent, 24.3 percent, and 24.7 percent, respectively.

Despite years when it paid out claims less than half of what it projected, Assurant did not file for lower rates, the department said. For voluntary homeowners insurance the loss ratio has historically been around 63 percent nationally.

Details of Settlement Terms

The settlement that Assurant and the New York State Department of Financial Services signed includes restitution for homeowners who were affected, a $14 million penalty, and a set of major reforms for force-placed insurance at Assurant.

Superintendent Lawsky said that by agreeing to implement these critical reforms, Assurant is serving as an industry leader.

“These reforms will make Assurant a stronger and better company focused on its customers,” he said. “Our work on this issue is far from done and we expect that this settlement will help lead a nationwide reform effort for this industry,” he said, urging other force-placed insurers “to the plate now and put in place these reforms.”

The key terms of the settlement include the following.

To lower the cost of force-placed insurance going forward for all non-flood business:

• Assurant shall file with the Department of Financial Services a premium rate with a permissible loss ratio of 62 percent, supported by the required data and actuarial analysis that is acceptable both professionally and to the department. This will substantially reduce homeowners’ premiums.

• Every three years, Assurant will be required to re-file its rates with the department for review.

• If Assurant’s actual rates in any year result in an actual loss ratio of less than 40 percent for the immediately preceding calendar year, Assurant will be required to re-file its rates for the next year for the department review in order to bring the loss ratio back up.

• Assurant must report annually to the department on its actual loss ratio, earned premiums, itemized expenses, losses, and reserves.

To put a stop to what the department investigation described as improper practices:

• Assurant shall not issue force-placed insurance on mortgaged property serviced by a bank or servicer affiliated with Assurant.

• Assurant shall not pay commissions to a bank or servicer or a person or entity affiliated with a bank or servicer on force-placed insurance policies obtained by the servicer.

• Assurant shall not reinsure force-placed insurance policies with a person or entity affiliated with the banks or servicer that obtained the policies.

• Assurant shall not pay contingent commissions based on underwriting profitability or loss ratios.

• Assurant shall not provide free or below-cost, outsourced to banks or services to servicers or their affiliates.

• Assurant shall not make any payments, including but not limited to the payment of expenses, to servicers, lenders, or their affiliates in connection with securing business.

To provide restitution to those who were harmed by Assurant’s practices:

• Refunds will be provided to consumers through a claims process and a third-party administrator selected by the department and paid for by Assurant for homeowners who have been force-placed at any time after Jan. 1, 2008 and meet the eligibility criteria for one of the following three categories of claimants:

• Homeowners who defaulted on their mortgage or were foreclosed because of force placement.

• Homeowners who were charged for force placement at a coverage limit higher than permitted by their mortgage.

• Homeowner’s who were erroneously charged for force-placed insurance: either because they had voluntary insurance in effect, or they were charged commercial rates for a residence.

Additionally, Assurant will pay a civil penalty of $14 million to the State of New York; provide improved disclosures and notices to homeowners; improve its email retention policy; and ensure that the amount of coverage force placed on any homeowner shall not exceed the last known amount of coverage, provided that if the last known amount of coverage did not comply with the mortgage, then the amount of coverage shall not exceed the replacement cost of improvements on the property.

Source: The New York Governor’s Office and the New York Department of Financial Services

(This article was originally published on Insurance Journal)