Producer Compliance in California: The Top Three Regulatory Danger Zones

Like Big Brother, California’s Department of Insurance is watching you.

Okay, perhaps not literally — and certainly not all of you, but the department definitely has its antennae up when it comes to the business of brokers and agents, particularly as it pertains to licensure, operations, sales and reporting.

No doubt, producers must be aware of insurance regulations impacting them, and the department’s resolve to ensure compliance. Presented here, three key areas of scrutiny.

Unlicensed Activity

Whether tipped off by an angry customer, disgruntled employee, or unscrupulous competitor, the department does not look favorably upon unlicensed activity directed by producers. Indeed, this is a major focus of the department in terms of compliance.

Some producers allow unlicensed telemarketers to solicit prospective customers. Others permit unlicensed employees to provide insurance quotes or actually sell policies. And there are those who tolerate additional unlicensed activity. Whatever the case may be, far too many insurance professionals dip their toes into these treacherous waters

The legal standard in California is quite clear: a person shall not solicit, negotiate, or affect contracts of insurance unless he or she holds a valid insurance license. (California Insurance Code §1631) There are exceptions to this rule — in the form of exemptions set forth in the statute — available to producers’ employees who do not receive commission and whose conduct is limited to (1) clerical or administrative duties, (2) indirect marketing, or (3) supporting efforts to determine customers’ general interest in insurance products. (Insurance Code §1635 (i) and (m)).

Sometimes, however, even clerical and administrative duties fall within a gray area, which is why the department has promulgated further regulations (California Code of Regulations, Title 10, §§2193 – 2193.3) that provide some clarity as to what conduct does not require a license:

• Distribution of brochures, business cards, or other advertising information provided the unlicensed person does not analyze, give advice or make recommendations concerning insurance policies or terms;

• Preparation of applications for insurance coverage without any contact with the customer/applicant except communications with the customer solely in order to obtain factual information requested by a licensee;

• Obtaining underwriting information from third parties, such as the Department of Motor Vehicles or other insurance companies (such as, loss runs);

• Preparation of binders, certificates, endorsements, identification cards, policies, and similar evidence of insurance under the supervision of a licensee. However, the unlicensed employee cannot sign the foregoing documents either in their name or in the name of the licensee;

• In response to a customer’s request, disseminating buyer’s guides for insurance, applications for insurance coverage, or related forms;

• Receiving information from applicants or customers or recording such information in order to provide the information to a licensee for response to the applicant or customer;

• Scheduling appointments with the licensee;

• Communicating with applicants or customers solely to obtain factual information requested by a licensee;

• Acceptance of insurance premiums for delivery to licensees;

• Receiving and recording a customer’s request for additions or deletions to existing insurance policies and preparing endorsement forms for review and signature of the licensee;

• Informing customers factually in response to inquiries as to the category and financial limits of insurance coverage indicated in their policy, whether coverage is in effect, and any premium balance due;

• Answering telephone calls, receiving faxes, opening emails and written mail, processing outgoing mail, filing, and engaging in other general secretarial or administrative functions;

• Translating between the licensee and the applicant.

With compliance in mind, producers should avail themselves of these guidelines so they do not, knowingly or otherwise, run afoul of the law. In fact, a proverbial firewall delineating licensed and unlicensed conduct would be most helpful. This is especially true given that unlicensed activity is one of the CDI’s hot-button concerns. Of course, when in doubt, a licensed producer should handle all matters related to the solicitation, negotiation, sale, execution and maintenance of insurance.

Disclosure of Broker Fees

To fee, or not to fee: that is the question. Well, the answer in California is clear — brokers can charge and collect fees for procuring policies of insurance on behalf of clients, though a broker’s failure to disclose them to an insured, or the imposition of excessive fees, may prompt department intervention. Translation: brokers beware — full and proper disclosure is critical.

Significantly, an agent may not receive broker fees, except in the rare event that such fees are approved by an insurance carrier as set forth in its rate filing with the department. What distinguishes brokers from agents for purposes of fees is the party they represent in any given insurance transaction. A broker acts on behalf of the insured, while agents transact insurance for the insurer.

Getting into the weeds, Insurance Code §1623 fleshes out when a producer is presumed to be a broker entitled to a fee:

• The producer holds a broker-agent insurance license;

• Maintains a $10,000 broker’s bond; and

• Discloses in a written agreement signed by the insured all of the following:

• That the producer is transacting insurance on behalf of the customer;

• A description of the basic services to be provided;

• The amount of the broker fee to be charged;

• That the producer may receive compensation directly or indirectly from an insurer resulting from the customer’s purchase of insurance.

Parenthetically, wholesale intermediary brokers must also comply with disclosure requirements to be eligible to charge and collect fees. They do so by revealing to the retail broker (1) a description of the basic services they will provide; (2) the amount of the broker fee to be charged; and (3) that the wholesaler may receive compensation directly or indirectly from an insurer as a result of the policyholder’s insurance purchase.

Also, any presumption that a producer is acting as a broker is rebutted, pursuant to Insurance Code §1623 (c), if there is a Notice of Appointment filed by an insurer appointing the producer as an agent, the producer has written binding authority, the producer has written authority to appoint agents, or the producer has written authority to handle claims. In that event, the producer will be deemed an agent of the insurer not entitled to broker fees.

Clearly, disclosure must be the broker’s mantra when it comes to fees. Indeed, regulations require additional disclosure and compliance when a broker fee is sought in connection with the procurement of a personal lines policy, in which case the fee agreement must contain the provisions set forth in the department’s Standard Broker Fee Agreement and the insured must be provided with the Department’s Standard Broker Fee Disclosure Form. (CCR Title 10, §§2189.01 et seq.) These regulations impart other important — and and some redundant — requirements as well:

• The Standard Broker Fee Disclosure Form and Broker Fee Agreement must be printed in English and in any other language principally used by the broker to advertise, solicit, or negotiate the sale and purchase of insurance;

• The insured agrees to the fee in advance, after full disclosure;

• The fee is not being charged on a CAARP, FAIR Plan, or “Low Cost Auto” policy;

• The broker is not an appointed agent of the insurer with which the coverage is or will be placed;

• The broker provides the insured with a specific disclosure form;

• The insured and broker sign a broker fee agreement containing certain standard information;

• The broker has an in-force broker bond on file with the department;

• The broker discloses the existence of the broker fee at the time of the initial premium quotation.

The moral of the story for brokers charging fees, provide full and transparent disclosure in accordance with the aforementioned statutes and regulations to minimize regulatory scrutiny.

Background Reporting

Every now and then, a producer may confront an unfortunate circumstance, be it a misdemeanor or felony conviction, adverse administrative action, bankruptcy filing or the like. While notifying the department of such a dilemma is certainly not on any insurance professional’s bucket list, it is something that must be done pursuant to the Insurance Code. The failure to do so in a timely manner puts a producer’s license at risk. Be warned: this issue is front and center on the department’s radar screen.

Prior to 2004, producers were only required to update the department of specified changes in their backgrounds every two years, concurrent with the submission of their renewal applications. That changed more than a decade ago. Effective Jan. 1, 2005, producers became obligated to provide notification of such changes to the department — and if endorsed onto an organizational license, to the officer, director, or partner it lists — within 30 days of their occurrence. (Insurance Code §1729.2)

Of note, these reporting requirements apply to both California resident and non-resident licensees and applicants.

What type of change requires such notification? Insurance Code §1729.2 provides specifics, as follows:

• A misdemeanor or felony conviction (including citations or traffic violations considered misdemeanor or felony offenses);

• A filing of felony criminal charges in state or federal court, including convictions for driving under the influence, reckless driving, or driving on a suspended/revoked license;

• An administrative action regarding a professional or occupational license;

• Any licensee’s discharge or attempt to discharge, in a personal or organizational bankruptcy proceeding, an obligation regarding any insurance premiums or fiduciary funds owed to any company, including a premium finance company or managing general agent; or

• Any admission — or judicial finding or determination — of fraud, misappropriation or conversion of funds, misrepresentation, or breach of fiduciary duty.

To be clear, a producer who overlooks the background reporting requirement can face the revocation, suspension, or restriction of his/her license — or denial of a license or issuance of a restricted one when an application is pending), and it may cost money in the form of financial penalties.

No doubt, insurance professionals must be mindful of the reporting mandate in the wake of any relevant changes in their backgrounds, and employers should remind licensed employees of their continuing — and time sensitive — reporting obligation. On the plus side, all necessary forms toward compliance can be found on the department’s website.