What is surplus line insurance?
In order to understand what surplus line insurance is, it is helpful first to understand a few things about the insurance marketplace and to understand what surplus line insurance is not.
The first player in the marketplace we'll discuss is the insurance company, also referred to as an insurance carrier or insurer. The insurer is the company that actually writes the policy and accepts the risk that something will happen. They collect your premiums and those of other insureds and invest them. If a claim is made, they pay the claim from this pool of collected premiums.
Insurers must get a license in any state where they want to write policies. Each state has a Department of Insurance (or similar regulatory body) that regulates these insurers. The regulation varies from state to state, but it can be divided into two general areas. First, the regulators monitor the finances and market conduct of the insurers to see that they are financially sound and using fair and honest business practices. Second, they regulate or approve the insurer's policy forms (the actual content of the policies) or the insurer's rates (the amount they charge for policies), or both. These insurers contribute to a state fund, called a guaranty fund, that is used to pay claims if any of these licensed insurers were to fail (go bankrupt).
The next player is the agent or broker (we'll collectively refer to them as producers). If you are an individual, company or other organization that needs insurance, the producer acts as the middleman between you and the insurer. Producers must also be licensed in any state where they want to do business. When you tell the producer you need insurance, the producer must try to find you a policy from one of the insurers that is licensed to operate in your state. There are some cases, however, (generally less than 10% of policies nationwide) where the licensed insurers will not accept a risk because it does not meet their internally established guidelines. The risk may be too big, too unusual or substandard.
Surplus Line Insurance
In these cases, a specially licensed producer called a surplus line producer gets involved. Their special surplus line license allows them to procure a policy for you from an insurer that is not licensed in your state. This is called a surplus line insurance policy. In some states, it is called an excess line insurance policy.
Since these insurers are not licensed in your state, they are not regulated by your state's Department of Insurance in the same way as licensed insurers (they are, however, regulated in the state or country where they are domiciled or located). Since they are not strictly regulated by your state, they are generally free from the rate and form regulations imposed on licensed insurers. This gives them the freedom to maintain broader internal guidelines for accepting risks. They have more flexibility to design and price their policies and can, therefore, accept risks that licensed insurers will not.
There are state and federal standards for insurers that wish to write surplus line policies. In many states, including Illinois, the licensed surplus line producer is required to ascertain that the insurer meets the state and federal standards before buying a policy from them. In many other states the Department of Insurance, or some other authority, monitors the financial condition of surplus line insurers that are writing policies in their state. Whether done by the surplus line producer, the state Department of Insurance, or some other entity, this financial monitoring is an important function because if the insurer were to fail (go bankrupt), there is no guaranty fund protection for you.
It is important to note that insurers do not write on a surplus line basis because they were somehow unable to obtain a license in your state. Rather, they choose to operate on an unlicensed, surplus line basis. Surplus line insurers in the United States have a long history of financial solvency that is equal to or better than that of licensed insurers and provide an important, reputable safety-valve for people, companies and other organizations that would otherwise be unable to obtain insurance.
The materials and information contained herein are only synopses of laws, regulations and other information and do not constitute legal advice. It is recommended that you consult your legal advisers regarding application of state and federal laws and regulations to any particular situation. The Surplus Line Association of Illinois (SLAI) does not undertake and hereby disclaims any obligation to advise you of any change to laws and regulations or to the SLAI procedures.