A Captive Solution to
the Medical Malpractice Crisis
Paul J. Struzzieri, FCAS

Reprinted by permission of the Palmentto Captive Insurance Journal and the Self-Insurer's Publishing Corp., 2nd Quarter, 2002 edition.

The medical professional liability (otherwise known as medical malpractice) insurance industry is in the midst of a crisis the magnitude of which has not been seen since 1975. In response to this crisis, healthcare providers are now examining their risk transfer alternatives. At the top of the list of alternatives are captive insurance companies.

The Current Crisis
The failure of several medical professional liability underwriters and the withdrawal of market leaders from this market define the current crisis. Prominent examples include: • The largest writer of medical professional liability insurance, the St. Paul Companies, announced its intention in December 2001 to withdraw completely from this market.

• PHICO, a Pennsylvania-domiciled insurer and the 10th largest writer of medical professional liability insurance, was placed into liquidation in February 2002.

• PIE Mutual Insurance Company, an insurer of more than half of the physicians in Ohio, was ordered into liquidation by the State Insurance Department in 1998, creating market dislocations in that state.

• Frontier Insurance Company withdrew from writing new and renewal business in 2001 and subsequently entered into a voluntary agreement for rehabilitation with the New York Insurance Department.

• More recently, A.M. Best downgraded the MIIX Group from a rating of A- to B- in response to significant adverse reserve development. As a result, the New Jersey Banking and Insurance Commissioner accepted a plan for a solvent run-off of MIIX Insurance Company. This plan called for the immediate discontinuation of non-New Jersey business.

 

 

  The above events, along with many other examples of insurer failures, exits, downgrades, and consolidations, mean that hospitals, physicians, and other healthcare facilities and providers are now faced with the prospect of being unable to secure adequate insurance. In states such as Pennsylvania, many medical professionals cannot find insurance in the voluntary market.

The Underwriting Cycle
The current hard market is as severe as the last soft market was long. Beginning with the late 1980s and continuing throughout the entire decade of the 1990s, property/casualty insurance rates remained relatively flat. This was particularly true for medical professional liability, where the average physician in some states experienced rate decreases over that period.

In order to understand how this happened, you need to understand the way that medical professional liability insurance is priced. Medical malpractice insurance is one of the longest tailed liability lines of insurance, especially when written on an occurrence policy form. This means that there can be a very long lag between the date an accident occurs and the date the claim is reported, especially for newborns and young children. In addition, once a claim is filed, there is an additional lag until the claim is settled. The settlement lag is particularly acute for claims that become lawsuits. In total, the most difficult medical malpractice claims can take 20 years or more to settle.

The long payment horizon means that insurance companies can invest the premiums for a long period of time and will earn significant investment income on their investments. Insurance companies are then able to reduce their premium rates to reflect anticipated investment earnings. If the investment yield assumptions used in determining the premium rates prove to be too low (or too high), then the difference between actual and expected yields is compounded over the entire claim payment horizon.

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