Although insurance existed in the United States before the American Revolution, the industry did not mushroom until the mid-1800s when the country experienced rapid expansion in its territory, population, and business activity. Unfortunately, not all early insurers were adequately capitalized or competently managed, and this resulted in numerous insolvencies that left policyowners without payments for their losses. In response, the initial regulatory devices were simply periodic reports on an insurer�s financial condition, and those reports were the basis for legislative action, judicial relief, taxation, and the information by which the buyer could determine the safety of the enterprise. When they proved insufficient, beginning in the early 1850s, state legislatures created administrative agencies to supervise insurers. Today, all states have an insurance department.

As the new insurance industry spread across the continent, problems and abuses inevitably emerged. Because individual states were regulating a business conducted across state lines, there was conflicting and discriminatory legislation and administrative action. This generated a sentiment for reform. Failing to achieve congressional action, proponents of federal regulation financed a test case to challenge the constitutionality of state regulatory authority on the basis that insurance was commerce and when conducted across state lines, was beyond the power of the state to regulate. In the 1869 landmark decision Paul v. Virginia, the United States Supreme Court determined that insurance was not interstate commerce and hence not subject to federal jurisdiction under the congressional power over interstate commerce. In a series of subsequent cases in which insurers sought to avoid features of state law to which they objected, the Court upheld the right of a state to regulate the business of insurance. Thus the Paul decision was the foundation for the evolving body of state insurance regulation to the virtual exclusion of the federal government.

In the period from the 1840s to the early 1900s�the era of the robber barons�private enterprise enjoyed a broad range of freedom to act as it saw fit. Within this climate, life insurance companies grew rapidly. Excesses developed as life insurers pushed for market share and control over assets. Acquisition costs seemingly knew no limits, and excessive commissions encouraged misrepresentations in order to write more and more business. Adverse publicity led to the famous Armstrong Investigation (conducted by a committee of the New York state legislature named after its chairman, Senator William W. Armstrong). This investigation uncovered numerous insurer abuses resulting in substantial policyowner losses. The ensuing recommendations aimed at ensuring sound financial management of insurers and responsible treatment of policyowners were enacted by the New York legislature, and they set the pattern for other states. The Armstrong Report therefore is the basis of much of modern life insurance regulation.

Although the first half of the twentieth century witnessed the continued development of insurance regulation at the state level, federal regulations loomed on the horizon. In the early 1940s, the Department of Justice brought a federal antitrust action against an association of 200 stock fire insurance companies, alleging a conspiracy to fix and maintain noncompetitive premium rates and to monopolize trade. In the 1944 landmark case of U.S. v. South-Eastern Underwriters Association, the Supreme Court overturned 75 years of legal precedent that had commenced with Paul when it found that insurance can fall within the embrace of Congress�s power over interstate commerce.

This decision sent shock waves through the insurance industry and the insurance regulatory communities for at least four reasons. First, various practices previously deemed immune from the federal antitrust laws were overnight subject to such laws. Regardless of the merits of ultimately applying antitrust laws to insurance, there was little doubt that the immediate application of such laws would have caused chaos and impeded the ability of the industry, especially property and casualty insurers, to provide personal and commercial coverage to the public. (For example, collecting cooperative data, making rates, and drafting policy forms, even though done under regulatory scrutiny, were perceived likely to be illegal.)

Second, the decision raised grave concern about the continued viability of state insurance regulation since its application could very well have been deemed to be a burden on interstate commerce and therefore invalid under the Supremacy Clause of the United States Constitution. This would have obviated the regulatory safeguards, and because no regulation had developed at the federal level at this time, a regulatory vacuum would have emerged.

Third, numerous federal statutes in an infinite number of areas had been enacted without thought as to their applicability to insurance. This raised the specter of duplicating and/or conflicting state and federal law as well as the applicability of legislation that had not been considered for and was inappropriate to insurance.

Fourth, the decision cast doubt on the validity of state laws taxing the insurance business. If the laws were invalid, the states would have been deprived of a significant source of revenue.

In response Congress enacted the McCarran-Ferguson Act (hereafter referred to as the McCarran Act) in 1945, through which it opted to preserve the state regulatory system and invited the states to preempt the federal antitrust laws by regulating the business of insurance. The act retained the role as federal overseer for Congress. Since 1945, insurance regulation has evolved within this framework.

State regulation of insurance involves these four agencies:

Within the constraints imposed by the federal and state constitutions and the congressional permissive authority as set forth in the McCarran Act, the state legislatures have the ultimate power to enact and amend insurance law. Legislation establishes the broad legal framework governing the way the insurance system functions. General standards apply to the insurance mechanism and to the administrative agency responsible for the day-to-day regulation of insurance. The legislature also commonly issues detailed mandates or requirements in particular areas of concern.

Since effecting legislative standards, prescriptions, and restraints needs more than legislative proclamation and sporadic judicial enforcement, state legislatures have created insurance departments that have broad administrative, quasi-legislative, and quasi-judicial powers over the insurance business. Typically, an insurance department is headed by a commissioner, superintendent, or director (hereafter the common term commissioner will be used). A few states vest ultimate responsibility in a commission or board, which selects an individual commissioner to carry out policy. Nearly one-fourth of the states elect the commissioner; in the remaining states commissioners are appointed, usually by the governor. In some states the insurance department is combined with another department (such as the department of banking or securities), and in some states the insurance commissioner has other duties (such as state auditor, comptroller, or securities commissioner).

Despite the differences in state insurance laws, their administrative enforcement has much in common. Enforcement techniques include the following powers: to grant, deny, or revoke licenses to do business; to compel disclosure and to conduct financial and market-conduct examinations; to conduct investigations and promulgate regulations; to approve or disapprove filings of rates and policy forms; to order an insurer�s rehabilitation, liquidation, or conservation; to issue cease-and-desist orders and to levy penalties or fines; and to remove officers and directors. These powers (and the informal powers stemming from them) give the insurance commissioner substantial clout with which to regulate the insurance business.

The Courts also have a significant role in insurance regulation. Courts adjudicate conflicts between parties (a dispute between an insurer and policyowner over whether coverage applies or the amount of the claim, for example). They enforce criminal penalties against those violating the insurance laws. Occasionally insurers, agents, or others seek to overturn statutes, regulations promulgated by the insurance commissioner, or orders issued by the commissioner; courts rule on whether such regulations are arbitrary or unconstitutional. The courts have also become involved in many cases attempting to define the parameters of state and federal authority under the McCarran Act.

By the 1870s regulators� ability to cope with numerous insurers doing business across state lines came under increasing strain. At the same time, insurers were subjected to uncoordinated, duplicative, sometimes conflicting, and sometimes discriminatory multiple state regulations. To alleviate these problems, in 1871 several states joined together to form what is now known as the National Association of Insurance Commissioners. The NAIC, an unincorporated voluntary association, consists of the principal regulatory authorities of each state. The organization�s original objectives included the promotion of uniformity in insurance laws and regulations, the dissemination of information to the regulators, and the establishment of means to fully protect the interests of policyowners and preserve state insurance regulations.

In its early years the NAIC sought ways to cope with interstate insurers, especially with respect to their financial condition, through such mechanisms as accounting regulations, standard annual statements that an insurer must file in each state in which it does business, uniform valuation of insurer securities for financial reporting purposes, and a coordinated system for insurer financial examinations. In addition, the NAIC served as a common forum for the development of model laws and regulations. Furthermore, through the NAIC, regulators could exchange information and share expertise, and various industry and consumer groups, government agencies and individuals could be given an opportunity to be heard on and participate in solving regulatory issues. As will become evident in the following discussion, the NAIC now has a major role in the regulation of the business via its extensive committee system and permanent staff.

Each insurance commissioner is responsible for the insurance regulation in his or her state. As a voluntary organization, the NAIC has no authority over its individual members who may or may not adopt in whole or in part a particular NAIC work product for implementation in their own states. Thus the traditional role of the NAIC has been to offer its work products for the individual states� consideration and use. Over the years, a substantial number of NAIC recommendations have been adopted by all or a substantial number of states. Consequently, the NAIC has become a fundamental force in the development and preservation of state insurance regulation.

Despite traditional state sensitivity to being told what to do by the NAIC, there are arguments urging stronger efforts to encourage the use of NAIC work products. Individual states have a stake in the nature and quality of regulation provided by other states. There are interstate implications in insolvencies, underwriting results, market conduct, and financial disclosure. Furthermore, the quality of state regulation as a whole can substantially affect the regulatory authority between the states and the federal government. Thus to the extent a particular NAIC work product can promote effective and efficient regulation and consistent treatment between states, there is strong justification for its implementation in the various states.

Recently, the NAIC took a significant step to exert greater pressure for widespread adoption of programs it deems crucial to effective regulation of insurers� financial condition when it adopted and implemented an accreditation program. There has even been serious discussion of an interstate compact to give NAIC actions the force of law. Thus the question no longer appears to be if particularly important NAIC work products should have widespread state adoption, but how that can be accomplished in the most appropriate, effective, and acceptable manner. The future viability of state insurance regulation may depend on the answer.