Kickbacks? N.Y., Insurers Parley on Captive Setups

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Mortgage insurers began meeting with the New York State Insurance Department last week to discuss how to clear up the controversy over captive reinsurance.

Under such arrangements, a lender receives part of the premiums paid to a mortgage insurer in exchange for assuming some of the risk on loans the lender originated.

In a letter sent to the industry last month, the department stated that captive reinsurance was against New York's insurance laws. But shortly after the letter was sent, a spokesman for the department said it had been meant as a warning, not a prohibition.

The spokesman said it appeared that one transaction had violated insurance laws, and he encouraged mortgage insurance companies to meet with the department.

The department is trying to ensure that lenders are assuming risk in proportion to their share of the fees, not just receiving what amounts to kickbacks.

This week a spokeswoman for the department said six insurers had come in for meetings and two others were scheduled to do so this month.

United Guaranty Corp. is one of the companies that had a meeting. Mark Amacher, vice president of strategic planning, said United told the department that for captive structures to work there must be a real transfer of risk from the insurer to the lender. The company also said the captive arrangement should be disclosed to the consumer.

Gerald Friedman, chairman and chief executive officer of Amerin Guaranty Corp., also met with the department last week. He said Amerin was working with the department to ensure that its captive structures are in compliance with the state's insurance laws.

Amerin met with the department over a year ago, when it was setting up its first captive structures.

Ralph Ippolito, director of business development for CMAC Investment Corp., said it would be meeting with the Insurance Department soon. CMAC, unlike Amerin and United Guaranty, have no captive structures yet.

Besides captive reinsurance, the Insurance Department is also looking closely at another mortgage insurance product. Sources said the department was seeking to crack down on variable notes.

The rate of interest on these notes is based upon the performance of the loans that the insurer underwrites.

So if a lender buys a mortgage insurer's notes and then purchases insurance from that company, the lender could receive additional income from the note if the loans underwritten by the insurer perform well.

In last month's letter, the department stated that the practice of selling notes to lenders "falls within the prohibition against the tie-in sale of a security as an inducement to place insurance with a particular mortgage guarantee insurer."

One observer said the questionable transaction simply involves an issuance of notes, not the establishment of a captive reinsurance subsidiary.

Sources said the department was more concerned about kickbacks occurring with variable notes because lenders are not investing any of their money to set up a separate subsidiary to assume risk.

"In either case, there has to be risk capital involved," Mr. Ippolito said. "If there isn't, that's how you get a red flag raised."

Mr. Amacher said the department "seemed generally interested in defining their position and indicated that they would be acting quickly."

But Mr. Friedman said it would probably be a couple of months before any guidelines are published.

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