The insurance industry realized its two worst nightmares on Friday, July 16.
First, the floodwaters of the Mississippi and its tributaries broke through levees along that mighty river, adding further to the billions in dollars of losses suffered by insurance underwriters in recent years from various natural disasters.
Second, the U.S. Court of Appeals for the District of Columbia Circuit in Independent Insurance Agents of America v. Ludwig upheld the power of national banks with branches in small towns to sell all forms of insurance as agents to customers nationwide.
This court decision opens the way for bold new competition by national banks in retail insurance agency activities, including sales of such diverse products as fixed and variable annuities, property and casualty insurance, and life and health insurance.
National banks have two sources of power to sell insurance:
* The "incidental powers" clause of the National Bank Act, which the Comptroller of the Currency has determined authorizes national banks in any location to sell certain forms of banking-related insurance, such as annuities and credit life.
* Section 92, which authorizes national banks located in towns of 5,000 or fewer persons to sell any type of insurance.
The D.C. Circuit decision involved only section 92.
At issue was whether a national bank could sell insurance only in the town of 5,000 or nationwide. The court ruled the latter.
The court declined to limit the insurance customer base of small-town national banks to persons located in the small towns, as the Independent Insurance Agents had urged, because "we have found no specific congressional intent to restrict the geographical reach of the insurance sales authorized by section 92."
The court noted that "a world of microchips, communication satellites, fax machines, direct mail and telephone solicitation, and all other technologies and techniques" now enables a nationwide business to be conducted "from every hamlet."
The result of the court's decision should be increased competition in the insurance agency business, greater availability of insurance products for customers, increased convenience, and lower costs for consumers.
Before you start flipping through Title 12 of the U.S. code to find section 92, be forewarned: It is not there.
Section 92 was enacted in 1916, but sloppy punctuation led to its removal from the Code in 1952, on the theory that it had been accidentally repealed in 1918.
The Comptroller's office, Congress, and the banking industry nonetheless continued to operate as though section 92 was still good law. In reliance on section 92, national banks located in small towns for years have sold insurance to customers in those small towns.
In 1984, U.S. National Bank of Oregon asked the Comptroller's office to aflow the bank to sell insurance from a small town to customers located elsewhere. The agency approved the proposal in 1986.
The Independent Insurance Agents brought suit, but lost in the district court.
On appeal, the D.C. Circuit held that section 92 was no longer valid law in light of the 1918 "accidental repeal".
In June, the Supreme Court reversed the D.C. Circuit, finding that section 92 had not been repealed, and sent the case back to the D.C. Circuit to determine the meaning of section 92.
On remand, the D.C. circuit decided on July 16 that the reanimated section 92 authorizes national banks in small towns to sell insurance to customers nationwide.
Other Suits Pending
The lawsuit is one of many filed in recent years by the insurance industry against the Comptroller's office and Federal Reserve Board attempting to restrict competition from banks.
Currently pending are lawsuits in the Sixth Circuit involving states licensing of national banks as insurance agents, and the Fifth Circuit involving the power of national banks to sell annuities as "incidental" activity.
Other recent decisions are a June decision by a New York state appeals court holding the New York state-chartered banks have power to sell annuities under the |incidental powers' clause of that state's banking law, and a 1992 decision by the Second Circuit that section 92 by implication limits the incidental insurance powers of national banks.
Like the securities industry lawsuits against the federal banking agencies in the 1970s and 1980s, the insurance industry's litigation strategy has backfired.
The insurance agency powers of banks have been clarified and strengthened rather than limited as the insurance industry had hoped.
Now, rather than focusing on the few narrow forms of insurance that the Comptroller's office has determined are incidental to banking, a national bank can simply open a branch office in a small town and market any type of insurance from that office to anyone, anywhere.
The D.C. Circuit decision has transformed the pending battle over the incidental insurance powers of national banks into little more than a rear-guard action.
The decision opens the way for national banks to "export" insurance agency sales from one small town to customers nationwide.
It mentions directly mail and telecommunications, as well as "all other technologies and techniques" - which presumably could include a traveling sales force of bank officers based in the small town calling on customers in other towns and states.
The 1978 Supreme Court decision in Marquette National Bank v. First Omaha Services Corporation opened the way for national banks "located" in one state to market credit cards in other states using the interest rates of the bank's home state.
In much the same way, the recent D.C. Circuit decision clears the path for a similar move by banks to sell insurance products on a broad geographic basis.
State Power Limited
Many states take the position that a bank and its employees must be licensed by the state insurance regulator in order to sell insurance to customers in the state. Many states refuse to grant such licenses to banks.
National banks, however, are chartered by the federal government and get their powers from federal law.
A long line of judicial and Comptroller' office decisions interpreting the Supremacy Clause of the U.S. Constitution preclude the states from requiring national banks to obtain a state license to conduct business or otherwise exercise "visitorial powers" over national banks'
Barring congressional action to reverse 150 years of federal court precedents limiting state authority to regulate federally chartered banks, state efforts to restrict national bank insurance agency activities through licensing requirements inevitably will fail.
The Independent Insurance Agents have the option of seeking Supreme Court review of the D.C. Circuit decision.
It appears unlikely, however, that the Supreme Court would reverse the decision. The court receives thousands of petitions each year and has time to hear only a select few cases.
Typically those cases involve matters of national importance involving a split in authority between two or more courts of appeal. No such split exists here.
A trade association's challenge to a Comptroller's decision that has been upheld on two levels of appeal in the federal courts is an extremely unlikely candidate for review.
Moreover, the court of appeals decision is a rather straightforward application of well-settled principles of statutory interpretation and deference to the authority of a regulatory agency.
But if the Supreme Court were to devote its limited resources to reviewing the case, it very likely would uphold the decision.