What is a State Guaranty Fund and How Does It Work?
The U.S. government administers state guaranty funds to protect policyholders against insurance companies that fail to pay benefits or become insolvent. This fund protects beneficiaries only for those insurance companies licensed to offer insurance products in the state.
How a State Guaranty Fund works
All 50 states, Puerto Rico, Washington D.C., and the U.S Virgin Islands have state guaranty fund systems. Many states have separate funds for life/health insurance and property/casualty. These funds are a type of insurance that is sold in the state and funded by insurance companies. The percentage of insurance companies that must pay to fund is a percentage of the total amount of insurance they sell in a given state. It can range from 1% to 2 percent.
Many states have adopted a guaranty act to deal with insolvency. It is based on the National Association of Insurance Commissioners model act. While some states have adopted the model act in its entirety, most have adopted a modified version. If they are licensed to conduct business in the state, insurers must be a part of the state’s guaranty funds. An insurer licensed to do business in all 50 states must be a member of a state’s guaranty fund.
Only licensed insurers are required to comply with state guaranty law. Unlicensed insurance companies (such as reinsurers) are not required to comply with state guaranty laws. 4
Employers are required by some states to ensure workers’ compensation. 5 The fund provides benefits for workers in the event that their employers fail to pay.
The federal statute created state guaranty funds in 1969. They are non-profit organizations that operate in all 50 states, Washington, D.C., Puerto Rico, the Virgin Islands, and other states. 6 Before this mandate, certain states attempted to create their own guarantees to address the insolvency of insurers.
In the beginning, only one fund was maintained by states to cover a particular line of business. This was because insurance companies were small. One state could have many insurance companies that only wrote one type of business. A limited number of policyholders were affected by an insurer going bankrupt.
Many states have multiple guaranty fund systems today. A state may have separate funds for workers’ compensation and auto insurance. Insurance companies are also more complicated than they were 50 or 40 years ago. Many insurance companies offer multiple coverages, some in all states. This means that an insolvency today could affect many policyholders and may involve guaranty money in multiple states.