New York State Seal
STATE OF NEW YORK
INSURANCE DEPARTMENT
ONE COMMERCE PLAZA
ALBANY, NEW YORK 12257

Eliot Spitzer
Governor

Eric R. Dinallo
Superintendent

The Office of General Counsel issued the following opinion on July 26, 2007, representing the position of the New York State Insurance Department.

RE: Rebates, Referrals and Commission Sharing

Questions Presented:

1) May a nonlicensed member of a limited liability company (LLC) that is licensed as an insurance agent receive a share of any commissions paid to the LLC?

2) May a licensed life insurance agent share with an employer the commissions that the agent earns on life and accident and health insurance policies purchased by the employer for the benefit of its employees?

3) Does N.Y. Ins. Law § 2103(i) (McKinney 2006) authorize an insurance agent to share more than 10 % of the agent’s commissions with a nonlicensee?

Conclusions:

1) No. A nonlicensee member of a licensed LLC may not receive a share of any commissions paid to the LLC. However, the nonlicensee member may share in the net profits of the LLC that are earned in the ordinary course of business. A nonlicensee may also make and receive compensation for referrals, pursuant to Insurance Law §§ 2114, 2115 or 2116, provided that the referrals do not include a discussion of specific insurance policy terms and conditions, and the compensation for referrals is not based on whether a sale is made.

2) No. A licensed insurance agent may not share with an employer the commissions the agent earns on life and accident and health policies purchased by the employer for the benefit of its employees, because such payment would violate Insurance Law §§ 2114, 2115 or 2116 and constitute a rebate or inducement prohibited by Insurance Law § 4224.

3) No. Insurance Law § 2103(i) does not authorize commission sharing between a licensee and a nonlicensee. Rather, the statute authorizes the Superintendent to refuse to issue, suspend or revoke the license of an insurance agent if the commissions earned by the agent for insurance on the property and risks of certain specified related parties – not including the agent itself - exceed 10% of the aggregate net commissions received by the agent in any twelve month period.

Facts:

The inquiry states as follows:

We currently have an LLC with two members, ABC and DEF, who each own 50% of the LLC. The entity [LLC] is licensed for life and accident and health insurance. ABC (through its own corporate license) handles the employee benefits insurance (medical, dental, vision, etc) for DEF. If ABC wants to pay DEF a percentage of the commissions earned on DEF’s employee benefits insurance, is the maximum that can be paid 10% of the total annual commissions? If possible, we would like to pay more (i.e. 50%) but we do not want to violate any state insurance department rules. Can the check be payable to the LLC or does it need to [be] payable to DEF directly?

The LLC to which the inquiry refers is ABC, LLC (ABC, LLC). The operating agreement for ABC, LLC specifies DEF Holding Group, LLC (“DEF Holding”), a nonlicensee, and ABC, Inc. (“ABC”), a licensee, as members of the LLC. DEF Holding is owned by DEF, LLP (“DEF”), a nonlicensee, and there is no common ownership between ABC and the DEF entities. The sublicensees of ABC, LLC consist of one of DEF’s partners (“Sublicensee A”) and a managing partner of ABC. Renewal applications that have been filed with the Department have incorrectly described the sublicensees as members of the LLC.

The operating agreement provides that each member shall have an equal share in the net income, and that each member’s share will be posted to their respective capital accounts from which each member may draw. The operating agreement also provides that ABC, LLC will be managed by three managers – two designated by DEF Holding, and one by ABC. Sublicensee A is not a manager of ABC, LLC.

ABC, ABC, LLC, and Sublicensee A (who has an individual life and accident and health insurance license) have been duly appointed by the respective insurers involved. DEF “actively markets” ABC, LLC to DEF clients and makes referrals – some to ABC, LLC, and some to ABC. But the sales generated by DEF referrals are conducted through ABC agents – some of whom carry business cards bearing the name of ABC, LLC but are not employees of ABC, LLC.

DEF also purchases various group life and accident and health insurance policies from ABC for the benefit of DEFs’ employees. ABC, LLC and ABC, split the commissions for some of these sales - usually 50% to ABC, 50% to ABC, LLC. However, in some instances, ABC shares its commissions with Sublicensee A, instead of ABC, LLC. Sublicensee A does not share any of these commissions with DEF, a nonlicensee.

DEF Holding takes monthly draws from ABC, LLC in the amount of the commissions and the overrides ABC, LLC receives, less minimal expenses. ABC does not take any draws from ABC, LLC – apparently because ABC receives its share prior to paying any commissions to ABC, LLC. ABC, LLC does not have any employees of its own. In fact, ABC, LLC has only minimal expenses, such as the cost of its insurance license and liability insurance.

Finally, if the above-described arrangement constitutes a violation of the Insurance Law, the inquirer requestes guidance as to how to render the arrangement lawful. Specifically, the inquirer asks whether the answer to these questions would be different if the DEF entities were to become licensed and duly appointed insurance agents.

Analysis:

Commission Sharing

The Department has previously opined that a nonlicensee member of an LLC that is licensed as an insurance agent may not receive any share of the commissions earned by the LLC but may share in the profits of the LLC generated in the ordinary course of business. See, e.g., Opinion of General Counsel No. 05-03-03 (March 8, 2005). “[P]rofits or losses [of an LLC] may be shared with the members based on ownership interest or other methodology specified in the LLC’s operating agreement provided that such methodology is not based upon sales of insurance.” Id. (emphasis added). A nonlicensee member of an LLC agent or broker may also make referrals to the LLC pursuant to Insurance Law §§ 2114, 2115 or 2116 – which in general prohibit an insurer, its agent or other representative from compensating a nonlicensee for acting as an insurance agent or broker – if the referrals do not include a discussion of specific insurance policy terms and conditions, and if the compensation for referrals is not based on whether a sale of insurance is made. See, e.g., Opinion of General Counsel No. 06-01-13 (Jan. 10, 2006).

Any referral compensation that is based upon a percentage of commissions earned by the LLC agent or broker is compensation based upon whether a sale is made. See Opinion of General Counsel No. 06-02-21 (February 8, 2006). And a nonlicensee who makes a referral for which compensation is based upon sales would not be making a referral pursuant to Insurance Law § 2114, 2115 or 2116, but would instead be acting as an insurance agent or broker without a license – a violation of Insurance Law § 2102, which prohibits a person, firm, association or corporation from acting as an insurance agent or broker without a license. An agent who compensates a nonlicensee under these circumstances would be acting in violation of Insurance Law § 2114 or 2115. And in the case of either an insurance agent or broker that knowingly accepts insurance business from an unlicensed individual, the Superintendent may refuse to renew, revoke, or suspend the agent's or broker's license upon determining that the agent or broker has acted in an untrustworthy manner, see Insurance Law § 2110(a)(4)(C), or paid the nonlicensees and facilitating the unlicensed activities, see Insurance Law § 2110(a)(12).

In opining that a nonlicensee may be a member of a LLC that is licensed as an insurance agent or broker under the conditions described above, the Department expected that any such LLC would be formed for the purpose of engaging in an insurance business as a going concern, with employees and other significant expenses, and not merely as a shell mechanism for sharing commissions with a nonlicensee. However, based upon these facts, it appears that DEF Holding and ABC may have formed ABC, LLC, and kept it in existence solely for the purpose of commission sharing between ABC, a licensee, and DEF Holding, a nonlicensee, rather than as a going concern as an insurance agency. For instance, ABC, LLC does not have any employees of its own or other operating expenses that would be expected for a business run and managed as a going concern, but instead has only “minimal expenses.” Moreover, ABC, LLC does not conduct any insurance business of its own. Rather, ABC, LLC merely collects a portion of the commissions paid to ABC for sales by ABC agents and brokers that result from referrals from DEF and insurance purchases by DEF itself.

In other words, it appears that ABC, LLC does not distribute to DEF Holding a share of its profits earned in the ordinary course of business.1 Instead, ABC, LLC distributes to DEF Holding a share of commissions earned by ABC that are reduced only by minimal, non-operating expenses, in a seeming attempt to make commission sharing appear as a legitimate sharing of the profits of an LLC agent or broker in the ordinary course of business.

In view of these circumstances, ABC stands in violation of Insurance Law § 2114 for sharing its commissions with a nonlicensee, and DEF and DEF Holding have violated Insurance Law § 2102 for acting as insurance producers without a license.2 Therefore, ABC and DEF Holding must immediately terminate the present arrangement. Should ABC wish to compensate DEF for referrals, ABC may do so only pursuant to the requirements set forth in Insurance Law §§ 2114, 2115 or 2116 – i.e, that the referrals do not include a discussion of specific insurance policy terms and conditions, and that the compensation is not based on whether a sale is made.

Moreover, given that Sublicensee A is not a member or a manager of ABC, LLC, she is not eligible to serve as a sublicensee for the LLC. See Opinion of General Counsel No. 06-01-16 (January 11, 2006).

Finally, the fact that Sublicensee A is a duly appointed life and accident and health insurance agent does not authorize either DEF or DEF Holding to act as an insurance agent. In addition, Sublicensee A may not share any of her insurance commissions with DEF or DEF Holding – both nonlicensees - or with any other nonlicensee, including, but not limited to, other DEF affiliates. However, if DEF Holding or DEF were to become duly licensed as life and accident and health insurance agents and were duly appointed by the respective insurers, ABC could share commissions (other than commissions on policies purchased by a DEF entity, as discussed below) with DEF Holding or DEF, respectively, without violating Insurance Law § 2114, and such entity could receive a share of commissions without violating Insurance Law § 2102. But both DEF Holding and DEF must be licensed and duly appointed by the insurer or become licensed as an insurance broker for DEF Holding to receive a share of commissions from ABC and then share the commissions with DEF.

Rebates/Inducements

The second question asks whether a licensed life and accident and health insurance agent may share with an employer the commissions that the agent earns on life and accident and health policies purchased by the employer for the benefit of its employees, and, if so, whether 10% is the maximum amount of commissions that may be shared. Specifically, the inquirer asked “can the check be made payable to the LLC or does it need to [be] payable to DEF directly?” This section addresses whether a direct payment of a share in the commissions earned on such policies by ABC may be paid directly by ABC to DEF or indirectly as a payment by ABC, LLC to DEF Holding as a draw from the LLC.

At the outset, note that as discussed above, since DEF is a nonlicensee, ABC may not pay a share of any of its commissions to DEF, because to do so would violate Insurance Law § 2114. In addition, Insurance Law § 4224(c) - which applies to life or accident and health insurance policies - prohibits an insurance company, insurance agent or broker from giving, either directly or indirectly, any inducement or valuable consideration that is not specified in the policy or contract. That statute reads, in relevant part, as follows:

(c) . . . no such insurer doing in this state the business of accident and health insurance and no officer, agent, solicitor or representative thereof, and no licensed insurance broker and no employee or other representative of any such insurer, agent or broker, shall pay, allow or give, or offer to pay, allow or give, directly or indirectly, as an inducement to any person to insure, or shall give, sell or purchase, or offer to give, sell or purchase, as such inducement, or interdependent with any policy of life insurance or annuity contract or policy of accident and health insurance, any stocks, bonds, or other securities, or any dividends or profits accruing or to accrue thereon, or any valuable consideration or inducement whatever not specified in such policy or contract; nor shall any person in this state knowingly receive as such inducement, any rebate of premium or policy fee or any special favor or advantage in the dividends or other benefits to accrue on any such policy or contract, or knowingly receive any paid employment or contract for services of any kind, or any valuable consideration or inducement whatever which is not specified in such policy or contract. (Emphasis added.)

Thus, ABC may not share with DEF the commissions that it earns on policies sold to DEF, as that would constitute a direct rebate or inducement in violation of Insurance Law § 4224. Such prohibition would apply even if DEF were to become licensed as a life and accident and health insurance agent and was duly appointed by the respective insurers, because Insurance Law § 4224 – unlike Insurance Law § 2324 – sets forth no exemption that permits a licensed insurance agent or broker to keep a certain amount of commissions on policies that it places on behalf of itself.3

Ten Percent Rule

With regard to the inquirer’s question about whether ABC, LLC may pay to DEF Holding more than 10% of the commissions that ABC, LLC earns on life and accident and health insurance policies purchased by DEF for the benefit of its employees, the inquirer appears to reference the rule set forth in Insurance Law § 2103(i), which is commonly known as the “ten percent rule.” But the “ten percent” rule does not allow up to 10% of an insurance agent’s commissions to be shared with a nonlicensee. Rather, the statute authorizes the Superintendent to refuse to issue, suspend or revoke the license of an insurance agent if the commissions earned by the agent for insurance on the property and risks of certain specified, related parties – not including the agent itself - exceed 10% of the aggregate net commissions received by the agent in any twelve month period. Insurance Law § 2103(i) reads, in relevant part, as follows:

(1) The superintendent may refuse to issue, suspend or revoke a license, as the case may be, to or of any applicant if he finds that such applicant has been or will be, as aforesaid, receiving any benefit or advantage in violation of section two thousand three hundred twenty-four of this chapter, or if he finds that more than ten percent of the aggregate net commissions, received during the twelve month period immediately preceding, if any, or to be received during the ensuing twelve months, by the applicant, resulted or will result from insurance on the property and risks:

(A) of the spouse of an individual applicant; and of any corporation of which such individual applicant or his or her spouse or both own more than fifty percent of the shares; and of any affiliated or subsidiary corporations of such corporation; and of the members of any firm or association and their spouses, of which firm or association the individual applicant or his or her spouse is a member;

(B) of the members of an applicant firm or association and their respective spouses, and of the owners of any interest in such firm or association and their respective spouses, and of any corporation of which such firm or association or the members or owners and their respective spouses, either individually or in the aggregate, own more than fifty percent of the shares, and of any affiliated or subsidiary corporations of such corporation, and of any other firm and the members thereof and their respective spouses, of which other firm a member or members of the applicant firm or association and their respective spouses are members or owners; and

(C) of the shareholders of an applicant corporation and their respective spouses, and of any affiliated and subsidiary corporations of such applicant corporation, and of any subsidiary and affiliated corporations of a corporation owning any interest in such applicant corporation, and of any firm or association and the members thereof and their respective spouses which either individually or collectively own more than fifty percent of the shares of the applicant corporation, and of any corporation of which such firm or association and its members and their respective spouses, either individually or in the aggregate, own more than fifty percent of the shares, and of any affiliated or subsidiary corporation of such corporation. (Emphasis added).2

* * *

Although previous opinions (Opinion of General Counsel Nos. 01‑ 04‑27 (April 5, 2001) and 01‑10-23 (October 24, 2001)) have stated that commissions on employer provided group life and accident and health insurance are not subject to the limitations in Insurance Law §§ 2103(i) and 2104(d)(3) because the risk insured by such policies is on the employees and not the employer, the Department recently overruled those opinions. Such policies, therefore, come within the 10 percent limitation of Insurance Law §§ 2103(i) and 2104(d)(3). See Opinion of General Counsel No. 07-06-15 (June 15, 2007).

Thus, ABC, LLC may earn commissions on policies covering the risks and property of certain persons and entities related to ABC, LLC, such as DEF and DEF Holding and the owners and spouses thereof, provided that the sum of all these commissions does not exceed 10% of all of the commissions earned by ABC, LLC from all policies in any given year. Commissions earned by ABC, LLC on life and accident and health insurance policies purchased by DEF or DEF Holding for the benefit of its employees, as well as any owners, including their spouses, must also be included within the 10% limitation.

For further information you may contact Senior Attorney Brenda Gibbs at the Albany Office.

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1 Although the operating agreement for ABC, LLC provides that the two members are to share the profits of the LLC equally, the only member that shares in what the inquirer has referred to as ABC, LLC’s profits is DEF Holding, the nonlicensee. Presumably, this is because ABC has already taken its share of the commissions before a share is paid to ABC, LLC. However, since ABC, LLC is not operated as a going concern with operating expenses, any payments at all to DEF amount to a share of commissions. Thus, whether or not ABC receives any share of the so called “profits” of ABC, LLC is of no consequence.

2 The fact that DEF makes referrals to ABC, LLC but it is DEF Holding (which is wholly-owned by DEF) that receives from ABC, LLC a share of the commissions generated as a result of such referrals is of no consequence, particularly since a payment to DEF Holding is in essence a payment to DEF. Moreover, a licensee may not pay commissions to a nonlicensee that has engaged in actions that would constitute acting as an insurance agent or broker without a license by paying the commissions to a third party designated by the nonlicensee, even if the third party is a licensee and duly appointed. See Opinion of General Counsel No. 05-02-32 (February 25, 2005).

3 Although not relevant here, the Department has long recognized a narrow exception – the “Hotchkiss Rule” – that arises from a 1909 ruling by a prior Superintendent. Under the Hotchkiss Rule, an individual life and accident and health insurance agent, engaged in a bona fide agency business, may retain commissions on his or her life or accident and health insurance policies – covering his or her person - where the commission is earned pursuant to a contract between the agent and insurer, and pursuant to “absolute good faith.” The Hotchkiss Rule does not apply to corporations, partnerships or other entities.

4 Insurance Law § 2104(d)(3) provides that Insurance Law § 2103(i) also applies to brokers.