The Local Government Property Insurance Fund was created by the State
to make reasonably priced property insurance available to counties, cities,
towns, villages, school districts, and other local units of government.
It insures buildings, motor vehicles, libraries, and other property.
The Property Fund must accept any local government that wishes to
participate, and it cannot place restrictions on the type of property
covered. As of June 30, 2004, it insured approximately $35.9 billion in
property owned by 1,203 policyholders.
The Office of the Commissioner of Insurance (OCI) has statutory
responsibility for administering the Property Fund. However, policies are
issued, premiums are collected, and claims are paid primarily through
private contractors. Both claims and administrative expenses are financed
through policyholder premiums and investment earnings.
Section 13.94(1)(de), Wis. Stats., requires the Legislative Audit Bureau
to audit the Property Fund. As part of this financial audit, we:
reviewed financial records, supporting documentation, and
assessed the fair presentation of financial statements for fiscal years
(FYs) 2003-04, 2002-03, 2001-02, and 2000-01;
reviewed compliance with statutory provisions; and
discussed various issues with OCI staff and the fund administrator.
We have provided an unqualified auditorís report on the Property Fundís
financial statements but reported a material weakness in internal controls
related to the premature destruction of claim files.
Increases in claims and changes in
reinsurance terms and costs caused
the Property Fund to incur net
losses in three of the four years
we audited. These losses totaled
$8.1 million. However, increases
in policyholder premium rates
allowed the Property Fund to earn
net income of $9.2 million for
FY 2003-04. Premium rates have
been reduced since our audit
The Property Fund experienced a
significant increase in policyholder
claims. Total claims averaged
$14.4 million per year from
FY 1997-98 through FY 2003-04,
compared to $6.5 million per year
from FY 1989-90 through FY 1996-97.
Increases in both the number of
policyholders and the value of
property insured have contributed
to the increase in claims.
To mitigate the risk of large claims,
the Property Fund purchases
reinsurance. From FY 1997-98
through FY 1999-2000, reinsurance
significantly limited the effects of
large losses by paying $19.2 million
in claims. During that same three-year
period, the Property Fund paid
$4.0 million in premiums to reinsurers.
However, the lead reinsurer cancelled
its contract with the Property Fund
effective January 5, 2001. A new reinsurer
was selected, but reinsurance
terms were less favorable.
The terrorist attacks of September 11,
2001, caused additional changes in
the reinsurance market, and the terms
of the Property Fundís contract were
again changed. Premiums paid to
reinsurers increased from $1.1 million
in FY 1999-2000 to $5.7 million in
In addition, reinsurance did not
begin to cover claims until the
Property Fund had incurred
significantly higher claims. For
example, between 2001 and 2003,
the aggregate annual threshold
after which reinsurance would pay
claims rose from $6.0 million to
$18.0 million annually.
Because of the changes in reinsurance
contract terms, the Property
Fund began to pay a larger
percentage of claims directly. From
FY 1997-98 through FY 1999-2000,
reinsurers paid 45.1 percent of
total claims. From FY 2000-01
through FY 2003-04, they paid
only 11.0 percent of total claims.
Although the Property Fund now
pays a larger portion of claims,
reinsurance continues to serve
the same purpose it had in the
past: providing coverage when
unusually high or unexpected
losses occur. OCI continues to
monitor reinsurance use and the
terms of its reinsurance contracts.
To ensure that policyholder
premiums were adequate to cover
the Property Fundís increased
reinsurance costs and loss exposure,
OCI increased them three times
between July 1, 2001 and July 1, 2003.
As a result, revenues from premiums
paid by policyholders increased
from $11.4 million in FY 2000-01 to
$26.7 million in FY 2003-04.
The premium rate increases implemented
by OCI allowed the Property
Fund to improve its financial position
in FY 2003-04. Net income was
$9.2 million, and the year ended with
a surplus balance of $24.5 million.
Unaudited financial statements for
FY 2004-05 show a surplus balance
of $34.5 million. An adequate surplus
balance is important for the Property
Fundís financial stability. OCI
has established a target surplus of at
least $20 million, with a premium-to-surplus ratio of 1 to 1. That is,
for every $1 of premiums written,
the Property Fund should have
$1 of surplus. As of June 30, 2005,
the Property Fundís premium-to-surplus
ratio was 1 to 1.37.
The Property Fund is different than
private insurance companies in that
it cannot diversify its insurance
program across different types of
insurance or outside of Wisconsin.
This creates different risks, which
may justify maintaining the surplus
at a higher level.
OCI believes the surplus balance is
appropriate given the recent changes
in premium rates and reinsurance,
and the unique characteristics of the
Property Fund. However, it should
continue to monitor the surplus
balance to ensure it is not too large,
especially given the fiscal constraints
currently faced by participating local
Property Fund Participation
Participation in the Property Fund
increased over the four-year period
of our audit, from 1,113 policyholders
at the beginning of FY 2000-01 to
1,203 at the end of FY 2003-04. However,
participation has since declined.
As of June 30, 2005, 1,160 local
governments purchased insurance
through the Property Fund.
Some of the decline in participation
may be attributable to increases in
policyholder premium rates. However,
increased competition in the
insurance market could also be
affecting the Property Fund.
Under 2003 Wisconsin Act 78, which
took effect in December 2003, municipal
mutual insurance carriers may
sell property insurance. Previously,
they could sell only workerís compensation
insurance, liability insurance,
and risk management services. OCI
should continue to monitor trends in
Property Fund participation.
Destruction of Claim Files
During the course of our fieldwork,
we found that a subcontractor hired
by the Property Fundís previous
administrator had destroyed nearly
all documentation to support claims
paid in FYs 2000-01 and 2001-02.
Claim files are important because
they provide the documentation
necessary to support paid claims.
Without this information, the Audit
Bureau could not provide an opinion
on the Property Fundís financial
statements. Working with the current
fund administrator and local governments,
OCI re-created the missing
claim files. However, the process
delayed our audit significantly, and
extra costs were incurred by both
OCI and this office. According to
OCI, these extra costs will be paid by
the previous fund administrator.
We note that the claim files were
destroyed in violation of the
Stateís record-retention rules. The
destruction of the files occurred two
years after the transition to the new
fund administrator. OCI could have
been expected to take additional
steps to ensure that claim files were
In a separate management letter,
we make recommendations for
OCI to include specific language
in its contract with the current
fund administrator to define the
Stateís requirements for retaining
Property Fund documents. We also
recommend that steps be taken
to ensure any additional claim
files held by the previous fund
administrator or its subcontractor
be properly maintained.