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Outsourcing Guidelines for Insurers in USA

Last updated: 21 Nov, 2019 By | 6 Minutes Read

Nowadays, the term “Outsourcing” is being commonly used in every business industry. This initially rook roots in the insurance sector; when the world faced recession, uncertainty and strict government regulations in the mid 90’s. The cut throat competition and rising customer demands ended up with outsourcing as an indispensable part of the insurance scenario.

Well, we all are aware that; insurance outsourcing is commonly used in the developed countries such as USA, Australia, Canada and UK, so it is acceptable that every state has different government regulations and guidelines to adhere while Outsourcing their tasks in an offshore country.

So here is an overview of the new guidelines designed by the USA for their insurers:

1. National Regulations

Now the question that is striking the mind of every insurer in the US is; what extent does the national law specifically regulate the outsourcing transaction? Actually, US federal laws do not particularly regulate the outsourcing transaction.

Contract law is most probably governed by state laws that include intellectual property rights, immigration, export controls, and bankruptcy. But some industries such as healthcare, finance, and insurance are regulated either by state or federal law or both. However, these guidelines often affect the negotiated content of the outsourcing transactions to an extent.

2. Sectoral Regulations

There is some sectoral regulation when you want to outsource these tasks such as:

Financial services:

Federal and state law governing the privacy and security of customers usually affect the outsourcing transactions. The relevant federal agencies who look after the financial services industry include federal reserve, the office of the Comptroller of the currency, federal deposit insurance corporation, financial regulatory industry authority, securities and exchange commission, and consumer financial protection bureau.

The outsourcing firm needs to meet various disclosures, reporting and anti-money laundering requirements that include bank service company act, bank secrecy act, US patriot act, and secure and fair enforcement mortgage licensing act.

Business Process:

Outsourcing company that offers finance and accounting and human resource in the private sector are not generally regulated. However, each business process outsourcing companies that offer the above-mentioned services must be analyzed again.

For example, supplier workforces cannot perform the unauthorized practice of accounting or law in finance and accounting offering whereas in human resource the supplier cannot perform services in violation of applicable employment law.

Telecommunications:

Even here, there is no specific governing the outsourcing of telecommunications. However, certain outsourcing arrangements may have to meet the ancillary rules such as the Federal Communications Commission (FCC).

Public Sector:

Public contracting in the USA is highly regulated on both state and federal level due to political reasons.

3.Legal Structure

Legal structure is very complex to understand, as every country has its own legal structure. This is surely a hurdle for businesses, but they cannot neglect the same. You need to understand the common legal structure that is used in outsourcing.

First Legal Structure:

The very first common legal structure that is commonly used in outsourcing is an Umbrella Master Services Agreement (MSA) and Statements of Work (SOW).

MSA is basically an agreement made between a customer and a supplier for the provision of services that includes general terms such as definitions, customer policies, service level methodology, pricing and fees, terms relating to governance and terms relating to customer/ suppliers competitors. And the actual description of services will set out in the SOW, which is attached to MSA.

Second Legal Structure:

The second commonly used legal structure is One-off Master MSA, which exhibits or schedules that are barely tailored for the initial transaction which includes SOWs, actual service levels, specific transition obligations, facilities, reports and so on.

4.Procurement Process

Do you know what procurement processes are used to select a supplier of outsourced services? There are mainly three types of processes:

Competitive bidding process:

To gather information about the suppliers, customers often send a request for information (RFI) to suppliers. After obtaining the adequate amount of information, customers typically send a request for proposal (RFP) with detailed specifics on pricing, performance, and other requirements. Mostly, customers outsource their entire bidding process to an outside consultant.

Sole source bidding source:

Customers sometimes negotiate contracts on their own without a competitive bidding process, for example, a customer may have a strong ongoing relationship with an incumbent supplier.

Due diligence:

Due diligence of suppliers is required for customers who are in regulated industries such as financial services, insurance, and healthcare. Due diligence questionnaires, meetings, interviews, and even site visits are frequently used in both competitive and single sourcing bidding of projects.

5. Transferring or leasing assets

There of immovable physical assets and real estate is rare in outsourcing transactions. Immovable property can be transferred through a written agreement.

6.Formalities for leasing or licensing

There are different formalities in leasing an asset with various IP rights on an outsourcing transaction which implicates different in immovable property and different in movable property.

7.Transferring employees on outsourcing

Now many businesses based in the USA are unaware of the fact that an employee cannot be transferred by operation law. However, many outsourcing transactions in the US have international scope for global customers and in European countries, there can be a transfer by operation of a law of employees located in jurisdictions.

The parties have the freedom to contract for rebadging employees from an incumbent supplier to an incoming supplier. Even the parties have the freedom to contract rebadging employees from an incumbent supplier back to a customer.

8. Data protection and data security

Many issues can arise on an outsourcing transaction with concern to data protection and there are few legal or regulatory requirements that need to be implemented. Here are some requirements and compliance with concern to data security and data protection by the law.

General requirements: 

The US takes the fragmented and sectoral approach to the law of data protection and data security. There are a variety of state and federal laws on the topic, many of which are focused particularly on the industry sector such as healthcare, financial services, insurance, telecommunications and education.

Depending upon the industry sector of the outsourcing customer, there are certain obligations addressed in the contract of the outsourcing service provider with concern to the protection of personally-identifying information of individuals whose data may be accessed or processed under the agreement.

Security requirements:

Data security terms have become an increasingly significant aspect in the USA on the part of outsourcing contract negotiations. As with data protection and privacy, the legal structure is fragmented, and there is no single uniform set of statutory or regulatory requirements for the security of the consumer personal data. And this specific requirement tends to depend on the industry sector.

Mechanism to ensure compliance:

The enforcement of data security requirements in the private sector generally falls to regulatory agencies that overlook sector-specific requirements. For example, federal financial regulators oversee compliance with data security obligations of the entities they regulate by conducting industry examination and investigation.

International Standards:

Transaction that includes transfers of personal data of EU data subjects to the US must address the data transfer requirements under Directive 95/46/EC on data protection and from May 2018 under regulation (EU) 679/2016 on the protection of natural persons with regard to the processing of personal data and on the free movement of such data in order to meet EU standards for the adequate protection of personal data.

Sanction for non-compliance:

Non- compliance with state or federal data security laws may lead to investigation and enforcement actions by the relevant regulatory authority. Sanction issues can include voluntary consent decrees that include significant ongoing obligations by the subject companies to multiple data security procedures and disclosures.

9.Service specification and levels

The services are generally described in a statement of work intended to form part of the overall agreement. A statement of work may be initially drafted by either party and the parties co-operate to finalize the statement of work throughout the negotiation process. The specific service levels are generally set out in a service level matrix associated with a particular scope of work and the service level mechanics are addressed in a service level methodology.

10. Flexibility in volumes purchased

Parties often negotiate very particular volume models for the needs of customers. In a resource-based model, the parties adjust pricing based on additional resource charges and reduced resource credits.

Some outsourcing contracts may also allow for negotiating major volume adjustments and repricing upon the occurrence of extraordinary events such as major regulatory changes affecting the customer, major market events and so on that gradually affects the business are requirements of the customer.

11. Charging methods and key terms

There are 4 types of charging methods and key terms that are commonly used in outsourcing.

Resource-based charges: 

In a resource-based pricing scheme, a pre-agreed fixed monthly fee applies for a volume baseline which can be adjusted with additional resource charges (ARCs) and reduced resource credits (RRCs), and customers pay the suppliers more or less depending on the ARCs and RRCs.

Time and materials: 

Parties often contract suppliers to provide resources on a time-and-materials basis. This arrangement may supplement a resource-based fee structure, where project work can be added to the base services being provided.

Fixed price:

If the scope work is well defined and not subject to large variations, the parties may contract on a pre-agreed fixed fee covering the entire scope of work.

Cost plus: 

Some or all charges under an outsourcing contract may be structured on a “cost plus” basis, consisting of an agreed overall cost of delivery of the services plus an across the board mark-up of the base cost to provide for the service provider’s agreed overall return or profit on the transaction.

12.Customer remedies and protections

If the supplier fails to perform its obligation, the customer can file an action against the supplier for breach of contract and claim damages, for example, expenses for substitute services.

Certain defined breaches and material breaches may give rise under the contract terms to the customer’s right to terminate for cause. If a dispute involves claims of IP infringement or violation of confidentiality terms, the injured party can seek temporary injuctive relief based upon a showing of irreparable harm.

13.Warranties and indemnities

The warranties and indemnities in a contract often vary significantly depending on the applicable Master Services Agreement and the scope of services.

Customers typically request for the following warranties:

  • Authorization to sign and execute the agreement.
  • That performance of the services will be performed in a professional and workmanlike manner, in some cases with reference to particular industry standards.
  • That service or deliverables will meet agreed performance requirements and specifications in the agreement.
  • IP non- infringement of all deliverables and supplier materials to be accessed or used by the customer.
  • Compliance with laws.
  • No malicious or disabling code in deliverables or supplier systems that will be used or accessed by the customers.

Customers typically request for the following indemnities against third-party claims:

  • Any IP infringement of third party rights caused by the deliverables and supplier materials.
  • Bodily injury or death of individuals and tangible property damage.
  • Supplier’s misuse or misappropriation confidential information.
  • Supplier’s compliance with suppliers laws.
  • Supplier’s non-payment of tax obligations allocated to the supplier under the contract.
  • Supplier’s responsibility for the employment of its personnel.

To an extent, applicable suppliers generally require all of the warranties and indemnities to be made mutual.

14.Term and notice period-

The parties are free to contract for the term of an outsourcing agreement. Terms of three to seven years are typical, and it is common for customers to have the option to unilaterally extend the term for a short duration might be 1 year, at the existing terms in effect including subject to inflation, foreign exchange, and the other pricing provisions.

15.Termination and Termination Consequences

There can be many consequences justifying termination of outsourcing without giving rise to a claim in damages against the terminating party. Here the events justifying termination:-

Material breach:

Most probably customer can terminate an agreement for a material breach of the agreement to the extent that the suppliers fail to remedy the breach within 30 days of receiving notice of the breach.

Insolvency events:

Customers generally have the contractual right to terminate an agreement based on the insolvency or bankruptcy of a supplier, though this right may be limited in practice by bankruptcy law. The notice period for termination for bankruptcy is 60 days; usually longer than for termination for cause and shorter than termination for convenience.

Termination for convenience:

Customers always have the right to terminate an agreement for convenience, in whole or in part. The notice period for a termination for convenience is usually much longer than other termination rights, i.e. 180 days and the period varies depending on the specifics of the transaction.

Supplier termination for non-payment:

The supplier typically has the right to terminate for non-payment by the customer of undisputed fees, and the notice and remedy period is usually shorter than a material breach termination right, i.e. 10 days.

16.Liability, exclusions, and caps-

Being an owner of an insurance company, you must know how much liability of yours can be excluded by the government. In the US, sophisticated parties dealing at arm’s length generally have the freedom to contract for liability caps and exclusions of certain types of liability such as indirect damages, lost profits, etc.

17.Dispute resolution-

A exact dispute resolution provision will include escalation procedures within certain defined time periods. If the dispute is not resolved during the course of such escalations, which typically culminate at the level of the parties’ senior management, a dispute resolution provision typically permits either party to:

  • File an action in the applicable courts.
  • Invoke a binding arbitration procedure

18.Tax-

When you are outsourcing your insurance back office tasks or finance and accounting the main tax issues that arise are:

Transfers of assets to the supplier:

Usually, assets are not transferred to the supplier in an outsourcing transaction. If assets are transferred to a supplier, the supplier may be responsible for state or local sales or use taxes on the purchase or lease of such assets.

Transfers of employees to the supplier:

When employees are rebadged by a supplier and become a supplier’s employee, then the supplier is responsible for paying the applicable withholding taxes, including any federal, state or local income taxes and federal employment and unemployment taxes.

VAT or sales:

The US does not impose any federal VAT. However, VAT may be applicable for services delivered outside of the US.

Service taxes:

This is as stated above with respect to a sales tax on the services.

Stamp duty:

On a federal level, the US does not have a stamp tax.

Corporation tax:

Each party is generally responsible for taxes imposed on its income.

Other tax issues:

When scope outside of the US is contemplated for a customer, the parties often agree to allocate responsibility for withholding taxes on certain cross-border payments and seek to minimize any such taxes.

Conclusion-                                     

At the end, I hope this guideline will help insurers of the USA before outsourcing insurance tasks to a reliable partner. These guidelines will not help you to prevent from any fraudulent company, but it will help you to follow the ethics of the country, instead of performing any illegal activity which can lead your business towards insolvency.

Have you had a tough time finding a reliable outsourcing service provider? Consider Cogneesol – an established insurance process outsourcing company that can help you manage most of your insurance company operations. For more information on our services, call at +1 646 688 2821 or email at info@cogneesol.com.

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