hlorgan, Lewis & Bockius LLP 

11 11 Pennsylvania Avenue, NW 

Washington, DC 20004 

Tel: 202.739.3000 

Fax: 202.739.3001 

ww~.rnorganlewis.corn 

November 23, 2005 

Morgan Lewis COUNSELORS AT LAW 

VIA FEDERAL EXPRESS AND 

VIA ELECTRONIC MAIL TO: 

Mr. Leonard Robinson 

Acting Director 

California Department of Toxic Substances Control 

1001 "I" Street 

Sacramento. CA 9581 2-0806 

Re: November 29,2005 Workshop on Financial Assurance - 

Comments on Financial Test and Captive Insurance Issues 

Dear Mr. Robinson: 

On behalf of the RCRA Corrective Action Project and the Superfund Settlements 

Project (hereinafter collectively "the Projects"), this letter provides substantive 

comments in advance of DTCS's upcoming November 29,2005 financial 

assurance workshop focused on financial test issues and captive insurance 

issues. We very much appreciate the opportunity to comment on these important 

issues as presented in the DTSC's various discussion papers. 

As set forth below in greater detail, we believe that the DTSC discussion papers 

overall present an unduly negative view of the existing financial assurance 

framework for environmental cleanups. This letter presents the response of the 

Projects to some of the major points made in the discussion papers. We hope 

that this response will stimulate further analysis and debate about these very 

important issues. 

1. Background on RCAP and SSP 

The Superfund settlements Project ("SSP") and the RCRA Corrective Action 

Project ("RCAP") have worked since their formation nearly 20 years ago to 

provide constructive input to EPA and other federal and state agencies on critical 
Morgan Lewis COUNSELORS AT LAW 

policy issues affecting the cleanup of contaminated sites. The members of these 

two Projects include companies that maintain their corporate headquarters in 

California, companies that have substantial operations in California, and 

companies that are responsible for addressing contaminated sites in California. 

Moreover, each of the Projects' member companies has extensive experience 

with contaminated sites. As just one indicator of the scope of that experience, 

the members of the SSP alone have spent over $6 billion in the investigation and 

remediation of contaminated sites, including many sites in California, since the 

major federal and state cleanup programs began some 25 years ago. 

On behalf of their members, the Projects are pleased to submit these joint 

comments on the DTSC's discussion papers regarding two aspects of financial 

assurance: (I) the financial test and (2) the use of captive insurance. 

11. Issues Associated with the Financial Test. 

The Projects recognize that financial assurance is an essential element of the 

legal framework for cleanup of contaminated sites. We fully support sound and 

reasonable requirements to provide such assurance. 

Despite our strong support for financial assurance, we are deeply concerned that 

the DTSC discussion paper on the financial test is flawed in two respects: It 

overstates the perceived problems with the test, and it suggests a variety of 

regulatory changes that are unnecessary and would not improve the program. 

A. The Current Framework Has Worked Well. 

The discussion paper candidly acknowledges that "there have been no instances 

where DTSC had to perform closure, postclosure, or corrective action activities 

where a facility ownerloperator using the financial test has failed" (emphasis 

supplied). In fact, DTSC's experience in this regard mirrors what has occurred 

throughout the United States. 

Thousands of sites undergoing either Superfund cleanup or RCRA corrective 

action have been addressed, in whole or in part. Yet we know of no reported 

instances where one of these sites became a taxpayer liability because an 

ownerloperator or a potentially responsible party ("PRP") defaulted on its 

financial assurance mechanism.' 

This highly successful track record to date is, of course, no guarantee against 

future defaults. But it is highly relevant to any analysis of whether the existing 

1 In fact, something quite different occurred at the BKK Landfill site in California. When 

the ownerloperator declared that it was unable to continue funding cleanup efforts, 

various PRPs at the site took over the project. 
Morgan Lewis COUNSELORS AT LAW 

framework for financial assurance is working well, and whether any changes 

should be made to that framework.* 

B. Background on the Financial Assurance Regulations 

At the outset, it is important to understand what "financial assurance" is meant to 

accomplish and how it works in practice. The regulatory framework was 

promulgated by EPA in 1982. Those regulations addressed financial assurance 

for permitted RCRA treatment, storage, and disposal facilities ("TDSFs"), but they 

have since been used by EPA and most states for Superfund sites and RCRA 

corrective action sites as Under those rules, the owner/operators or PRPs 

who are responsible for closure, post-closure care, corrective action, or 

remediation (hereinafter generally "cleanup") must establish and maintain 

financial assurance for that work. 

Significantly, financial assurance is meant to be the primary means by which 

a company fulfills its cleanup obligations. Instead, financial assurance is meant 

to be the back-up mechanism in the unlikely event that the company is otherwise 

unable to fulfill those obligations. 

The EPA rules, which today are part of the authorized RCRA Subtitle C program 

in virtually all States, require ownerloperators and PRPs to demonstrate financial 

assurance using one or more of six main options: 

a trust fund; 

a surety bond; 

a letter of credit; 

r an insurance policy; 

r a financial test; or 

r a corporate guarantee. 

The detailed requirements for these six mechanisms fill some 55 pages in the 

Code of Federal Regulations at 40 C.F.R. Part 264, Subpart H.~ 

2 The discussion paper's references to the Enron and Worldcorn accounting scandals, 

which did not involve any environmental liabilities, are distracting and unhelpful. No 

legal mechanism can prevent the commission of fraud by someone determined to 

engage in fraudulent conduct. The fact that some companies manage to defraud their 

creditors is hardly an indictment of the current framework governing financial 

responsibility for environmental cleanup liabilities. 3 The RCRA rules are legally applicable only to TSDFs. EPA has decided, as a matter 

of policy, to require the same financial assurance mechanisms at RCRA facilities 

undergoing corrective action and at Superfund sites as well, using judicial consent 

decrees, unilateral administrative orders, and administrative orders on consent to 

incorporate the RCRA rules for TSDFs. 

4 Although the financial assurance rules are lengthy and detailed, they are not nearly as 

complex as many other EPA RCRA rules, such as the definition of "solid waste." 
Morgan Lewis COUNSELORS AT LAW 

For financially strong companies, EPA's regulations provide low-cost 

mechanisms such as the financial test, which relies upon the inherent strength of 

the company to assure performance of its obligations. For less-strong 

companies that could not qualify for the financial test, EPA's rules provide costlier 

mechanisms, such as letters of credit and surety bonds, to minimize the 

possibility that the liabilities of these companies would be shifted to the 

taxpayers. In other words, EPA recognized that different financial assurance 

mechanisms are appropriate for different companies, depending upon their size 

and strength, among other factors. 

The financial test mechanism was adopted by EPA only after a careful analysis 

of competing considerations and supporting evidence. For example, EPA 

decided to use fairly simple measures to evaluate financial performance for the 

purpose of determining whether a company would be able to cover its cleanup 

obligations. These include readily available measures such as a company's 

bond rating, its tangible net worth, and its net working capital. 

The EPA financial test is also quite conservative. It requires either: 

a bond rating of a certain gade5 plus tangible net worth of at least $10 

million plus net tanqible worth of 6 times total remediation liabilities 

("Alternative II"), or 

two of three other factors plus tangible net worth of at least $10 million 

plus net workinq capital (i.e., liquid assets) of 6 times total remediation 

liabilities ("Alternative I"). 

Putting aside for a moment the other factors included in Alternative I, these are 

very conservative measures for evaluating whether a company can pay its debts 

as they come due. We discuss some of these measures below in greater detail. 

In particular, Alternative Il's reliance on bond ratings should give environmental 

regulators a high degree of confidence that business failures are unlikely for at 

least the next several years. The major bond rating agencies monitor both the 

market conditions and the individual circumstances of the companies they rate 

on a continuous basis. They normally update their ratings each year, but any 

time there is a significant change, either in the market or in the company itself, 

they tend to perform a more thorough review and then update their rating as 

warranted. 

5 The bond rating of the ownerloperator reflect the expert opinion of bond rating services 

and evaluates the firm's financial management practices. The rating firms, S&P and 

Moody's, are well respected and widely utilized sources for credit ratings. 
Morgan Lewis COUNSELOklS AT LAW 

C. Concerns About the Financial Test are Overstated. 

The discussion paper gets off on the wrong foot by suggesting that the financial 

test "provides absolutely no certainty as to the amount or the availability of 

funds." Although "certainty" is an elusive goal in most human endeavors, the 

financial test actually provides a robust assessment of the current financial 

strength of a company and also of the likelihood that it may undergo financial 

deterioration in the next several years. 

In that regard, the financial test was specifically designed to cover a 3-year "lookahead" period. EPA determined that companies qualifying for the financi,al test 

are highly unlikely to seek bankruptcy protection or otherwise default over the 

next 3 years. This 3-year "look-ahead" aspect is a central feature of the financial 

test, but it has often been overlooked in the policy debate on financial assurance. 

Because a company must re-qualify again every year if it wishes to keep using 

the financial test, there is always at least a 2-year "look-ahead" period during 

which a default is highly unlikely. In fact, EPA has reviewed this issue several 

times (e.g., in connection with financial assurance for municipal solid waste 

landfills), and has reaffirmed its original analysis. 

D. The Suggested Changes to the Financial Test Are Not Justified. 

The discussion paper suggests four possible changes to the financial test. We 

address each of these separately. In Section Il-F below, we also address some 

of the costs and burdens that would be associated with rulemaking aimed at 

implementing these changes. 

1. The $10 Million Tangible Net Worth 

Requirement Should be Preserved. 

In its 1982 RCRA rulemaking, EPA concluded that a company meeting the 

required threshold of $1 0 million in tangible net worth was extremely unlikely to 

declare bankruptcy at any time in the next 3 years. In other words, the financial 

test is constructed to screen out companies that have a significant risk of 

declaring bankruptcy at any time in the next 3 years. 

The discussion paper says that "not adjusting the $10 million tangible net worth 

requirement to reflect inflation has substantially increased the risk of bankruptcy." 

No support for this statement is offered, perhaps because the statement was 

thought to be simple common sense, but in fact it is incorrect. 

EPA's original analysis has actually been revisited on several occasions - most 

notably in the late 1990s, in connection with the development of financial 

assurance rules for municipal solid waste landfills - and its validity has been 

reaffirmed each time. See, e.g., 63 Fed. Reg. 17,706, l7,7I 5-1 8 (April 10, 1998) 

(discussing comments and explaining retention of $10 million standard in final 

rule on financial assurance for municipal solid waste landfills); 50 Fed. Reg. 
Morgan Lewis COUNSELORS AT LAW 

30,201 (July 1, 1991) (proposing certain revisions to Alternative I, but not 

proposing to modify the $10 million standard). EPA is well aware of the fact of 

inflation. Given EPA's recent review and retention of the $1 0 million tangible net 

worth requirement, substantial further analysis is required to support any upward 

adjustment in this standard. 

2. Assets Used as Security Should Not Be Excluded from 

the Computation of Tangible Net Worth for Companies 

with Bond Ratings. 

The discussion paper suggests that assets pledged as security for indebtedness 

should not count toward the tangible net worth requirements in the financial test. 

We have significant reservations about this approach. 

Companies that qualify for Alternative II based on their published bond ratings 

should not have to adjust their tangible net worth in this manner. The bond 

ratings already take into account all of their assets and liabilities, including both 

the net value of pledged assets and also the debt secured by those assets. For 

companies with sufficiently strong bond ratings to use Alternative II, there is little 

point to fine-tuning the computation of tangible net worth in this fashion. 

3. The Altman's Z Score Option Should Not Be Required. 

For the reasons presented by the American Chemistry Council in its separate 

comment letter to DTSC dated November 14, 2005, we believe that this 

suggested change is unsupported and unwise. In particular, companies with 

published bond ratings that qualify for Alternative II of the financial test should not 

be subject to duplicative evaluations of their credit-worthiness. 

4. Any Change to Line 1 of the DTSC Financial Test Form 

Should be Carefully Reviewed. 

Companies using the financial test are typically required to disclose their other 

environmental liabilities, including the specific cost estimates for each of the 

other sites involved, regardless of which state(s) those facilities are located in. 

The discussion paper suggests that, in addition, companies should report the 

regulatory cost amounts and third-party liability amounts for out-of-state facilities 

"to the extent the ownerloperator is using the financial test to guarantee those 

obligations." In other words, a company using the financial test for its closure 

obligations at facilities in both California and Texas would be required to report 

the total amount of those obligations on Line 1 of DTSC's financial test form. We 

do not object to this change, so long as it is limited to those out-of-state 

obligations for which the companv is usinq the financial test. 
Morgan Lewis COUNSELORS AT LAW 

E. The "Negative Assurance" Issue Does Not Mandate Rulemaking 

to Change the Financial Test. 

The workshop materials also suggest that changes to the financial test are 

needed because of the negative assurancelagreed-upon procedure issue. 

Specifically, the DTSC issues paper states that "the Department is prohibited by 

law from accepting the agreed upon procedures in lieu of the negative 

assurance." We believe that this is incorrect. 

The current regulatory ,situation is admittedly somewhat unusual. EPA's 1982 

RCRA financial assurance rules require each company relying upon the financial 

test to submit a special report from its independent certified public accountant. 

That special report must include a statement that he has compared the , 

company's audited financial statements with the letter from the company's chief 

financial officer summarizing certain data from those statements and that "no 

matters came to his attention which caused him to believe that the specified data 

should be adjusted." 40 C.F.R. § 264.143(f)(3)(iii)(b) (2005). 

This statement that "no matters came to his attention" is commonly referred to as 

the "negative assurance" by the accountant. The wording of the DTSC regulation 

is virtually identical, 22 Cal. Reg. § 66264.143(f)(3)(C), and most other states 

have adopted this language as well, either through incorporation by reference or 

otherwise. 

In 1995, the Auditing Standards Board of the FASB issued new standards that 

effectively prevented accountants from giving negative assurances in cases 

where the client and the independent accountant enter into an agreement that 

defines the scope of the accountant's work. This created some regulatory 

tension, because companies using the financial test were supposed to provide 

"negative assurances" from their accountants, but the accountants were no 

longer able to render those "negative assurances." 

Eighteen months later, EPA issued a memorandum designed to address this 

problem. In this 1997 memorandum, EPA stated that it intended to address the 

situation through rulemaking and, in the meantime: 

"EPA will accept a CPA's report describing the procedures performed and 

related findings, including whether or not there were discrepancies found 

in the comparison, based on an agreed-procedures engagement 

performed in accordance with [the new standards]. . . . The Agency will 

regard this report as satisfying the requirements of the financial test . . . for 

a special report by an independent CPA . . . ." 

Although the resulting situation is not ideal, it provides the regulated community 

with practical guidance on how to maintain their compliance pending further 
Morgan Lewis COUNSELORS AT LAW 

action by EPA to address the issue. DTSC has suggested that it lacks discretion 

to take an approach similar to EPA's, and that it must engage in rulemaking to 

modify the financial test. We believe this suggestion is unfounded. 

This entire issue arises from the RCRA Subtitle C financial assurance regulations 

that were issued by EPA and then adopted by virtually all States in order to 

obtain program authorization under section 3006 of RCRA. The DTSC rules are 

thus closely patterned on the EPA template rules. With regard to the "negative 

assurance" issue, the two sets of rules are virtually identical. 

DTSC states that "[tlhe Department does not have the discretion to accept an 

agreed upon procedures statement [because it is] less stringent that the express 

requirements of State and federal regulations." We agree that as a condition of 

program authorization, DTSC's RCRA program must be at least as stringent as 

the federal program. But there is no issue here of stringency. With regard to the 

negative assurance issue, DTSC's published regulations are every bit as 

stringent as the federal regulations. So DTSC has satisfied the requirements of 

RCRA § 3006. 

The real issue here is one of enforcement discretion. EPA has clearly stated that 

in view of the current disconnect between the RCRA rules and practices of the 

accounting profession, it will accept an agreed upon procedures statement as 

satisfying the negative assurance requirement for the independent accountant's 

report. We know of no impediment to DTSC adopting this same approach. In 

fact, DTSC's enforcement discretion allows it to do precisely what EPA has, done 

pending a more satisfying long-term resolution of this issue. 

In sum, the "negative assurance" issue does not compel any rulemaking by 

DTSC to revise its financial test regulations. 

F. More Stringent Financial Assurance Would Come at a Cost. 

The discussion paper reveals a policy preference for requiring more liquid forms 

of financial assurance for virtually all cleanup obligations. Unfortunately, the 

discussion paper looks only at the asserted benefits of more financial assurance, 

and does not take into account the costs. As we show below, those costs are 

substantial. They include not only the out-of-pocket cost of acquiring more 

financial assurance, but also the uncertainty and delay that would attend any 

effort to rewrite RCRA rules that have been on the books for more than two 

decades. 

To begin with, if the financial test were eliminated, as the discussion paper 

suggests it could be, then the actual out-of-pocket cost of liquid financial 

assurance mechanisms could exceed $1 billion per year on a nationwide basis. 

The universe of sites to be addressed nationwide includes at least 5,000 sites 

(Superfund NPL sites plus RCRA TSDFs plus RCRA corrective action sites that 
Morgan Lewis COUNSELORS AT LAW 

are not TSDFs). Using an average cleanup cost figure of $10 million, which is 

probably on the low side, the total cost of the work to. be performed may be in the 

range of $50 billion. Not all of that work will be performed in California, but a very 

significant fraction of it will be. 

The estimated annual cost of a letter of credit, often considered the least costly 

financial instrument, is approximately 3% of the amount being guaranteed. Thus, 

if letters of credit were to be required, then the total amount of money that would 

be paid to the issuing banks and other institutions in any given year would be 

roughly $1.5 billion on a nationwide basis6 Before any costs of this magnitude 

are imposed, it would be essential to analyze both their benefits and their costs. 

Moreover, every dollar spent on financial instruments is a dollar that is not 

available for capital improvements such as new plants, proactive investment in 

pollution control equipment, and the like. This is not only a matter of decreased 

return to shareholders on their investment; it also affects the amount of money 

available to run the business. 

Apart from these out-of-pocket costs, there is also the uncertainty and confusion 

that would result from changes to the existing framework for financial assurance. 

EPA's existing financial assurance requirements were adopted. through noticeand-comment rulemaking in 1982. Since that time, the very detailed provisions 

of these regulations have been built into the authorized RCRA programs of 48 

~tates.~ These provisions have also been built into numerous RCRA and HSWA 

permits, as well as into many RCRA and CERCLA consent decrees and other 

enforceable agreements. 

Any revisions to the baseline financial assurance regulations would also entail a 

protracted process that will generate greater confusion and uncertainty. 

Experience teaches that the RCRA rulemaking process (and any judicial review) 

will take a number of years to complete. 

In sum, the process of revising the financial assurance rules would bring with it 

substantial costs, as well as delay and uncertainty. This is not a process to be 

undertaken unless there is strong reason to believe that a significant problem 

needs to be corrected. For the reasons previously stated, we believe that no 

such problem exists. 

6 The actual amount might be less if the PRPs were permitted (as they are under 

current RCRA rules) to reduce the amount of the letter of credit each year as the cost of 

the remaining cleanup work decreased. 

7 In many States, the EPA requirements were incorporated by reference. In other 

States, they were specifically enacted by the legislature. 
Morgan Lewis COUNSELORS AT LAW 

Ill. Issues Associated with Captive lnsurance 

Turning now to captive insurance, the DTSC discussion paper states that 

"captive insurance does not provide the same safeguards as the financial test" 

because "[tlhere is no annual review of the financial health of. . . the captive . . . 

." This statement proves too much, because it is true of liability insurance, not 

just captive insurance. In other words, the facility obtains an insurance policy 

and the environmental regulatory agency does not conduct an annual review of 

the financial health of the insurance carrier. Yet EPA, DTSC, and virtually all 

state environmental regulators recognize that liability insurance is an important 

option for many facilities seeking to demonstrate financial responsibility for 

various cleanup obligations. Therefore, it is essential to focus on whether captive 

insurance is, in fact, so different from other types of insurance that its regulatory 

status should be different. We believe the answer is "no." 

At the outset, it is important to understand what captive insurance is and how it 

works. In essence, a subsidiary corporation is established to write insurance for 

sits parent entity.' This arrangement allows the parent to avoid the uncertainties 

and cost fluctuations of the commercial insurance market by having its insurance 

needs met by an entity subject to its control. 

"Such captives are usually set up for one of three reasons: one, the risk is 

otherwise uninsurable, in which event there is a sound business purpose 

behind such procedure; second, the parent seeks to save money on 

premiums, in which event, assuming its judgment is sound, more profit 

remains in the parent which will be taxed; third, the parent company may 

not qualify [to write insurance] under the laws of that state, requiring a 

subsidiary company to be established for that purpose." 

Appleman on lnsurance Law & Practice § 10999 (Matthew Bender 2005). 

Captive insurance is a sophisticated and legitimate financial strategy that benefits 

the large and medium-sized insurance consumer by providing it with greater 

control over its risk programs, the ability to achieve cost savings and efficiencies 

that are passed on throughout its organization, and the opportunity to customize 

the type(s) of insurance coverage that it purchases. The captive insurer, in turn, 

is free to tap the reinsurance market directly in order to spread its potential 

liabilities more broadly. 

8 "Captive insurance companies are typically closely-held companies whose insurance 

business is supplied and controlled by the owners, in which the original insureds are the 

principal beneficiaries." Business lnsurance Law & Practice Guide § 26.03[1] (Matthew 

Bender 2005). A captive insurance company is commonly formed as a sister company 

to the insured, e.g., as a subsidiary of the parent holding company that owns the 

insured. 
Morgan Lewis COUNSELORS AT LA'V 

Captive insurance has grown dramatically in recent years. Roughly half of the 50 

States have statutes s ecifically allowing captive insurers to be chartered as 

insurance companies.' 'The six leading domiciliary states actively market their 

competitive advantages on Web sites, at trade conferences, and through 

relationships established with trade groups. . . . Vermont emphasizes that it is 

the third-largest captive insurance domicile in the world and the number one in 

the United States, with an insurance department that has more than 20 years of 

experience in regulation [risk retention groups.]"'0 

We turn now to the 4 questions that DTSC raised in its workshop materials. 

1. Does captive insurance provide the same level of assurance as thirdparty insurance? 

The level of assurance provided by any insurance contract depends upon the 

financial strength of the issuer, be it a captive insurer or a third-party carrier. So 

long as the insurer has sufficient resources to meet its expected payments, the 

level of assurance provided is also sufficient. 

The discussion paper suggests that "captive insurance lacks the essential 

characteristics of true insurance [i.e.,] risk-shifting and risk-distribution." As 

support for this proposition, DTSC quotes dictum from Arnerco, Inc. v. 

Commissioner of Internal Revenue, 979 F.2d 162 (gth cir. 1992), a tax case 

involving insurance contracts between sister corporations. In fact, the Arnerco 

court ruled that such contracts didinvolve both risk-shifting and risk-distribution, 

and thus constituted true insurance. Accord, Humana Inc. v. Commissioner of 

Internal Revenue, 881 F.2d 247 (6th Cir. 1989). 

It is noteworthy that the cases analyzing whether captive insurance qualifies as 

'insurance" are tax cases, where all that is really at stake there is the deductibility 

of the premiums paid by the parent corporation. Where the tax cases find that 

captive insurance is not "insurance," they do so because the parent's balance 

sheet will ultimately reflect any decrease in value suffered by the captive insurer 

when it pays the liability or loss of the parent. Appleman on Insurance Law & 

Practice § 10999 (Matthew Bender 2005). 

This may make sense as an accounting matter, but it has no bearing on whether 

captive insurance provides "insurance" for purposes of demonstrating financial 

assurance. Thus, the discussion paper is wrong when it says that "the financial 

stability of the [captive insurer] is completely dependent on the financial health of 

the parent." Every captive insurer is a separate corporation, and must be 

adequately capitalized to meet its anticipated obligations. Moreover, captive 

insurers can be rated for financial strength by AM Best, S & P, and Fitch rating 

9 U.S. Government Accountability Office, Risk Retention Groups 29-30 (2005) (GAO-05- 

536). 

'O Id. at 44. 
Morgan Lewis COUNSELORS AT LAW 

services. Such ratings involve annual reviews of the captive's operations, 

reviews of their audited financial statements, and reviews of their reinsurance 

programs. So the financial stability of the captive is separate and distinct from 

that of the parent, and can be assessed and rated on a separate basis. 

Similarly, the discussion paper is wrong when it says that "a failure of the parent . 

. . will necessarily cause a failure of the captive insurer." For one thing, the 

captive insurer may have spread its liability risks through the reinsurance market, 

giving it access to added coverage. More fundamentally, a reversal in the 

fortunes of the parent does not "necessarily cause a failure of' the subsidiary. If 

the subsidiary was undercapitalized, then it would not be recognized as a 

separate legal entity in the first place. 

2. Should the use of captive insurance be allowed? 

We know of no factual basis for treating captive insurance differently than thirdparty insurance. Specifically, we know of no instance in which a captive insurer 

has failed, resulting in a default on environmental cleanup obligations of the 

parent. 

3. What assurance is provided by the licensing process for captive 

insurers in Vermont and other states? Would additional benefit be 

provided by requiring captive insurers to be licensed in California? 

In response to the first question, Vermont's regulatory framework for captive 

insurance companies should serve as a model for strict standards. The licensing 

requirements are rigorous. Once a captive insurer is approved, Vermont 

maintains close oversight of all company operations and requires pre-approval of 

any change in the plan of operations. 

Under the Vermont program, other key requirements include: 

audited financial statements; 

actuarial certification of loss reserves, calculated by an approved 

actuarial firm; 

a statutory annual report including financial and insurance operational 

information; 

parent company financial statements; and 

biographical affidavits outlining the background of every officer, 

director and key employee. 

In response to the second question, we believe there is no basis to require 

captive insurers to be licensed in California simply because they provide 

coverage for one or more facilities located in California. The reason is grounded 

in our federal system of government. 
Morgan Lewis COUNSELORS AT LAW 

Specifically, insurance is regulated at the State level, but each State typically 

accepts the insurance contracts of companies that are licensed to write 

insurance in other States. Any other approach would be chaotic and would 

ultimately impose a huge burden on interstate commerce. For example, many 

property and casualty companies are chartered in Connecticut, and yet their 

insurance contracts are accepted everywhere in the United States. The reason 

for this is not that the judgment of the insurance regulators in Connecticut is 

infallible. Rather, the reason is that it is unworkable for each State to review and 

supervise economic activity that is primarily under the jurisdiction of another 

State. If each State decided to require that TSDFs obtain insurance from carriers 

(captive or otherwise) licensed in that particular State, the result would be 

complete chaos in the insurance markets. Such protectionism would be both 

unlawful (as an undue burden on interstate commerce) and also unwise. 

4. Should the use of captive insurance be limited to certain types of 

assurance? For example, liability only. 

We see no principled basis for limiting the use of captive insurance to certain 

types of financial assurance. 

IV. Conclusion 

The Projects believe that the current financial assurance regime has worked well 

for the past 25 years. Thousands of sites have been cleaned up, in whole or in 

part, with most of the work performed and funded by owner/operators and PRPs. 

All of this work occurred under the existing financial assurance mechanisms. 

Moreover, we know of no site that "defaulted" to the taxpayers due to a failure of 

those mechanisms. This track record demonstrates that things are working well. 

It is always possible that new problems will emerge in the future that require 

modification of the existing framework. But with so much at stake for all 

concerned, we see little need to make major changes simply because something 

might go wrong tomorrow. 

Thank you in advance for your consideration of our views. 

Very truly yours, 

John Quarles 

Michael W. Steinberg 6 

Counsel to the Projects 
Morgan Lewis COUNSELORS AT LAW 

cc: Watson Gin, DTSC (via E-mail) 

Jeff Mahan, DTSC (via E-mail) 

Stephen Hammond, P.E., NY DEC (for ASTSWMO) (via Federal Express) 

A. Stanley Meiburg, EPA Region 4 (for EFAB) (via Federal Express)