Insights

The characterization of a particular product as an insurance product or a non-insurance product is a matter of state law. The sale of insurance products triggers heavy substantive regulation at the state level, such as rate and form filing requirements and disclosure requirements. Additionally, entities that sell insurance products are usually subject to licensing requirements, both at the entity level and perhaps at the salesperson level. Many state insurance codes define the term “insurance.” The problem, however, is that some states define the term in a manner broad enough to capture any product that promises to pay a consumer an amount of money upon the occurrence of an event, even if the product does not contain a true “indemnification” or “risk-shifting” component. The broad scope of these definitions (or the absence of a definition) in a state creates a risk that a consumer, state regulator, or state court will characterize products that do not contain a true indemnification or risk-shifting component as insurance products. This is particularly a concern with the sale of anti-theft or vehicle protection products that promise to pay the consumer a certain amount if the vehicle in which the product is installed is stolen and not recovered.

A recent case of out the Intermediate Court of Appeals of Hawaii illustrates the complexities of these types of products, and how even judges in the same court, operating under the same set of facts, can characterize these products in different ways. In Tokuhisa v. Cutter Management Co. (2009 Haw. App. LEXIS 783), classes of consumers sued various Cutter motor vehicle dealerships and entities over Cutter’s sale of a “Vehicle Theft Registration System” (“VTR”). The VTR was an “etch” product; vehicles containing the VTR had the vehicle identification number inscribed into one of the glass panels on the vehicle. The terms of the VTR were set forth in a document captioned “Warranty,” and promised to pay the consumer a certain amount if the vehicle was stolen and not recovered. Cutter explained the operation and benefit of the VTR in the following way:

Window etching deters theft because, among other things, the permanent code etched in the vehicle’s windows cannot be removed without breaking or noticeably marring the glass. Driving a stolen car with traceable, etched glass presents the risk of being caught and arrested if stopped by the police, who can easily trace the vehicle’s owner by calling the registration administrator. Stealing a vehicle with identification codes etched on the glass is unprofitable because glass replacement is expensive. Professional thieves recognize that vehicles with etched windows are traceable, glass is expensive to replace, and the automobile and etched glass are difficult to sell, even to illegal “chop shops.” Window etching is so effective that it is warranted against failure and a liquidated damages provision backs up that warranty of effectiveness.

Tokuhisa at 17.

The classes of consumers claimed that the VTR was an insurance product, and that Cutter was marketing and selling the product without being properly registered with the Hawaii Department of Commerce and Consumer Affairs, Insurance Division. The consumers based their claim on the language of Hawaii’s Insurance Code, which defines insurance to mean “a contract whereby one undertakes to indemnify another to pay a specified amount upon a determinable contingency.” Haw. Rev. Stat. § 431:8-201. The consumers claimed that the VTR was “insurance” under this definition because the warranty accompanying the VTR promised to pay the consumer a certain amount, as specified in the warranty, upon theft and non-recovery of the vehicle (a “determinable contingency”). As such, the consumers argued that Cutter needed a license to market and sell the VTR under the Hawaii Insurance Code.

Cutter argued that the VTR was not an insurance product under the Hawaii definition, because the principal purpose of the VTR was to deter theft and aid in the recovery of the stolen vehicle, not to indemnify the consumer against theft. Specifically, Cutter argued that: (1) the promises made about the VTR were in the form of warranties; (2) the “distinctive character” and primary purpose of the VTR was clearly stated as the provision of an “effective deterrent against vehicle theft”; (3) the warranty was expressly limited to scenarios in which the window etching product failed to deter theft; and (4) the warranty unequivocally stated that it “[wa]s not an insurance policy.”

Cutter acknowledged that as is the case with any warranty, the VTR contained some element of risk assumption and indemnification. That element, Cutter argued, was not the “primary purpose” of the warranty. The primary purpose, as stated in the VTR document itself, was to etch the vehicle’s windows and thereby provide “an effective deterrent against vehicle theft.” Cutter argued that the only risk assumption and indemnification obligation associated with the VTR was the promise that the VTR would perform as promised to deter theft, and would pay out if it was defective in that regard. Cutter argued that “[t]o hold that such a warranty is “insurance” would be to ignore the principal purpose test and would destroy the entire concept of product warranties.”

The Circuit Court of the First Circuit of Hawaii (a state court) granted Cutter’s motion for partial summary judgment, and the consumers appealed to the Intermediate Court of Appeals of Hawaii. The Intermediate Court affirmed the trial court’s ruling in favor of Cutter, holding that the VTR was not an insurance product for purposes of Hawaii law. The court focused on the language of the written warranty stating that if the VTR failed to deter theft and the vehicle was stolen and not recovered, the VTR administrator would pay the consumer an amount of money. The court noted that a product will be deemed a warranty, not insurance, when the product guarantees against a defect in the product itself. Insurance, the court explained, indemnifies against an outside risk, unrelated to the product. The VTR warranted against the “defect” that the VTR would fail to deter a theft and to aid in the recovery of the stolen vehicle. The VTR did not warrant against the theft itself. Accordingly, the court characterized the VTR as a warranty, not as an insurance product.

Perhaps more significant than the majority’s view in Tokuhisa was the dissent, insofar as it demonstrates how different judges will view the same product differently based on the same set of facts. The dissent took the position that the VTR was insurance, because the warranty stated that the product would pay the vehicle owner a set amount upon theft and non-recovery of the vehicle. Judge Watanbe was unpersuaded by the distinction the majority drew between indemnification related to a product defect (a warranty) versus indemnification related to an outside risk (insurance). Judge Watanbe noted that Cutter was not offering to replace a defective window etching or refund the purchase price for the VTR if the product failed to operate as promised. Instead, Judge Watanbe concluded that because the VTR expressly provided for payment “of a specified amount upon determinable contingencies,” the VTR warranty satisfied Hawaii’s definition of “insurance.”

Ultimately, the issue of whether a particular product is an insurance product is a matter of state law. Unfortunately for dealers selling anti-theft and vehicle protection products, state definitions of “insurance” tend to be broad and, in many states, are similar to the Hawaii definition. It is possible that a state court or state regulator would characterize an “etch” or similar product as insurance, triggering licensing and substantive requirements for the selling dealer and the dealer’s employees. Before marketing and selling these products, dealers should consult with their attorneys to ensure that they have the most current information concerning how their states treat these products.