Mutualization to Demutualization

Nonprofit HMOs and insurance companies sometimes engage in two-step conversions. The two steps are known as “mutualization” and “demutualization.” In mutualization, a nonprofit changes its status to a corporation organized to benefit its policyholders (i.e. a mutual insurance company) before making the move to a for-profit stock company. When faced with the mutualization of a nonprofit public benefit organization, advocates should argue that the nonprofit’s charitable obligations are transferred to the new mutual company. In other words, the mutual insurer receives the nonprofit’s assets subject to the nonprofit’s charitable obligations. Therefore a snapshot valuation of the fair market value of the charitable assets should be done at the time the nonprofit becomes a mutual insurer and set aside, because this change in corporate form may make it more difficult to determine a corporation’s charitable assets at a later date. It is much preferable to have the charitable assets be set aside at the time of mutualization rather than to wait for the mutual to become a for profit corporation.

Demutualization occurs when the mutual insurer decides to convert itself to a for-profit publicly-traded or privately-held company. When an insurance company or HMO demutualizes, it sells stock or a substantial portion of its assets to a for-profit company. The resulting company is then owned by and incorporated for the benefit of its investors or stockholders. If the full fair market value of the nonprofit’s charitable assets were not set aside at the time of mutualization, the dissolution or demutualization of a mutual company usually generates sufficient funds to fulfill the charitable obligations that were owed by the original nonprofit and passed to the mutual company. Thus, the revenue generated by a demutualization must be divided in two ways. A portion of the company’s assets equal to the outstanding charitable obligations should go to the public, usually through the creation of a nonprofit charitable foundation. The remainder of the mutual company’s assets must be distributed to its policyholders or members. Without diligence by the public this may not occur. For example, Blue Cross and Blue Shield of Virginia (Trigon) changed from a nonprofit to a mutual company in 1991. Five years later, the company changed to a publicly-traded stock company. The full value of the original nonprofit was never preserved for nonprofit purposes. Trigon only transferred $175 million to satisfy its charitable obligations, and this money went to the state treasury rather than a nonprofit charitable foundation.