When Archer Trim Inc. learned 18 months ago that it would soon face a 270 percent increase in its medical insurance premiums, it was only natural that the Lumberton, N.C., company would look for alternatives.

Its search led it to a deal that seemed too good to be true -- and it was.

On the advice of its insurance agent, Archer Trim signed up with a Charlotte, N.C., company called Cap Staffing, which promised to process the company's payroll and provide what appeared to be an attractive insurance package for an affordable price.

All went well for a few months, but late last year, employees began complaining that their claims were not being paid.

Complaints elicited responses that were at first evasive and then nonexistent. Finally, Archer Trim got a letter from a Florida company that had acquired Cap Staffing, saying "all insurance coverage has been canceled."

But in a way, Archer Trim and its employees were lucky. All of their claims were relatively small. Robert Wagner, a 36-year-old single father of two who drives a truck for a North Carolina furniture company, also thought he had insurance with Cap Staffing. But after a serious heart attack that put him in Duke University Medical Center last summer, he found out otherwise.

Today he is struggling to pay off $12,000 in medical bills on take-home pay of $211 a week.

The story of Cap Staffing is hardly unique, according to insurance regulators. As small-business owners become more desperate to control insurance costs, and as insurance agents -- sometimes inexperienced in employee benefits -- try to accommodate them, the door is opened wide to to well-meaning incompetents and outright con artists.

These people take advantage of a regulatory gap between federal labor law and state insurance law that allows them to operate unchallenged for months, even years, as little more than Ponzi schemes, according to state regulators.

The device they use is called a multiple employer welfare arrangement, or MEWA.

MEWAs are a form of trust. Employers pay their premiums into the trust, which invests the money, and if all goes well is able to pay employee claims and remain in business.

"In concept," Assistant Labor Secretary David George Ball told the Senate Permanent Investigations subcommittee a few weeks ago, "MEWAs appear to fill an important void in health care availability. In practice they may be subject to abuse. ... In the worst situation, they may be run by individuals who bleed them dry through extraordinarily high fees and outright embezzlement."

MEWA purveyors operate in many forms, ranging from "insurance" pools to benefits consultants. Some, like Cap Staffing, operate as employee leasing companies, firms that take over employment of a small business's employees and lease them back to the business. These companies are growing in popularity because they are equipped to handle the complexities of a modern payroll and, when run properly, can legitimately offer better health insurance terms.

From the employer's point of view, the key distinction is whether a MEWA has real insurance.

"In many cases, MEWAs are insured and have group insurance contracts with licensed insurance companies," North Carolina Insurance Commissioner James E. Long told the investigations panel. "States are able to regulate these insured arrangements because state insurance laws apply. ..."

"The most difficult and harmful type of case involves non-insured or partially insured NEWAs that are created and marketed by entrepreneurs" who claim that federal law exempts them from state regulation, Long said.

And it isn't always easy to tell which is which. Cap Staffing had a contract with The Travelers, a large and well-known insurance company. Its literature said "Travelers" and "insured by Travelers" in various places -- enough to convince employers and employees that they were well covered.

But that contract, it turned out, was only for "third-party processing," and Cap Staffing was self-insured. Travelers's obligation was only to handle the claims paperwork; the actual money to pay claims was to come from a bank account established and funded by Cap Staffing.

Cap Staffing never really funded the account, according to testimony before the Senate panel, and now $1.3 million in medical claims remain unpaid. North Carolina authorities are now pressing Travelers to make good on these claims, but the issue remains unresolved.

By arguing in court that it was self-insured, Cap Staffing was able to fend off state regulators for many months. Federal law exempts certain employee benefits arrangements from state regulation, and MEWA operators turn this fact to their advantage. Only after months of litigation can state regulators pierce this defense, and by then, Long and others said, it is often too late.

This "jurisdictional ambiguity," as subcommittee Chairman Sam Nunn (D-Ga.) called it, allows "the promoters of fraudulent plans to operate in a twilight world ..., playing one set of regulators off against the other."

For the small-business owner, the consequences can be disastrous. "We have had at least one instance where an employer closed his doors due to the burden placed on his employees" by a failed MEWA, North Carolina's Long said.

Perhaps such employers "should have asked a few more questions before they put their employees' health insurance premiums into an uninsured plan," he added, noting that, though most employees don't pursue it, they can bring action against their employer if their money is lost.

The advice to small-business owners is easier to state than to carry out, but it is this. Before shifting your insurance, check your new carrier very carefully. There should be a real insurance company with a real policy standing behind the company you deal with, and the company should have a proven track record.

Since poorly run or fraudulent MEWAs usually do not last very long, a clean record stretching back many years is an important thing to look for.