A captive insurance company operates in a similar way to a traditional property and casualty insurance company. A captive issues policies, processes claims, follows all applicable regulations, files a property and casualty insurance company income tax return, and has profits, if profitable, available to the insurance company owners.
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What is captive insurance, and why should I consider it?
What Is Captive Insurance?
- Captive Insureds Put Their Own Capital at Risk. Any insured who purchases captive insurance must be willing and able to invest its own resources. ...
- Working Outside the Commercial Insurance Marketplace. ...
- To Achieve Risk Financing Objectives. ...
- Types of Captives. ...
- Summary. ...
- Get the Book. ...
What are the disadvantages of captive insurance?
The Disadvantages of Captive Insurance
- Raising Capital. Because the entity is essentially self-insured, it needs to raise a substantial amount of capital to keep in reserve to pay for claims.
- Quality of Service. ...
- No Tax Benefits. ...
- Inability to Spread Risk. ...
- Additional Management. ...
- Difficulty of Entrance and Exit. ...
What do you need to know about captive insurance?
What is a captive insurance company?
- Definition. A “captive insurance company” is a subsidiary owned by one or more parent organizations established primarily to insure the exposures of its owner (s).
- Evolution of Captives. ...
- Captive Structures. ...
- Coverage Types. ...
- Captive Domicile. ...
- Fronting Company. ...
How to optimize a captive insurance company?
How To Optimize a Captive Insurance Company. The following framework introduces a single-parent captive insurance company, walks through a time-tested approach for successful captive optimization, and overlays this approach with key success factors that may be integrated to achieve long-term economic value and superior risk control attributes.
How do captives work insurance?
The captive provides the owner or its affiliates with insurance coverage for risks that the owner wishes to retain, and the insured entities pay premium to the captive. Any profits made by a captive are retained within the parent company's group rather than being 'lost' to the insurance market.
How do captive insurers make money?
Earn investment income: Captives can earn investment income on their loss and unearned premium reserves. A guaranteed cost policy purchased from a commercial insurer would not provide this additional income to the insured.
Is captive insurance a good idea?
Many companies opt for captive insurance to reduce their total risk cost or when they face a distinct and unique vulnerability that other insurers won't cover, at least not affordably. Many companies use captive insurance to cover international risks, but they also work well in a domestic structure.
Why do captives fail?
The leading factor that has caused captives to fail is the current insurance market. Captives were originally designed to provide insurance protection for unique business risks and did so in a cost-effective manner as compared to traditional business insurers.
How are captive insurance companies taxed?
Internal Revenue Code Section 831(b) provides that captive insurance companies are taxed only on their investment income, and do not pay income taxes on the premiums they collect, providing premiums to the captive do not exceed $2.2 million per year.
Why do companies form captives?
The Purpose of a Captive To be very clear, the purpose of an insurance company and, therefore, a captive is to pay losses (your own losses) and to afford you (the owner) more control over your risk and any losses that do occur. Put another way, captives are an alternative risk transfer mechanism used to finance risk.
What are the benefits of a captive insurer?
The advantages of going captive are: Increased coverage and capacity. Investment income to fund losses. Direct access to wholesale reinsurance markets. Funding and underwriting flexibility.
Why do firms form captive insurers?
Captive insurance companies are formed for both economic and risk management purposes. For example, by forming a captive insurance company, a business can dramatically lower insurance costs in comparison to premiums paid to a conventional property and casualty insurance company.
The Purpose of a Captive Insurance Program
By establishing an independent captive insurance program, the parent company can insure difficult risks, increase their cash flow, reduce costs, and gain direct access to reinsurance markets.
Is a Captive Insurance Program Right for My Business?
A captive insurance program is suitable for a company with steady cash flow, high insurance premiums, palatable risk, and low claim frequency. But since companies have different needs, there are other reasons a company may consider a captive program.
Why Should You Work with a Captive Insurance Manager?
Creating and managing a captive can be challenging, especially to businesses that are new to using captives. Remember that captives are highly sophisticated and regulated businesses that require a high level of competency from the selected service providers.
What is quota share agreement?
A quota share agreement is a pro rata reinsurance contract where the insurer and reinsurer share premiums and losses according to a fixed predetermined percentage. For example, if the fronting or ceding company each shares 50 percent of the risks, the fronting or ceding company then retains 50 percent of the premiums.
How does a captive owner get approval for dividends?
To begin the dividend process, the captive owner (or captive owners) asks the captive insurance manager to seek approval from the department of insurance. The department then reviews the insurance company financials to determine what effect taking a dividend has on the insurance company's ratios and its ability to pay claims.
What is the difference between captive and insured?
The difference is, with an insured-owned captive insurance company, the captive owner (s) decide whether or not to retain or distribute the company's profits. With a traditional insurance company, the insurer and its shareholders, rather than the insureds, retain the profits.
What is captive insurance?
A captive is a licensed, regulated entity that must qualify within a jurisdiction as an insurance company and must comply with applicable rules and regulations. Like any business, a captive investor and shareholder enter into a transaction to earn a profit and retain the important ability to manage the operating company's risks.
Is a captive dividend taxable?
Remember, like any company, a captive has the ability to distribute dividends to its owner shareholders. As captive dividends are generally qualified dividends, the distribution of profits may be income tax advantageous to a captive owner.
Why are captive insurance companies so popular?
Captive insurance can help a business fulfill all its insurance needs, from employee benefits and general business insurance to worker’s compensation, product liability, auto insurance, and so on. That’s why captives have historically been popular with Fortune 500 companies and major corporations: they provide complete independence ...
Why are captives good?
Reward yourself for good planning – Captives provide the most benefit to businesses with great self-knowledge. If you understand your assets, risks, needs, and scale well, you can create a captive that protects you with minimal overspend in a bad year and generates difference-making profit in a good year.
What is the difference between captive and mutual?
That sounds pretty similar to captive at first, but there’s one key difference: a mutual company, although owned by its policyholders financially, acts as an independent entity. Policyholders buy in and then trust the provider to do good by them.
What happens when you switch to captive insurance?
When you make the switch to captive insurance, you’re gambling with your own money, and no longer have your insurance provider to fall back on because you are now the provider .
What is captive insurance?
A “captive” insurance company is an organization that exists only to meet the specific insurance needs of its member/owners. That means the business or businesses insured by the captive are its sole and total owners. Captive insurance can help a business fulfill all its insurance needs, from employee benefits and general business insurance ...
Why do companies use captives?
Reduce insurance costs – When you own the insurance company, there’s no mark-up for services and no need to purchase any coverage you don’t want or need. Captives offer businesses the best and most granular control over their costs compared to any other insurance model.
What is a protected cell?
Protected Cell Captive: A captive in which each organization’s assets and liabilities are kept separate, allowing access into the captive but minimizing the biggest possible financial gains and losses.
What is captive insurance?
When payrolls get large enough, a captive is often the alternative that gives companies the best risk management solution. A captive is an insurance company formed to insure the risks ...
Why are captive insurance companies selective?
By self-insuring within a captive, the profit of the insurance company is essentially eliminated from the premium cost a company would pay. Additionally, most captives are selective as to the risk profile of the companies it allows to become members.
What is a captive company?
By forming a captive, a company narrows the companies included in the risk pool and therefore can reduce risk and premium costs. Additionally, any remaining profit in the captive is to the benefit of its owners. There are different types of captives, but the most common among our clients is a group captive. A group captive is owned by ...
Why is being in a captive important?
There is an important side benefit of being in a captive. Most companies who participate in captives are serious about managing risk and are incentivized to help each other improve the overall results of the captive. This results in the sharing of best practices among participants to help everyone lower their loss experience and improve ...
What is risk management?
Risk management is an area to which many companies do not pay enough attention. All too often, it is an annual ritual of quoting the cost of insurance coverage rather than a process of evaluating all the options to manage risk, which should balance coverage and cost. Companies that are progressive in managing their risk often move ...
What happens when captive insurance companies charge excessive premiums?
If insurance companies start charging excessive premiums, then it becomes a case of tax evasion. This issue becomes even more severe when captive insurance companies are located in known tax havens. This is why in some jurisdictions it is important for captive insurance companies to explain their premium calculation process, i.e. their underwriting process to regulators.
What is the difference between captive and regular insurance?
On the other hand, regular insurance companies have a wide variety of clients. Hence, logically, the captive insurance company is simply an extension of the same company.
What is captive insurance?
What Is A Captive Insurance Company? A captive insurance company is just like any insurance company in the eyes of the law. This company needs a proper license to operate. Also, captive insurance companies must follow due process and are subject to all kinds of regulations that any normal insurance company is.
How much of the world's insurance is underwritten by captives?
About 50% of all the insurance in the world is underwritten by captives. Many critics argue that captive insurance companies are only being used as a tool for tax evasion. However, since there is nothing illegal about the business, there is nothing that the government can do to stop this. ❮ Previous Article.
How are insurance companies different from other companies?
Insurance companies are very different from other companies. Other companies have to pay upfront for buying raw materials. They get paid later when they finally sell the product. Also, the difference between their selling price and their buying price is termed as profit which they have to pay taxes upon. On the other hand, insurance companies ...
Why do governments allow insurance companies to set aside huge sums of money as reserves?
It is for this reason that governments allow insurance companies to set aside huge sums of money as reserves. These reserves allow insurance companies to reduce their profits for the current year and therefore pay fewer taxes.
Can a captive insurance company underwrite a general liability policy?
From a legal standpoint, captive insurance companies are allowed to undertake any risk that a normal insurance company would be allowed to undertake. This means they can underwrite various types of policies such as workman’s compensation claims, general liability policies, auto insurance, etc. However, it is possible that the captive company may not want to undertake all the risks. Hence, in such cases, the captive insurance company does have access to the reinsurance market. It is, therefore, possible for insurance companies to decide exactly what kinds of risks they want to undertake vis-à-vis the kinds that they want to outsource.
What are the two types of captive insurers?
Captive insurers fall into two main groups. Pure captives: captive insurers that are 100 percent owned, directly or indirectly, by their insureds. Sponsored captives: captives owned and controlled by parties unrelated to the insured.
Why is captive insurance important?
Because captive insurance inherently offers financial rewards for effectively controlling losses, safety and loss control get a higher level of attention. The underwriting profits and gains from the invested premiums that would otherwise be held by a conventional insurer are retained by the captive.
How do captives put their own capital at risk?
Insureds in a captive choose to put their own capital at risk by working outside of the traditionally regulated commercial insurance marketplace. The traditional insurance regulatory environment tries to "protect" the insured from the insurer. Regulations are expensive to implement, costly to monitor, and sometimes fail.
What is a captive insurer?
August 08, 2018. A "captive insurer" is generally defined as an insurance company that is wholly owned and controlled by its insureds; its primary purpose is to insure the risks of its owners, and its insureds benefit from the captive insurer's underwriting profits. These points do not clearly distinguish the captive insurer from ...
What is ownership and control by its insureds?
Ownership and control by its insureds distinguish a captive insurer from a commercial insurer. This is not the type of ownership or control evidenced by a nominal percentage share in the company's surplus. It means ownership in the company's strategic business purpose.
What is the benefit of captive insurance?
The insured in a captive insurance company not only has ownership in and control of the company but also benefits from its profitability. A policyholder in a mutual insurance company is theoretically entitled to receive dividends if the company makes a profit.
Why are regulations so expensive?
Regulations are expensive to implement, costly to monitor, and sometimes fail. Their main thrust is to restrict what an insurer may do and how it may be done. Captive insurers often have significantly less capital than commercial insurers and no protection for the insureds from state guaranty funds.
Why are captives important for reinsurers?
Because reinsurers deal primarily with insurance companies, a captive allows the parent to go directly to the reinsurer and avoid unnecessary markups. Ability to customize insurance programs and greater control over claims.
What is a captive domicile?
The “captive domicile” is the state, territory or country where a captive insurance company is located, that also licenses the insurance company and has primary regulatory oversight. Below is a list of the top domiciles for captives both in the United States and internationally.
What is fronting arrangement?
Fronting arrangements allow captives and self-insurers to comply with financial responsibility laws imposed by many states that require evidence of coverage written by a licensed insurer.
What is captive insurance?
A “captive insurance company” is a subsidiary owned by one or more parent organizations established primarily to insure the exposures of its owner (s). The captive assumes a portion of the risks insured, and the balance is assumed by another insurance company known as a “reinsurance” company.
Why was Youngstown called Captive Mines?
Youngstown owned its own mines, which it called “captive mines”, because they were used to mine ore for the company’s mills. Reiss created Steel Insurance Company of America to write insurance solely for those mines, thereby calling it a “captive insurance company”.
Why do companies use captives?
A company may also wish to combine its overall enterprise risk across not only its warranty program, but also its employee benefits, healthcare and/or workers compensation.
Which state has the most domiciles?
Vermont is the top domicile in the United States, but other states continue to pass laws to encourage captive creation. Table 2: U.S. & International Domiciles Summary – 2017.
Why is captive insurance better than other?
So, it’s clear that health insurance captives are the better way, but it can be less clear why one captive program manager is better than another.
Why is captive pooling important?
The captive pooling structure not only helps reduce volatility and increase predictability for operational and budget-friendly control but also functions to retain excess premium accrued by the group (paid as dividends), rather than passing those profits on to stop-loss carriers.
What happens when all collateral is gone?
When all collateral is gone, the captive has an aggregate policy that takes over. The origins of captive health insurance. Many of the first employers to use the captive model for group health insurance were larger scale companies. With a larger workforce, these companies had both an incentive to change ...
What is captive health insurance?
A health insurance captive is a wholly owned subsidiary insurer that provides risk-mitigation services for its parent company or a group of related companies. The employer, along with other similar-sized enterprises, sign up to become participants of the plan. As member-owners of the program, the participants all agree to spread the risk, ...
How does group health insurance work?
Traditional group health insurance is structured to “respond” reactively. This happens when the unanticipated higher renewal increase occurs and employers are back to that cycle of shifting costs around or moving to another carrier who is “buying the business” for the next 12 months.
What happens when you use all your potential dividend?
When all potential dividend is gone, collateral is reduced until depleted. When all collateral is gone, the captive has an aggregate policy that takes over. The origins of captive health insurance. ...
Why are stop loss carriers conflicted?
Hospitals, carriers, and sub-par brokers are conflicted because they all gain when prices go up (which they have for the past two decades). This means employers (and employees) lose.
