Captive Insurance Education
Captive insurance has been utilized for nearly 100 years. This solution can be polarizing as there are various types of captives including group captives, single parent or “pure” captives, Risk Retention Group (RRG), Rent-a-captive, cell captives, special purpose captives and Series LLC captives as well as a small percentage of abuse or miss-use of these entities.
Captives are both simple and complex based upon understanding not only what Captive insurance is, but how it is structured, maintained and utilized. Properly structured captives always are first and foremost created to manage risk of an operating company. The following is meant to create a sequence of basics to assist in understanding captive insurance.
Captive Insurance 101
A Captive Insurance Company is a Property and Casualty Insurance Company that is formed to cover risks of its parent company. Captive Insurance is a risk management tool which allows businesses to more effectively and efficiently manage corporate risk. Captives often are set up to insure loss of income risk, otherwise known as enterprise risk, risk for which commercial insurance is not available or may be too expensive.
Group captives have traditionally been utilized to pool risk of similar type industries. For example, 25 construction companies “pool” their workman’s compensation liability in a captive.
More recently, 831(b) micro-captives have become available in the marketplace for business owners. Depending on lines covered, either a single parent captive or series captive may be appropriate. In these structures, an owner selects lines of coverage to insure exposures most important to them. In a particular captive, one exposure may be insured (medical stop-loss for example), or often times a business owner will select several lines of coverage to insure. These policies are annual claims made policies.
$ - Premiums are paid from the operating company to the captive insurance company. Premiums are tax deductible as regular and ordinary insurance expense to the operating company up to $2,400,000 per year. Premiums received by the captive are not subject to income tax up to $2.4 million per year.
Distribution – When a claim is made, and funds are distributed out of the captive, funds are taxed at ordinary income tax rates.
Captive Insurance 201
$ - A captive insurance company should be profitable. All-State insurance originally was a captive of Sears & Roebuck. Most profitable companies own captives today. Premiums invested, unlike a traditional investment account, captive insurance assets must be compliant with regulation and invested as the insurance company the funds represent. Liquidity, taxation, custodianship, exemptions, experience and other factors are critical to the profitability of the captive.
Distribution – Funds distributed as a dividend from the Captive are taxed at long term capital gains rates.
Ownership – Typically captive ownership mirrors ownership of the operating company.
Captive Insurance 301
“The truth is in the details.” There are many details of captive insurance, each are critical for understanding, administration, management, then implementation, execution, compliance, maintenance, distributions, and eventual exit.
Ownership – The legal entity selected to own the captive as well as the proper use of trusts requires legal expertise. Multiple owners of the operating company create opportunities to own multiple captive insurance companies.
Risk Transfer and Distribution – Insurance is transfer and distribution of risk amongst many people. The type of exposure, pooling of risk, proper pooling ratios, etc. are vital to a successful captive insurance and risk management structure and program.
Domicile – Based on what type of captive is created, proximity, fees, administrator, proper domicile selection is made. Knowing and understanding the U.S. based regulations are important. Off-shore domicile may be available.
Fees – All fees are transparent. Fees vary based on the administrator, domicile, and independent third party risk analysis. Although it is not a fee, capitalization of the insurance company is required by State regulators and varies based on what type of captive is created.
Captive Insurance 401
$ - Over time, a business owner’s captive insurance company should accumulate significant wealth. Over time, redeployment of this wealth creates significant, efficient opportunities such as retirement, deferred compensation, charitable giving, acquisitions, proper arms-length transactions, loans, buy-outs, and more.
Captive insurance is both simple and complex. Knowledge is power. Of all the variables and moving parts, Captive insurance is a property and casualty Insurance company that is formed to cover risks of its parent company. Properly structured captives always are first and foremost created to manage risk of an operating company and is…
Your Link to Security!
Richard Ericson, President
ALINK Captive Insurance Services
• Direct: 720-213-0583 • Email: Rich@ALINKcis.com