Is the Timeshare Property Insurance Market Softening?
An analysis of 2024 early indicators, affirmed what industry experts have been signaling: the commercial property insurance market is indeed softening.
Two compelling examples are from Florida, a state that has been hit the hardest in recent years, as property carriers have been pulling out of the state, while others have been reducing available capacity and/or charging exorbitantly higher premiums:
A large property consisting of seventeen buildings, all with frame construction, reported an 11% reduction year-over-year in premiums
A group of six coastal properties, primarily featuring frame construction, reported a 1% reduction year-over-year in premiums
We have seen that this trend is not isolated – similar patterns are emerging across the industry – indicating a broader market movement. Evidence of this can be seen in a recent win in Nevada, where a large, multi-state property management company renewed its insurance policy flat after two years of rate increases.
This trend comes as a welcomed sign of relief for all after experiencing rate increases for the past four to five years, specifically, absorbing brutal three-digit rate increases, respectively, in the last two years.
Key Factors Influencing the Market
Several pivotal factors are driving this shift towards a softer market, each playing a critical role in reshaping the landscape of commercial property insurance:
Entry of new carriers: The introduction of new insurance carriers into the market injects fresh competition, compelling established players to reassess their pricing strategies to retain and attract clients.
Increased capacity: A surge in underwriting capacity, fueled by both existing insurers and newcomers, allows for more aggressive pricing and policy terms, benefiting policyholders.
Changing carrier appetite: Insurers are diversifying their portfolios, showing an increased willingness to cover different types of risks, including previously underinsured segments.
Organized reinsurance renewal season: This year’s reinsurance renewals have been notably more structured, contributing to retention stability and rate leveling. This is the result of enhanced profitability among reinsurers, as well as an uptick in their capital positions, enabling more competitive reinsurance rates for primary carriers.
Alignment of property valuations: Current valuations are increasingly reflecting today’s construction costs, aiding in the accurate pricing of risks and contributing to market equilibrium.
Taking Advantage of Trends
These key factors are having an impact on the insurance industry, which can have a significant impact on your risk management program. In the video below, see how Gregory & Appel’s expert risk advisors are uniquely suited to represent you in the marketplace. Their creativity in creating coverages to help you manage risks is vital – and they can help secure the right coverage for your unique needs.
Who Stands to Benefit?
In this evolving market, certain properties are poised to see better-than-normal returns:
Non-catastrophe (Non-CAT) properties: Locations outside high-risk zones for natural disasters can expect more favorable terms.
Higher-rated construction: Properties built with fire-resistant materials as opposed to frame construction are deemed a lower risk, attracting better rates.
Low-loss properties: Buildings with minimal or no claims history are likely to be rewarded with lower premiums.
Corrected valuation properties: Those that have addressed and overcame previous undervaluation issues stand to benefit from more accurate and potentially favorable insurance terms.
Industry class considerations: The nature of your business and the associated risk profile could also influence the insurance terms and rates you receive.
Trends to Watch
As the market continues to adjust, timeshare HOAs and property managers should keep a close eye on several key areas:
Ongoing Reinsurance Renewals
The outcomes of recent and upcoming treaty renewals will be critical in determining if the early trend towards a softer market holds. As these are renewed or renegotiated, we’ll see trends in the availability of reinsurance and pricing adjustments.
What is Reinsurance?
In simple terms, reinsurance is a way for insurance companies to protect themselves from large financial losses. When an insurance company sells policies to individuals or businesses, it takes on the risk of having to pay out claims if certain events occur, such as accidents, disasters, or other covered incidents.
Reinsurance is like insurance for insurance companies. Instead of shouldering all the risk themselves, insurance companies can transfer some of that risk to other companies known as reinsurers.
In exchange for a premium, the reinsurer agrees to share in the financial responsibility of paying claims. This helps the original insurance company manage its exposure to large losses and ensures that it has the financial capacity to fulfill its obligations to policyholders.
A Look Inside the Reinsurance Market
Positive trends kept pace on 4/1 as foreign markets mimicked the January 1 reinsurance renewals in the U.S. Japan saw pricing flat to slightly down, while South Korea, China and India saw increased competition for catastrophe business.
What It Means
Optimism is growing heading into midyear that reinsurers are exhibiting a returning appetite for property catastrophe business, which signals an increasing return to a softer market.
The 28 billion-dollar disaster events events from 2023 include:
1 winter storm event
1 wildfire event
1 drought and heat wave event
4 flooding events
2 tornado events
2 tropical storms
17 severe weather/hail events
In this map, you can see the distribution of the 28 billion-dollar weather events in 2023. Source: NOAA/NCEI
Severe Convective Storms
These storms, characterized by tornadoes, hail and severe wind, contributed to over $50 billion in losses in 2023. Their frequency and impact remain a significant concern.
Wildfires and Other Risks
The scale of wildfire damage, alongside potential political and socio-economic shifts, will influence the market’s trajectory.
Planning Takeaways
As the commercial property insurance market softens, it presents both opportunities and challenges. By understanding the drivers behind this trend and staying alert to ongoing changes, insureds and insurance professionals can navigate the market more effectively, securing favorable terms while adequately protecting an insured’s assets.
As 2024 unfolds, adapting to these dynamics will be key to leveraging the softening market to your advantage.
Learn More About Risk Management for Destination Properties
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
How Timeshare Associations Can Navigate Rising Insurance Premiums
Timeshare associations and property managers have already noticed the big changes sweeping through what was once a fairly predictable and stable insurance market. Across the country, resorts are plagued by skyrocketing premiums.
Understanding the Transformation
The disruptions affecting timeshare associations are being met with an intense overhaul of risk assessment models, an increased demand for comprehensive property inspections and a greater focus and emphasis on detailed underwriting.
Many changes came unannounced to timeshare association board members, and property managers and have upended longstanding perceptions and practices within the insurance procurement process.
Navigating New Challenges
This market shift has implications reaching far beyond numbers on a spreadsheet; it’s having a real impact on communities and business operations.
One striking example is the withdrawal of key coastal insurance programs from states like Florida, which has historically been reliant on such coverage. Seeing coastal programs start to exclude states like Florida, a state that boasts 8,436 coastal miles and is home to 1.5 million condos, and you can see the severity of what is taking place.
To fully grasp these changes, it’s important to recognize some of the concerns related to the current state of property insurance. The initial signs of the hardening market were showing in 2022, with a notable increase in claim frequency signaling a shift to more stringent conditions. Fast forward to 2023 – rate hikes reminiscent of a decade’s worth of increases condensed into a few months.
The American Property Casualty Insurance Association corroborated these observations when highlighting a significant jump in net underwriting losses from $3.8 billion in 2021 to $26.5 billion in 2022.
This paints a clear picture – insurance companies spent more than they made from premiums.
Effectively navigating this insurance environment requires a deep understanding of individual properties. Things like exemplary housekeeping, good maintenance, advanced security measures and recent upgrades are key. Making sure property details are up to date with an accurate Statement of Values is crucial for getting accurate insurance quotes.
While insurers are often willing to consider new business submissions well before renewal dates, decision-making often remains prolonged, and updates can be expected even at the last possible moment. Initiating the process well in advance of any renewal deadlines is critical. There is no such thing as too early, even if immediately following a recent policy renewal.
Finding the Right Guide
In these challenging times, selecting of an experienced and knowledgeable insurance broker could not be more important. You need a partner that works as an extension of your own team, committed to finding the best solutions for you, who can help you optimize your risk management program.
It’s not just about getting a bunch of quotes; it’s about finding someone who really knows the ins and outs of this complex market and can build the best program. You need a partner who works as an extension of your own team, committed to finding the best solutions for you.
It takes an unwavering commitment of insurance professionals to serve as trusted advisors and advocates – to understand the intricacies of each resort’s insurance requirements and work tirelessly to achieve the most advantageous outcomes for each property.
When existing approaches fall short, generating more questions than answers, expert guidance is needed. The objective is to take control and formulate a winning strategy, making renewals less puzzling and more empowering.
Learn More About Risk Management for Destination Properties
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
With a little preparation, however, it is possible to minimize pain at your next renewal, or even to reduce your premiums and improve your coverage terms. But to do that, you must understand the current insurance market and the system that agents and carriers must deal with to secure quotes.
Challenges in the Insurance Marketplace
Property insurance has seen the most dramatic increase in premiums and the imposition of restrictive coverage terms, not to mention the withdrawal of carriersfrom certain geographic areas, along with the unwillingness of some carriers to offer coverage to timeshare resorts.
Gathering Quotes for Your Vacation Property
In the past, it was assumed that involving two, three, or even four agents on your behalf to gather insurance quotes would secure the best results. That approach is actually the least effective way to manage your renewal in today’s market, and here’s why.
Resort properties in coastal areas, or areas susceptible to flood, earthquake, or wildfires, are considered undesirable by most carriers, who have limited capacity for risks of this type. Just a few years ago, a single carrier might have been willing to offer $20 million or more in property coverage limit, but today it requires the stacking, or towering, of multiple carriers to build that kind of limit. When multiple agents get involved, the limited number of carriers becomes so diluted that it’s difficult for any agent to build a complete and competitive program.
The most effective approach is to select one agent and give them full access to the market. That way, they’ll be able to arrange carriers in their most competitive position to build the best available program. Much like a jigsaw puzzle, the proper placement of carriers is critical to a comprehensive and competitive program.
Choosing the Right Agent
The agent can be selected through an RFP process, or through interviews or referrals. Just be sure that you are comfortable with the agent’s knowledge of timeshares, the lineup of carriers they can access and the scope of services they offer. Because of the unique insurance exposures involved with timeshare properties and the expertise required to build a property program in today’s market, the number of qualified agents is surprisingly small.
The direct involvement of the management company and/or HOA is critical to a successful renewal. They will need to provide a great deal of information to the agent. The more information the underwriter has about a risk, the more comfortable they are, and the more willing they will be to offer higher limits, improved terms, lower deductibles and competitive rates.
As an example, Gregory & Appel recently won a bid on a group of thirteen destination properties, most of which were in a hurricane-prone area. Prior to binding coverage, however, we performed an inspection of all the properties and uncovered several positive wind-mitigation features of the various buildings, along with formal policies and procedures that the insurance underwriters were not aware of.
The carriers viewed this information very favorably and reduced their overall property premium by 20%. The additional information increased their comfort level, and their willingness to offer more competitive pricing. Among the items of information an agent will need for the bidding process are the following:
Five years of loss information
Statement of property values (limits for buildings, contents and business interruption)
Construction details of the buildings (age, type of construction, square footage, updates on roof, wiring and plumbing)
Protective features of the building(s) (automatic sprinkler system, impact glass, etc.)
Copies of formal policies, procedures, disaster preparedness plans, etc.
In addition to the underwriting details the management company or HOA needs to provide, they will also need to have an open mind. Be prepared to consider alternate deductibles, policy limits and other creative approaches your agent might suggest to reduce premiums.
It’s also helpful to show a willingness to incorporate a carrier’s recommendations for physical changes to the property or amendments or additions to formal policies and procedures. The demonstration of cooperation can have a substantial impact on the carrier’s perception of your property, which can translate to better pricing and coverage.
Why You Should Expect Last-Minute Negotiations
One last word of caution: in today’s market, it is not unusual for you to be waiting until the last second to get your quotes. That’s because the remaining viable property carriers are swamped with submissions, and they don’t get serious about evaluating your property until the renewal date is near. That can be stressful and inconvenient for an HOA board to deal with.
At Gregory & Appel, our approach is to secure an indication from the carriers a month prior to the renewal date, which we communicate to our client as a worst-case scenario. We continue to negotiate with the carriers or involve new ones to improve terms all the way to the last minute, providing the client with weekly or even daily updates. Those last-minute negotiations almost always produce significant savings for our clients. Be sure that your agent takes advantage of the carrier’s willingness to negotiate at the last minute.
This is a difficult insurance market right now, so it is especially important that you use the bidding process to your advantage. Your preparation and involvement will help you secure the best possible outcome.
Learn More About Risk Management for Destination Properties
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
But by understanding the factors at play, and by implementing strategies to mitigate risks; timeshares, resorts and destination properties can navigate this storm (pun intended) and ensure a sustainable future.
Premiums Likely to Remain High
As senior risk advisor Matt Stauffer explains, “I have been closely monitoring the insurance industry’s evolving landscape. The rise in premiums is driven by the growing frequency and severity of natural disasters and climate change.”
Many destination properties are situated along coastlines, making them particularly vulnerable to hurricanes and sea-level rise. Additionally, the devastating wildfires in California and Hawaii in recent years serve as stark reminders of the risks posed by a changing climate.
Several factors are converging to create what can only be described as a perfect storm for the timeshare industry. These include:
Inland locations pose their own challenges, including wildfires, droughts and inland flooding. The escalating costs associated with rebuilding and repairing properties are inevitably passed on to the consumer through higher insurance premiums. Midway through 2023, the U.S. has experienced nine confirmed weather/climate disaster events – wildfires and tornadoes — with losses exceeding the $1 billion mark.
Regulatory Changes
Governments and regulatory bodies are tightening their grip on the insurance industry. Stricter building codes aimed at mitigating the effects of natural disasters, and increased capital requirements for insurers, are driving up costs. These regulatory changes are translating into higher premiums for timeshare owners.
As timeshare resorts embrace technology to enhance customer experiences, they also expose themselves to cyber risks. Data breaches and cyber attacks can result in significant financial losses and reputational damage. Insurers are factoring in these risks, and again, this is reflected in the premiums.
How Destination Properties Can Navigate the Insurance Market
Implementing robust risk management practices is essential. They include ensuring that properties are built to withstand natural disasters, employing cybersecurity measures and training staff to deal effectively with emergencies.
If possible, developers should consider diversifying the locations of their timeshare properties to spread the risk. Not only can this help mitigate the risk of a single storm or catastrophic event impacting multiple properties, it also empowers timeshare management companies to potentially negotiate better terms with insurers.
Engaging with Insurers
Timeshare resort boards of directors and managers should actively engage with insurers to understand how they evaluate risks related to natural disasters and climate change. By demonstrating a commitment to resilience and effective risk management, resorts may have the opportunity to negotiate more favorable insurance terms.
Final Thoughts
The timeshare industry is sailing into choppy waters with the expected rise in insurance premiums in 2024 and beyond. However, by understanding the factors at play and implementing strategies to mitigate risks, timeshare resorts can navigate this storm and ensure a sustainable future. In these uncertain times, we cannot stress enough the importance of proactive measures.
Learn More About Risk Management for Destination Properties
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
Homeowners associations (HOAs) serve as the backbone of community living, ensuring order, resource management and protection of collective interests. At the heart of these associations are HOA board members, entrusted with pivotal responsibilities that shape community governance. This guide offers a detailed look at the complex duties and obligations essential to their roles.
Educational Foundation
The journey of an HOA board member begins with a commitment to continuous learning and comprehensive understanding. Beyond familiarity with governing documents, board members dive into historical viewpoints, evolving legal frameworks and state statutes governing community associations.
HOA board membership entails a perpetual quest for knowledge and collaboration. Staying abreast of legal developments, best practices and emerging trends is crucial.
Legal counsel serves as an indispensable ally, providing insights and strategic guidance to navigate regulatory complexities. Collaboration with legal experts, financial advisors, insurance partners and industry professionals fosters informed decision-making and proactive risk mitigation.
Maintenance and Financial Planning
Central to effective HOA management is the delicate balance between maintaining communal infrastructure and prudent financial stewardship. Board members shoulder the responsibility of prioritizing maintenance tasks, allocating financial resources and safeguarding the long-term financial health of the association.
As custodians of homeowners’ collective interests, board members are bound by a fiduciary duty to act with unwavering integrity, transparency and diligence. Upholding ethical standards and fostering inclusive decision making processes are imperative for building trust within the community.
Risk Management and Insurance
In an ever-evolving landscape loaded with potential liabilities, risk management assumes paramount importance in HOA governance. Board members must adopt a proactive approach to identify, assess and mitigate risks, safeguarding homeowner interests and protecting the association from legal liabilities.
Adequate insurance coverage, including Directors and Officers Liability insurance, offers a vital safety net.
Governance’s Role in Risk Prevention
Board members who grasp governing documents are better equipped to prevent potential Directors and Officers (D&O) claims. D&O insurance is a form of liability insurance that protects individuals from personal losses if they are sued as a result of serving as a director or an officer of a business or other type of organization, such as a timeshare HOA. It can also help cover the legal fees and other costs the organization may incur as a result of such a lawsuit.
Board members can be held personally liable for their management decisions or actions taken in their capacity as directors of the association. Since they are responsible for making decisions that affect the timeshare and its owners, there is an inherent risk of disputes, allegations of mismanagement, or breach of fiduciary duties.
D&O insurance is designed to protect board members from legal liability and financial loss should they be wrongfully sued for actions taken within the scope of their board duties, ensuring that they will not be personally out of pocket for legal defenses or potential settlements related to their board activities.
Prioritizing collective welfare and selflessly serving communities lay the foundation for effective risk prevention and governance.
Embracing Collaboration
Effective risk management and governance rely on collaboration among board members. Embracing educational opportunities and seeking expert guidance empower board members to make informed decisions and navigate governance complexities with confidence.
Best Practices
Do:
Understand your role
Influence rather than manipulate
Manage expectations
Prioritize effective communication
Continuously improve your skills
Read, understand and follow your governing documents (CC&Rs, by laws, articles of incorporation, rules and regulations, resolutions)
Create a Code of Ethics
Don’t:
Display unprofessional behavior
Vehemently disagree with board decisions
Engage in self-serving operations
Allow political influences
Breach confidentiality
Conduct disorderly meetings
Neglect policy adherence
Misplace priorities
Industry Standards
In this section, we’ll cover five significant industry standards for which effective destination property and timeshare boards must have a strategy.
Education
It’s imperative for HOAs to establish a comprehensive orientation program for new directors and officers, complemented by ongoing education initiatives. Directors and officers must possess a deep understanding of not only the HOA’s operational history but also the intricate details of the resort property’s past, including any legal challenges it has faced.
Given the dynamic nature of factual and legal conditions impacting HOAs, continuous education is paramount. Directors and officers must stay abreast of evolving regulations and industry best practices to effectively fulfiII their duties. It’s essential to recognize that directors and officers may face personal liability for wrongful conduct, irrespective of their tenure. Therefore, comprehensive education ensures they are fully informed about all property activities and potential risks, mitigating the likelihood of legal liabilities.
Adhering to Association Bylaws and State Legislation
Each board member must familiarize themselves with the specific sections of state law applicable to HOAs, ensuring strict adherence to regulations governing condominium associations, if applicable.
Additionally, board members must faithfully adhere to the governing documents of the association, recognizing them as legally binding contracts among homeowners. While conflicts between governing documents and state statutes may arise, adherence to both is nonnegotiable.
In situations where conflicts occur, seeking professional assistance is prudent to navigate complex legal nuances and ensure compliance with all relevant regulations.
Implementation and Application of Regulations
The board has a duty to uniformly enforce governing documents against owners and residents, maintaining the integrity of the community’s regulations.
However, it’s crucial to recognize that certain actions may not clearly violate governing documents, necessitating the board’s discretion in interpretation.
To supplement enforcement efforts, the board must adopt comprehensive rules and regulations, providing clarity and guidance to residents. Enforcement actions should prioritize encouraging compliance rather than punitive measures, with legal action reserved as a last resort. By fostering a culture of proactive compliance and transparent communication, the board can effectively uphold community standards while minimizing potential legal liabilities.
Advocating for the Collective Interests of Homeowners
As stewards of homeowner interests, the board is responsible for addressing matters that impact the community, including claims against developers, tax relief and property rights negotiations.
Amendments to governing documents, easements and property insurance must be meticulously managed by the board on behalf of the association and its members. By prioritizing transparency, accountability, and advocacy, the board can effectively safeguard the collective interests of homeowners while promoting the long-term sustainability of the community.
Recordkeeping Practices
While the board makes decisions on behalf of homeowners, it’s essential to recognize that the association belongs to the homeowners themselves, who have a right to full transparency and access to information.
The board must maintain detailed records encompassing various aspects of HOA governance, including governing documents, meeting minutes, financial records and insurance policies. These records should be readily accessible to homeowners for proper review and consistent with applicable legal requirements.
By prioritizing transparency and accountability in recordkeeping practices, the board can foster trust and confidence among homeowners while mitigating potential legal risks. Homeowners should have reasonable access to these books and records for a proper purpose and consistent with the requirements of applicable law.
HOA board members play a pivotal role in shaping the future of their communities. Through continuous learning, collaboration, and unwavering dedication, they navigate governance complexities with confidence, ensuring the prosperity, cohesion and wellbeing of the communities they serve.
How to Prevent D&O Claims
Unlike many other types of insurance, D&O claims are largely preventable. By following the practices outlined in this article, the HOA and its board members can significantly reduce the risk of a claim or be well prepared to defend against one if it arises.
Learn More About Risk Management for Destination Properties
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
Your employee handbook is an important document. Not only does it help employees understand company policies, promote solid company-employee communication and set a consistent standard of expectations, but it can also have serious legal ramifications.
In many employment lawsuits, your handbook will be a key piece of evidence that can either protect your company or provide ammunition for the employee (or former employee) who is suing you. It is vital that your handbook is thorough, up to date, legally compliant, understandable and readily available to all employees.
It is also wise to make employees sign a form stating they received and reviewed the employee handbook, so that they cannot later claim during a lawsuit that they were unaware of a particular policy.
The following areas are examples of common legal mistakes employers make with their employee handbook.
Changing Laws and Requirements
It is vital that you update your handbook regularly to comply with new and changing laws, both federal and state. In addition, you should provide employees with all handbook updates (or notify them if the handbook is published online). For significant legal changes, you may want to have employees sign another document acknowledging that they are aware of the altered policy. In addition, it is a good idea to have a disclaimer that the handbook may change at any time.
Employee Rights
Many handbooks make the mistake of outlining employer rights but glossing over the rights of employees. Some employers fear that including employee rights will encourage more employees to file lawsuits, but omitting them leaves you open to significant legal liability.
Employment Relationship
Your handbook needs to be explicit about the at-will employment relationship – that the employer and the employee have the right to terminate employment at any time, with or without cause. Also, be sure you don’t have other policies that undermine this one, such as probationary periods (which can sound like employment is guaranteed for at least as long as the period) or progressive discipline policies (which may not clarify that an employee may be terminated at any time).
Exempt or Non-Exempt Classification
Wage, hour and overtime complaints are among the most common legal actions taken by employees or former employees. Be sure your handbook is clear in the distinction of exempt and non-exempt, and that all employees are classified properly.
Also make sure that your overtime policy complies with state and federal laws. For instance, if you have a policy stating that overtime must be approved, you cannot mandate that unapproved overtime will not be paid – you are legally required to pay it. You can, however, otherwise discipline employees for violating such a policy.
Computer Usage
Your handbook must make clear that the company owns its computers, email and all data, and that nothing on a computer is private. You should also have clear policies if your employees have other electronic company devices.
Follow Through
Providing a comprehensive, compliant handbook is only the first step – your company must always follow through with the policies outlined. For instance, if your handbook discusses a specific procedure for conducting performance reviews, it is important that you follow it.
Because employee handbooks are so important, consider having legal counsel review yours periodically to help keep your company out of legal trouble.
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
In a group benefits captive, employers retain the risk of providing certain benefits for employees such as health insurance, life insurance, disability insurance and retirement plans. Instead of paying premium dollars to a traditional insurance carrier, they contribute money into a fund which is used to pay out claims. This often lowers costs, offers more flexibility in benefits offerings and offers access to risk management and decision-making tools that organizations otherwise may not have access to.
Do I Have to Start My Own Captive?
Incorporating your own, single-parent captive insurance company (formed by one company for the sole purpose of retaining the risks of that organization, its subsidiaries and affiliated companies) is an option, and one that many large companies have already taken advantage of.
For mid-sized companies, a group captive is often a better fit. It allows them access to the benefits of captive ownership without having to fulfill the logistical challenges of running an insurance company. They also are able to diversify their risks by pooling similar risks with other trusted organizations that have similarly attractive loss histories.
There are existing group captives that welcome new members, as long as they are able to fulfill their requirements. The criteria depends on the captive, but generally speaking, they are looking for organizations with a good loss history and a similar commitment to risk management and claims management.
What’s the Difference Between a Captive and Self-Insuring?
The main difference is in structure, and the way that each option is organized and regulated.
When an organization self-insures, it is contributing money into a savings account which is used to pay out claims.
An employee benefits captive is a formally-licensed insurance company, formed to pay out claims for its member organizations. While the concept is similar to self-insuring, the organization (or organizations) establish a separate insurance entity.
Why Join a Captive?
An employee benefits captive can offer a faster return than a commercial insurance captive: many companies begin seeing returns after only 18 months, compared to the typical five-year period for commercial insurance captives.
Additional advantages include:
Increased visibility into health plan performance
More control over plan design
Clinical outreach options
Transparent vendor compensation
Increased control over risk
Fewer regulations
Lower administrative costs
Compared to self-funding, a group medical captive can help organizations looking to gain affordable stop-loss protection against the high cost of ongoing and catastrophic claims. When multiple organizations join together to retain similar risks, they are able to gain better protection against unpredictable claims volume instead of relying entirely on their stop-loss.
While both self-insuring and a captive arrangement give employers have greater control over plan design, a captive can offer additional flexibility and access to benefits that meet the unique needs of their workforce.
What Benefits Can Fit Within a Captive?
Depending on the captive, the following risks may be a fit for a group employee benefits captive:
Medical stop-loss
Health claims
Wellness / wellbeing programs
Dental
Vision
Because each captive is designed by its member-owners, it depends on the group and which risks they prefer to fit within the captive versus self-insuring or transferring to a traditional insurer.
A captive will also use some of the premium dollars to purchase stop-loss coverage, transferring a portion of the captive’s risk associated with large medical claims to a reinsurer, while still providing coverage for smaller (frequent) claims through the captive.
What Are the Benefits of an Employee Benefits Captive?
Risk pooling – as mentioned above, when organizations pool risk, they are less vulnerable to individual high cost claims.
Additional resources – in a captive arrangement, organizations have access to additional resources that help resolve claims and contain costs, such as:
Care coordination services
Surgical / imaging bundling solutions
Medicare advocacy programs
COBRA advocacy programs
Prescription drug consortium
Specialty prescription management
Fair premiums and stable renewals – average increases in stop-loss renewals can range from 7-9%, and can even max out as high as a 30% increase after unusually challenging claims years. A captive can stabilize these increases.
Access to data & insights – captives share insights from their analytics, offering valuable insights into the way employees are using their benefits and how your money is being spent. This can help inform future decisions about plan design.
No new laser at renewal – carriers can assign a higher specific deductible (a laser) to an individual with a known medical condition or an expectation of high claims. This additional risk is retained by the employer in exchanged for lower premiums, and if those claims do not materialize, the plan can benefit. A captive can eliminate the option for the carrier to carve out a potential claimant from the stop-loss policy, giving their employer the peace of mind of knowing they won’t be financially responsible for their medical expenses.
How Do I Get Started With a Captive?
If you are interested in learning more about employee benefits captives, understand that establishing and operating a captive requires expertise in insurance management. Employers who are considering this approach should consult with a knowledgeable broker who can provide expert consultation and guidance through the complexities of starting or joining a benefits captive.
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
Risk Retention Groups vs. Captives – What’s the Difference?
What is a Risk Retention Group?
A risk retention group (RRG) is a method of alternative risk transfer available in the United States, regulated under the Liability Risk Retention Act (LRRA).
An RRG is a state-chartered liability insurance company, formed for the purpose of providing coverage for members within the same industry or facing similar risks with shared insurance needs. Once it receives a license, it can operate in all 50 states.
These licensed companies share liability risks and exposures similar to a captive (and, in fact, could be considered a form of captive).
A Brief History of Risk Retention Groups
In 1981, U.S. Congress passed legislation (LRRA) allowing for the formation of risk retention groups for the purposes of retaining product liability risks. Five years later, they passed the Federal Risk Retention Act (RRA), expanding the coverages allowed within RRGs to include a wider variety of liability exposures.
Differences Between Risk Retention Groups and Captive Insurance
You may recognize some similarities between RRGs and captive insurance, and the truth is, there are far more similarities than differences. Here are a few key factors that distinguish RRGs from captives:
Domicile – a captive insurance company can be formed and regulated (domiciled) in a wide variety of locations all over the world, whereas a risk retention group must be domiciled in the United States.
Legal structure – an RRG is regulated under the LRRA, and must be licensed in at least one state; a captive is regulated under insurance laws specific to the jurisdiction in which it is domiciled (these can be overseas or in certain U.S. states).
Purpose – an RRG is typically formed to provide liability coverage to their members, who are focusing on a specific line of insurance or within a defined industry. A captive could be used for a wider range of risks including property, casualty and even employee benefits.
Ownership – an RRG is required to be owned by its members, whereas captives have varying methods of ownership. While many captives are also owned by their members, within some organizational structures such as rented captives, association captives or trade captives, they may be owned by a separate group.
The Benefits of Risk Retention Groups vs. Traditional Insurance
RRGs provide an alternative to traditional insurance options by enabling businesses to have more control over their insurance coverage and costs. By pooling risks between members who share similar liabilities, members of an RRG can collectively manage risk. Here are a few examples of how that benefits members:
More control over insurance programs – members of a risk retention group have a voice in how their insurance programs are structured, meaning they can influence the coverages, terms and conditions, limits and deductibles that best fit their needs.
Leverage and access to reinsurance – RRGs often have more collective leverage and purchasing power with reinsurers. As a group, they can gain direct access to reinsurance markets, purchasing reinsurance to help manage risks and provide long-term financial stability.
Long-term stability with pricing – owners have the ability to predict pricing more accurately because with larger risk pool than just their own exposures, losses are easier to forecast. Premiums are based on their actual loss history (and a prediction of future losses), instead of being subject to volatile market factors in the traditional market.
Potential return of dividends for good loss experience – in an RRG, there is potential for owners to receive an annual dividend in years when claims (and other expenses) are below projections. Traditional insurance, of course, does not offer this opportunity.
What Types of Risks Fit Best in Risk Retention Groups?
Risk retention groups are most commonly formed as risk-bearing entities for writing liability insurance, and are used by similar organizations facing similar risks. However, their exact use depends on the needs of the organizations in the risk retention group.
Some examples of common risks covered by RRGs include:
Professional liability – errors & omissions insurance, like legal or medical malpractice
Tech E&O – errors & omissions insurance related to technology-related professions or businesses
Product liability – coverage for liability that arises from the use of a product, such as manufacturing or design defects, or failure to issue warnings for safe use
General liability – such as bodily injury or property damage caused by a member organization’s operations
Directors and officers liability – risks arising from an organization’s management or decision-making processes
Auto liability – coverage for risks arising from the use of company vehicles, such as bodily injury and property damage
A risk retention group can include a variety of coverages, but is limited to liability coverage. While the above list gives you an idea of the types of risks which are often included, it depends on the organizations, what risks they share and whether there is a shared interest in retaining these risks collectively.
Where Can I Learn More About Captives?
If you are interested in learning more about captives, take a look at this deep dive into the types of captives, the advantages of forming or joining a captive, and what you need to know before considering this alternative risk solution.
Should I Consider a Risk Retention Group?
If your organization has been dealing with hard markets, and you’ve been seeing your premiums for liability insurance rise in recent years, a risk retention group could be one solution that provides relief from rising insurance costs.
This should not be done as a short-term solution – as with any method of alternative risk, this is a long-term solution. However, if you have spent more on premiums than claims over the last five years, and have liability exposures that could fit into an RRG, you should consider a RRG or captive.
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
What is Group Captive Insurance?
A group captive is an alternative to traditional insurance in which a group of organizations provide coverage for their own risks by forming their own licensed insurance company instead of buying insurance from a third-party.
There are multiple types of group captives, and different captives exist to finance a variety of risks. A member-owned group captive is owned by multiple, separate organizations* who join together to buy insurance as a group, retaining and sharing risk.
*In this blog, we’ll be referring to member-owned group captives, which are owned by the participating member organizations.Another structure, called rented captives, owned by a third-party but allows other businesses to participate.
How Does Member-Owned Group Captive Insurance Work?
Think of it like a group fund, which each member pays premiums into which are used to pay claims and to operate the insurance company. Each group shares risks, but because the members of a group captive are carefully selected, only like-minded members who are carefully managing their claims and risk management are included.
This means that instead of being lumped together with organizations that have frequent claims, you are isolating yourself from the rest of the market. A prospective member with poor loss experience would not be included in the captive.
If you’re feeling lost, take a look at our deep-dive on captives, which explains the overall concept and structure of captives and will explain the variety of different types of captives.
I Have To Pay Someone Else’s Claims?
It is possible that your premium dollars could be used to pay out claims for other member-owners, but understand that this is already happening in the traditional market. When you have a good year in a captive, you could actually experience lower premiums, and members can also receive a return on underwriting profits in the form of dividends.
If you’re tired of your premiums going up year after year with little to no explanation, and you feel like you are controlling your claims without any benefit, a captive may be the right fit for you.
Are Overall Costs Lower in a Captive?
While there is no guarantee that you’ll see a short-term difference, most of our clients experience lower costs after about 3-5 years. In fact, in our experience, it’s very rare for a client who enters a group captive to ever consider leaving. Here are some of the reasons why overall costs tend to be lower in a captive:
Premiums are based on your loss experience
You partner with other risk-conscious organizations, insulating you from the wider insurance market
Many captives offer loss control resources, risk workshops and opportunities for shared learning
Some member-owners receive a return on unused loss funds (premium dollars)
Should I Consider Joining a Group Captive?
A group captive is not a fit for everyone: we tend to steer our clients toward the idea when they meet the following criteria:
Spent more in premium dollars than they spent on claims over the past five years
Great loss history over the past five years
Safety-conscious and are committed to minimizing future claims
Comfortable collaborating with other business leaders and making decisions as a team
Focused on long-term organizational goals and have healthy financial history
When it comes to group captives, we find the best fit is a mid-market organization who fulfills the above criteria, though there are captives for organizations of all shapes and sizes. It will not be a fit if you experience frequent liability claims.
What Are the Benefits of Joining a Group Captive?
In addition to the advantages listed above (premiums based on loss experience, improved risk pool, access to risk management resources, return on premiums), here are some reasons to consider joining a group captive:
Insulated from market conditions – there’s value in partnering with other safety-conscious organizations, but there’s also value in not partnering with organizations experiencing frequent claims. When your premiums are dictated by the performance of other companies anyway, why not join a smaller pool full of other organizations with great claims history?
Control over policies – every group captive is different, and there are parameters that dictate what lines of insurance and what risks are included. That being said, a captive provides greater control over program design, terms and conditions, and gives member-owners the ability to make decisions together instead of being at the discretion of the insurance company.
Control over claims – in a group captive, you are encouraged to manage claims in a way that will allow premiums to decrease over time, and you are given access to resources that allow you to do so.
Improved safety & risk management – group captives provide direct access to risk control resources and services.
What Are the Disadvantages of Joining a Group Captive?
Joining a captive requires time and effort, though in our experience, the juice is well worth the squeeze. Do not think of a captive simply as insurance solution, because it’s so much more than that – active participation in a captive provides access to risk management resources, networking and benchmarking that you just won’t find in the traditional market.
However, here are some of the costs of joining a captive:
Time – with a long-term commitment such as a captive comes additional investment. There’s up front work involved in joining a captive, like compiling your five-year loss history. You may not see an immediate return on your investment (for many of our clients it takes 3-5 years). However, most understand that this time commitment offers so many advantages it’s an investment worth making.
Administration and overhead – even though you aren’t purchasing insurance through the traditional market, you still need people to perform the day-to-day functions of the captive. Yet the overall costs still tend to be lower in a captive, due to their streamlined structure and efficiency. And keep in mind these costs exist in the traditional market, too.
Capitalization – joining a captive will involve collateral, paid to the captive to ensure its ability to pay out claims. The minimum requirement varies based on the domicile (location where it’s based), among other factors, and these costs are shared by each member-owner. Capitalization requirements are usually lower in a group captive than a single-parent captive.
Captives for Employee Benefits
Group captives also exist to retain risks related to employee benefits. At Gregory & Appel, we have extensive experience – and great results – with clients who have moved medical stop-loss to a group captive. Captives also exist to cover health claims, dental, vision and wellness programs.
Am I Ready to Join a Group Captive?
If the advantages seem attractive to you, and you feel you may meet the criteria discussed in this blog, you may be a fit for a member-owned group captive. The next step would be:
Find the right broker to provide the appropriate guidance and help you make the right connections. We’re here to help.
Information gathering – working with an actuary to review your five-year claims history, relative to your exposure, to calculate your premiums
Timing – scheduling your captive proposal as close to 30 days before your existing expiration is ideal, as it will give you time to talk to captive members about their experiences and to consider your overall insurance program structure.
At Gregory & Appel, we have extensive experience working with clients as they navigate through this phase of their risk management journey and beyond. We’re eager to help, so if you are ready to learn more, contact us.
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
What is Captive Insurance?
Introduction and Overview
A captive is an alternative to traditional insurance in which a company – or group of companies – provide coverage for their own risks by forming their own licensed insurance company instead of buying insurance from a third-party.
This guide will explain how captives work, the benefits of captive insurance and explain how they are structured. It will also discuss how this alternative model could help you control insurance costs. If you’re interested in taking control of your risk in a way that saves your company time and money in the long run, continue reading.
History of Captives
The term “captive” originated in the 1950s, when an engineer turned insurance broker named Frederic Reiss founded the first captive insurance company in Bermuda in 1962. Responding to increasingly high premiums, he was interested in a method of retaining and sharing risk.
He based his newly formed captive insurance company in Bermuda, the first country to formally establish legislation and oversight procedures for captives. Today, Bermuda remains the world’s leading offshore captive domicile. However, captives are quickly rising in popularity – there are also 30 captive domiciles in the United States, according to the Insurance Information Institute, and in 2022, the state of Vermont overtook Bermuda as the world’s leading captive domicile.
Today, about 90% of Fortune 500 companies have their own captive subsidiaries, with this alternative form of risk management continuing to grow in popularity each year. But they’re not just for large companies – captives come in all shapes and sizes and span across many different industries, including non-profit groups.
What Exactly is a Captive?
As we mentioned earlier, a captive is a special type of licensed insurance company, controlled by its owners, that provides coverage for their own risks. This is still insurance, and most captive members still utilize traditional insurance markets to transfer certain risks, or to provide excess coverage. It is also common for an organization to place certain lines of insurance within a captive, with others covered by traditional insurance.
The general concept is that instead of buying insurance directly from a third party, members of a captive retain costs and certain risks by contributing premiums into a fund, usually at lower cost than within the traditional market, later covering their own losses.
If there are leftover funds after each organization’s claims have been paid out, each member could receive a share of the underwriting profits. And because much of the money in the captive is being invested, including your premium dollars, the return on these investments can be significant.
Other Advantages to Captive Membership
Other advantages include the many options for self-insuring risks, particularly standard casualty lines of insurance like general liability, product liability, professional liability, commercial auto and workers’ comp. Captives can sometimes provide coverage that is not available in the private market, while also offering cost savings and more control over claims decisions. There are opportunities to lower premiums, which in a captive structure are based on your actual loss history, and to receive significant dividends on funds invested within the captive.
In the current insurance market, many organizations are finding their premiums rising year after year, and are in need of a more consistent, cost-saving solution. Rates are increasing, and underwriting is becoming more difficult. This hardened market results in smaller coverage limits and higher premiums. Forming a captive, or joining an existing one, can be a way to insulate an organization from these market factors.
Types of Captive Insurance
There are many different types of captives; they truly come in all shapes and sizes.
Here’s a helpful way to think about the basic structure of captives:
Single-Parent or Group Captives
A single-parent captive is owned entirely by one organization to insure risks of their parent company, subsidiaries and directly-affiliated businesses. We mentioned earlier that 90% of Fortune 500 companies have their own captives; the majority of these are single-parent captives. Some do provide coverage for other, non-related organizations; the term “pure captive” is used to describe single-parent captives that do not insure risks of other organizations.
An owned captive is entirely owned by any participating organizations, who serve as the exclusive policyholders. They are fully responsible for the administrative operations of the captive, including paying out claims. An owned captive could be a single-parent or group captive.
A rented captive is a licensed insurer owned by on outside organization that provides many of the administrative functions of the captive. In this system, a captive allows members to enter into contractual agreements to pay a fee, share risks and “rent” the captive.
There are a variety of other structures and special purpose captives. Below are descriptions of a few important ones.
Protected Cell Captives – Also known as segregated-cell captives, these rental captives provide insurance to organizations but their assets and liabilities remain are legally separated, and members do not share risks (or claims). Each organization has a separate underwriting account.
Risk Retention Groups – an alternative risk transfer method created under the Liability Risk Retention Act in 1981. RRGs are domiciled in the United States, licensed to write liability insurance and regulated as a captive insurance company. They may operate nationwide, but must register in each U.S. state in which they will write insurance. They are treated as multi-state insurance companies. To learn more about RRGs, check out our Risk Retention Groups blog.
Industrial Insured Captives – a captive that provides coverage for multiple large companies, either as pure captives or group captives. (An industrial insured is a commercial insurance buyer which can negotiate contracts with insurers without the protection of insurance regulators.) The captive insures the risks of each organization, as well as any affiliated companies.
Micro Captives – a small captive insurance company with a small annual written premium. Premiums are placed in an investment account and as long as the captive stays under the premium threshold, they do not pay tax on their underwriting income.
Branch Captives – a unit of an existing offshore captive, licensed to operate in a U.S. state. This allows it to operate through a branch in the location where the insured risk is located, allowing companies to extend their coverage territories without establishing a separate captive in each legal jurisdiction, while also streamlining management.
Association Captives – a group captive sponsored by a specific trade association within a defined industry that predates the formation of the captive by at least one year. It insures risks of members, and of the association itself. There are notable advantages to participating in a captive with industry peers. Take a manufacturing captive, for example – you are paired with organizations that have similar risks and exposures. In addition to gaining the typical advantages of captive membership, you would be paired with other safety-minded organizations and have opportunities to share knowledge that can prevent future losses.
As you’ve just read, there are many types and structures of captives.
According to the Insurance Information Institute (Triple-I), in 2018 about 200,000 companies in the United States met the definition of a mid-sized company, with revenues between $10 million and $1 billion. These companies are best-suited to establishing a new group captive or joining an existing group captive.
Some member-owned group captives use a captive management company to manage the daily operations of the captive, but the members who serve as the captive’s board of directors are the true decision-makers. At board meetings, they vote on rules and regulations, and dictate the standards under which new members would be included in the captive.
How Captive Insurance Companies Are Formed and Regulated
You’ve just read about a variety of different captive structures, each of which may be the appropriate selection for an organization’s needs. While all have a few shared characteristics in common, the standards for forming a new captive, as well as the way they are regulated, depend on the type of captive as well as the location of its domicile.
Any captive would meet the following definitions:
Risks are financed within a separately incorporated and managed entity
There is a separation between the captive and its insureds, meaning the captive truly exists as its own insurance company
Those purchasing the insurance, or reinsurance, must have sufficient resources to buy an alternative risk financing program
They must be capitalized and domiciled in a jurisdiction that legally allows them to operate as licensed insurers
Creating or joining a captive requires discussion and preparation from your leadership team. These are some of the considerations for an organization considering joining a group captive:
Information gathering: an actuary will look at your claims history from the past five years, relative to your exposure such as payroll, sales and number of vehicles to calculate your premiums. Their job is simply to make sure the group will be able to finance every member’s claims.
Financial review: most captives will have an independent consultant review your company’s audited financials. Since the captive is taking a risk with each new member, the established members want to make sure every company they admit will be able to pay premiums and weather the group’s financial requirements.
Risk profile assessment: understanding the advantages and disadvantages of retaining risk – and sharing other member organizations’ risks – is very important. Prepare for questions about your organization’s safety and risk control efforts, which may be a large determining factor in whether you are accepted into the captive or not. Existing members will not want to include an organization that does not make risk management a priority, they want a partner who will mitigate risk and avoid a high frequency of claims.
This is a condensed list of the steps that would be involved in forming a new captive. This is a much more complicated process than joining a group captive and should be reserved for large organizations with the resources to operate their own insurance company, which will likely entail hiring professionals to fulfill the responsibilities usually performed by an existing insurance company.
Assessing the varied insurance needs of each organization is vital. It is possible that the captive can address some, but not all risks and that traditional coverages will still be needed. If a captive cannot actually improve the members’ ability to control risk, it may not be the best solution. Keep in mind that even many single-parent captives retain the risks of their subsidiaries and affiliated companies.
Feasibility study: the members assess the potential benefits and risks involved in forming the captive, namely the captive’s financial projections. This includes an actuarial analysis of each organization’s risk profile, loss history and past claims (which would also be a step for an organization planning to join an existing captive). This includes looking at models of various loss scenarios – including catastrophic ones – and how they would impact short-term and long-term costs. Can the captive adequately protect against these losses?
Operations analysis: is it realistic to run your own insurance company? There’s a reason why many small and mid-size organizations rely on existing, sponsored captives or rent-a-captives. This alternative could be a better fit if the member organizations are not able to operate the captive themselves. Remember – you are essentially forming a new insurance company, which isn’t going to run itself.
Domicile selection: depending on the type of captive being formed or joined, the location where the captive will be incorporated may vary. Factors that impact this decision would include:
Regulatory environment and legal standards
Solvency (capitalization) requirements
Tax laws and benefits
Investment restrictions
Underwriting requirements
Geography (accessibility of the location itself)Overseas domiciles may, for better or for worse, require travel to that location for board meetings. (Though, many could see why a trip to the Caymans for a board meeting or risk control workshop could be a positive!) According to Triple-I, offshore domiciles often have lower capitalization requirements, as well as more favorable regulatory requirements, though this depends on the domicile in question.
Incorporation: the captive insurance company must be established as a legal entity, which requires filing establishing documentation with the authorities of the respective domicile. Quite literally, you are starting a new insurance company.
Capitalization: the captive must meet minimum requirements, which vary depending on where the captive is domiciled. This requires those forming the captive to put up collateral to fund operation and its ability to pay out claims. Not only is this legally required, the success of the captive is dependent on this financing in order to pay out claims with certainty.
Key Differences Between Traditional Insurance and Captive Insurance
We’ve already gone over many of the advantages of starting or joining a captive, but here are some of the basic differences between a captive and traditional insurance.
Traditional Insurance
Offered by traditional, third-party insurance companies.
Risks are transferred to the insurer.
Premiums are paid to the insurance company.
No opportunity to gain investment income on premium dollars.
Limited control over policy terms.
Insurer assumes the risk and pays claims.
Premiums are nonrefundable.
Broader risk pool with unrelated policyholders.
No insulation from organizations posing high levels of risk or frequent claims.
Captive Insurance
Formed by a single parent company or a group of companies.
Risks are retained, shared and self-insured.
Premiums are paid to the captive insurer and invested.
Member-owners can receive distributions of invested income.
Customizable policy terms and coverages.
Members can earn premium dollars back.
Members assume the risk and pay claims.
Offers greater control and flexibility in risk management strategies.
Opportunity to join captive with organizations that have good loss history.
More Benefits of Captive Insurance
There are several ways a group captive could lower your overall insurance costs.
Premiums based on loss experience – premiums paid to the captive are based on your actual claims history and loss experience, meaning organizations that can control these factors stand to benefit.
Insulation from market conditions – instead of being lumped in with organizations that don’t control their losses, in a group captive you are associating yourself with other risk-conscious organizations, as only good risks are accepted into the captive. Separating your organization from bad risks helps you avoid rising premiums in the traditional market, as well as the factors contributing to them, such as economic inflation, large jury awards and tort reform.
Control over insurance policies – a captive provides greater control over their unique needs and concerns. A group captive offers more flexibility in program design and terms, and gives members a voice in the decision making process when it comes to coverage options, policy limits, deductibles and retentions.
Saving on third-party costs – a captive can be more cost-efficient because you’re no longer paying for hidden costs in your premiums, such as a third-party insurer’s payroll, marketing and other expenses.
Return on underwriting profits and investment income – members are rewarded for avoiding claims because they receive dividends when they are able to reduce their losses, as well as investment returns on money paid into the captive (premiums, capitalization funds and collateral).
Access to reinsurance markets – Because a captive is an insurance company, they can buy reinsurance coverage directly from reinsurers, essentially buying it wholesale and bypassing the traditional market. And because the price is directly related to the organization’s loss record, captives generally get more cost-effective rates for reinsurance due to their superior risk profiles.
Improved safety – Improving an organization’s overall safety is a common byproduct of entering a captive as most require every member to have their own safety committee. Also, since it’s their own money at stake, companies typically nominate someone internally to be their dedicated safety contact in addition to other roles.
Benefits of Improved Safety
Sound safety practices and claims management both protect the wellbeing of your employees and are good for your business. Research and industry experience suggest businesses that invest in health and safety programs realize a tangible return. These returns stem from:
Decreased lost time – avoiding workplace accidents due to enhanced safety programs can help your organization decrease expenses related to medical care, PTO, litigation, LTD and disaster mitigation.
Compliance with regulation, laws and standards – non-compliance can be disastrous to an organization, not just financially but also consider the reputational cost of legal fees and fines from OSHA.
Increased efficiency – a focus on safety leads to higher productivity, which drives short-term revenue growth and supports long-term sustainability.
Improved employee satisfaction – recruiting and retaining top talent is easier for organizations that provide safe, comfortable workplaces and who care for employee wellbeing and take steps to protect the environment.
In a group captive, you’ll have access to webinars and risk control workshops that help reduce your overall risk and lower your audit factor, which in turn will help lower your premiums.
What Are The Costs of Captive Membership?
There are some cost factors involved in forming or joining a captive.
Time – this is a big one. You are not buying traditional insurance, you are joining a captive, which is a long-term commitment and goes deeper than an insurance solution. It requires time for consideration, you will want to talk to other captive members about their experiences and you will need to consider the impact on your overall insurance and risk management program. However, you’ll find this investment of time is well worth it in the long run.
Administration and overhead – remember that a captive is still an insurance company, and that there are costs involved in operating and maintaining this structure. However, these can be mitigated by the cost savings and benefits of being part of a captive. And joining a group captive can help, as you are sharing these costs with other organizations, creating economies of scale.
Capitalization – the minimum capitalization requirements of a captive vary by size, risk profile and domicile, but they are important in order to fund the captive’s operations and ability to pay out claims. These costs are shared among the member companies, allowing for reduced individual financial burden and potential for cost savings in the long run. They tend to be lower in a group captive.
Collateral – Before joining a captive, collateral money is put up in advance. Because members are retaining and sharing underwriting risk, this collateral serves to eliminate credit risk between members.
Customization and Flexibility
Captive insurance offers more control over insurance costs, with the flexibility to tailor risk management approaches to meet the needs of the group captive. That includes the lines of insurance the captive underwrites, how money is used and its investment strategy.
There are also opportunities for captive members to access loss control and risk management resources, which may otherwise be inaccessible due to cost or availability. Because the group captive model incentivizes reducing the frequency and severity of claims, this focus on reducing losses is a constant priority. All organizations stand to benefit from improving safety and reducing claims.
Common Misconceptions About Captives
Here are some of the common misconceptions we’ve heard about captives. If you’ve had these thoughts, you’re not alone, but here we’ll address some of these concerns and explain why they may not be barriers, after all.
My company is too small for a captive.
Group captives come in all sizes and span across different industries, so your insurance spend really shouldn’t be the deciding factor. Additionally, micro captives are a form of single-parent insurance company that provides smaller organizations with the opportunity to take advantage of the benefits a captive can offer.
In the group captive structure, the funding system separates and accounts for both the frequency and severity of losses. A loss forecast is developed by an independent actuary, generally using a member’s previous five years of loss history, with that forecast being split between the two layers. Losses are shared and absorbed through the captive’s funding, but reinsurance still protects the captive against catastrophic losses.
I’ll get stuck paying for everyone else’s claims.
While it’s true that you may share risks with other businesses, depending on the type of captive you’re in, that won’t necessarily cost you more. The beauty of a captive is that you’re paired with like-minded peers who are all trying their best to minimize their own risk and work their own claims as efficiently as possible. Every business has bad claims now and then, but in a group captive you can be confident sharing risk for the potential rewards.
I’m worried about regulations and compliance.
Remember that a captive is an insurance company, as as you can probably imagine, this does involve some complex legal and regulatory requirements. However, this isn’t a reason to avoid considering a captive. While familiarizing yourself with these regulations is important, in a group captive, day-to-day management including regulatory compliance, audit and tax prep is supported by captive management, leaving members free to focus on what they do best. In a single-parent captive, bringing in an expert to support this function would be necessary.
Joining a captive will be expensive, and they don’t seem accessible.
In the case of a group captive arrangement, companies considering joining may need to contribute capital to the captive to help cover the risks assumed by the group, and these initial costs can be significant. However, less capital is required in order to join a group captive, and keep in mind that if you do leave the captive in the future, collateral is returned when the last policy year the organization participated in is closed. A captive is a long-term approach to risk management, and should be thought of as a full commitment.
Is a Captive Right for My Business?
Here are some of the factors that would determine whether you may be the right fit for a captive.
Best-in-class loss history, or close to it
History of long-term financial stability
Management team and organizational culture committed to safety
Can think long-term, not near an ownership transition or financial restructuring
Balance sheet can support collateral requirements
Additional considerations include:
Annual spend on premiums – There isn’t an exact formula to tell you whether or not you’ll be successful in a captive. However, we’ve found a good rule of thumb is that your company should be spending at least $100,000 annually on workers’ compensation, general liability and auto coverage for this type of insurance to be beneficial.
Capital commitment – Captives are built for the long haul. Typically, distributions don’t begin until 3-5 years after the end of a policy year for commercial insurance captives, though the return can be quicker for employee benefits captives. It’s unlikely that you will see an immediate return after joining a captive. This is a long-term strategy.
Risk of adverse underwriting results – It’s important for captive members to have a strong commitment to risk prevention. If loss control programs are not in place, the likelihood of claims increases and will negatively impact the captive as a whole, because you are retaining and sharing risks. And if risks are not accurately accounted for in underwriting, the captive may not be prepared to pay out claims. That’s why captive members are required to provide a detailed loss history before being accepted into the captive – a group arrangement will not accept poor risks.
Time commitment and related costs – While there is an investment of time and resources related to participating in a captive, if you’re thinking along those lines you are asking the wrong question. What you should be wondering is what benefits this investment will have for your organization. The answer is an increased focus on risk management and loss prevention, savings on lost time claims, fewer worksite accidents, and over time, lower overall insurance costs.
Tax treatment – This is NOTan investment or a way of receiving tax benefits. Captives are strictly an insurance product. Whether or not they offer tax benefits for your organization should be determined by a CPA or qualified tax attorney.
Captive Insurance Frequently Asked Questions
To recap what you’ve just read, here are some of the questions we get most often, answered in simplified terms.
How does captive insurance work?
A captive is an insurance company that provides insurance to, and is controlled by, its owners. There are many ways to structure captive insurance companies, and they come in all shapes and sizes. A captive insurance company retains the cost of risk through the captive that is usually transferred to traditional insurance companies.
What are the disadvantages of captive insurance?
Captive insurance is a long-term risk management strategy which is unlikely to provide financial benefits within the first 3-5 years. There are starting costs involved in capitalization, with collateral being required to start or join a captive. Some risks are a better fit for a captive arrangement than others.
What are the benefits of captive insurance?
Captive insurance can result in lower premiums, because they are based on a projection of future losses based on your five-year loss history, not on the variety of factors outside your control that impact traditional insurance premiums. Being part of a captive can provide more control over claims, access to risk management resources and more customization and flexibility than traditional insurance. You can also earn money on premiums and other funds which have been invested, whereas in a traditional arrangement you’ll never see those dollars again, no matter how well you can avoid claims.
What is the purpose of a captive insurance company?
A captive insurance company exists as an alternative to traditional insurance. Instead of transferring risks to an insurance company, in a captive, certain risks are retained by the captive. Premiums are calculated based on loss projections, using historical claims data to predict potential future losses, among other factors. Captives also provide opportunities to share retained risks with other captive members, so each member’s risk exposure and loss experience impacts the captive.
Why do companies form captives?
Captives allow companies to have more control over their risk management strategy and insurance costs, improved cash flow and greater flexibility in coverages. They can also directly benefit from having favorable loss experience, as their premiums are determined by their future loss projections, among other factors. With high premiums in the traditional market, and organizations feeling like they have little to no control over the market factors causing the rise in costs, a captive is a solution that provides protection, while also offering an opportunity for members to gain back premiums in the form of investment income.
What types of coverage do captives provide?
Captives exist to insure a wide variety of risks, most often for conventional coverages like general liability, product liability, professional liability, commercial auto and workers’ compensation.
Captives also can be used for specialty risks that are hard to find coverage for. Examples include:
Almost every time one of our clients gets into a captive, they tell us they wish they would have done it sooner because the captive’s structure actually makes them a better company from a lot of perspectives – not just from an insurance standpoint.
Think about it. If you’re with a group of like-minded peers and everybody’s trying to get better, you’re sharing all of these ideas and best practices that can help transform you into a better company. And that’s just one of many examples of how captives can help elevate your business.
This content is not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel or an insurance professional for appropriate advice. Gregory & Appel is neither a law firm nor a tax advisor; information in all Gregory & Appel materials is meant to be informational and does not constitute legal or tax advice.
