An Introduction to Captive Insurance
Cost, Control, and Other Captive Advantages
For most business leaders, risk and reward are the yin (passive) and the yang (active) of the game. For those leaders with an entrepreneurial drive to control risk, captive insurance removes “passive” from the picture.
Captive insurance is a proven alternative approach to risk management. But it’s not for every business. While the advantages of captive insurance go straight to a company’s bottom line, the approach requires top-down buy-in, companywide commitment to safety, and a revolution in thinking.
Many companies approach risk as an annual insurance decision in which the 12-month cost is their greatest concern. With predictable rising rates, such companies either shop around at renewal time or bite the bullet and factor the “uncontrollable” increase into their fiscal projections.
Captive insurance stabilizes cost. That alone should be reason enough for some companies to consider making the shift from “renting” insurance to “owning” it. While there are several forms of captive insurance, including “single parent,” “rental captive,” and “group captive,” this issue of The Leader will focus on group captive — a popular approach with unique advantages.
A “group captive” is a group of companies that comes together to form its own private insurance company. The member companies may be homogeneous — within one specific industry, such as road construction — or from various industries, but with comparable loss histories and compatible corporate cultures.
Business leaders deciding whether or not a captive approach is right for their company should self-screen by being able to answer affirmatively to the following characteristics about themselves and their company.
- Desire control and stability
- Believe in collective accountability
- Value long-term partnerships
- Focus on risk management
- Show five-year good loss history
- Maintain strong balance sheet
In addition to “passing” the self-screening test, there is also a financial threshold for determining whether or not captive insurance is right for a company. Combined premiums for Workers’ Compensation, commercial general liability, and auto coverage should total at least $150,000 per year.
If this premium threshold is crossed and the “characteristics” list is confirmed, a business leader would find it advisable to explore how to turn premium payments into profits through captive insurance.
Step One is to ask a knowledgeable broker for a captive presentation. This stage is exploratory — essentially the first class in a “Captive 101” education on the requirements and potential value of captive insurance. At this point, brokers, such as Holmes Murphy, who partner with innovative captive consultants often practice a “seeing is believing” form of instruction. Business leaders considering forming a captive company are invited to observe firsthand how existing captive companies operate.
As a result, a prospective captive owner sees for himself or herself the potential tangible and intangible benefits. The benefits include:
- Stabilization of upfront insurance costs
- Retention of underwriting profit and investment income
- Improved operations through collective accountability
- Sharing of best practices
- Synergy and networking with member owners
- Selection of captive partner members
- Long-term control over a major expense
During this first stage, prospective captive owners also work with their broker or broker’s captive partner to see if captive insurance makes solid financial sense for them. Historic data and company-specific information are submitted, and a conceptual proposal is prepared and presented along with a captive pricing indication. The proposal demonstrates how the prospect might have performed as a captive owner. The numbers are benchmarked against current captive members.
The initial qualifying stage leads to Step Two, which quantifies the cost and benefits associated with captive ownership. Step Three culminates in a captive commitment.
Taking one step at a time, with professional guidance, is the recommended approach to a long-term change in risk management — an alternative that turns premium payments into profits through ownership of a captive insurance company.