Captive insurance involves the formation of an insurance company that can directly insure business risk. A captive insurance company is essentially an insurance company in form and in fact. This brings all of the complexity of an insurance company that is licensed to issue policies directly to an insured business. These complexities include, for example, operating risk pools, building actuarial models, setting underwriting protocols, etc.
Creation of a captive insurance company is a complex and expensive undertaking. Formation of a captive insurance company involves the work of attorneys, actuaries, underwriters and other professionals. Large non-deductible capital contributions are also required. Furthermore, the captive must satisfy “insurance” requirements, including risk pooling or risk sharing, and must qualify as an insurer under the appropriate sponsoring legislation. This is an expensive solution when used in isolation. The expense of a captive insurer arises from its role as a direct insurer of risk. The captive takes on the role of the front-line insurance company. Nevertheless, the formation of a regular captive insurance company may be justified in some circumstances.
Reinsurance is distinct from captive insurance. A reinsurance company is reinsuring one or more risks already covered by a business casualty policy. This means that the work of quantifying risk, setting underwriting guidelines, paying claims, etc. is already being handled. The reinsurance company does not need to replicate these efforts. Establishing and operating a reinsurance company is much simpler and much less expensive than creating a captive insurance company.
Supplemental business casualty coverage complements the existing business casualty insurance of a business. Any operating business that has casualty risks that cannot be adequately covered with regular commercial insurance can consider supplemental coverage and reinsurance.
The use of business casualty insurance and reinsurance spans all types of businesses and industries including Car Dealerships, Construction companies, Dairies, Distributors, Energy Industry, Equipment Dealership, Farm and Ranch, Healthcare, Hospitality, Manufacturing, Mining & Exploration, Physicians and Medical Groups, Professionals, Real Estate Development, Restaurants, Service providers and many more.
Risks that can be considered for supplemental insurance and reinsurance must be business casualty risks that cannot be adequately covered by regular commercial insurance. These risks include—but are not limited to—the following:
- Brand protection
- Business interruption
- Construction defects
- Cyber risk
- Data Breach
- Employment practices
- Exclusions in policy
- Food-borne contaminants
- Independent contractor
- Legal expenses for a variety of issues
- Litigation defense
- Loss of Key Customer
- Loss of Key Employee
- Loss of Key Supplier
- Products liability
- Professional liability
- Regulatory risk
- Reputation risk
- Supply chain interruption
Risks that can be considered for supplemental insurance and reinsurance must be business casualty risks. Personal risks cannot be covered by business casualty policies. Employee risks, such as disability, cannot be covered since this is personal in nature. Additionally, routine business decisions cannot be insured as casualty risks. These would include, for example, inaccurate bids, poor hiring decisions, and engaging the wrong marketing agency. Furthermore, life insurance and health insurance are not candidates for business casualty insurance and reinsurance.
An independent actuary will review the risks and exposures to determine which risks are appropriate for captive insurance. The actuary will determine the appropriate amount of premium for each risk being insured. A report will be issued by the actuary detailing the risk analysis.
No, do not cancel your existing business casualty policies. They are still important for your protection and management of your business risks. Coverage provided by the supplemental casualty insurance and reinsurance will complement your commercial business casualty policies. The supplemental insurance can fill the gaps arising from deductibles, exclusions, and limitations of your regular commercial policies. It would be patently inappropriate to cancel your commercial coverage for the sole purpose of inflating premiums to a captive insurer for the same coverage.
The benefits of forming a reinsurance company include better control of risks, an incentive to control losses, access to expanded insurance coverage, diversification of risk, enhanced capacity to honor warranties and the establishment of a fund for potential future casualty losses.
No. Although there are potential estate planning benefits that arise from ownership of a reinsurance company, that alone is not adequate to justify the formation of a reinsurance company. The decision of whether to form a reinsurance company is focused solely on the management of business casualty risks, not other criteria. Estate planning benefits, if any, are incidental to the insurance purpose.
Reinsurance is the transfer of insurance risk (and associated insurance premiums) from one insurance company to another insurance company. The company that receives (or “assumes”) the insurance risk (and associated reinsurance premiums) is called the “Reinsurance Company” and the company that transfers (or “cedes”) the risk (and associated premium) is called the “ceding company”.
Reinsurance is insurance for insurance companies. More specifically, reinsurance involves the transfer of risk from a direct insurer to a secondary insurer (the “reinsurance company”) that receives both premium and a transfer of risk. The reinsurer has no direct contractual relationship with the insured. Reinsurance expands the ability of the direct insurer to provide coverage. The reinsurer also allows the direct insurer to spread risk more appropriately.
Creation of a regular captive insurance company is an expensive undertaking. Formation of a captive insurance company involves the work of attorneys, actuaries, underwriters and other professionals. Large non-deductible capital contributions are also required. Furthermore, the captive must satisfy “insurance” requirements, including risk pooling or risk sharing, and must qualify as an insurer under the appropriate sponsoring legislation. This is an expensive solution when used in isolation. The expense of a captive insurer arises from its role as a direct insurer of risk. The captive takes on the role of the front-line insurance company. Nevertheless, the formation of a regular captive insurance company may be justified in some circumstances.
This burden can be almost entirely avoided by transferring the primary insurance function to a direct insurer. The direct insurer is a fully qualified insurance company that satisfies the insurance element of the arrangement by working with many insureds and many reinsurance companies. Multiple reinsurers can enter into contractual agreements with a single direct insurer. The reinsurers do not need to meet the burdensome requirements of the direct insurer such as excessive reserve requirements, over-burdensome regulatory filings, and invasive oversight. These requirements are already met by the direct writer of the insurance.
This depends upon the negotiations between the insurance company and the reinsurance company. Even though it might seem like the reinsurance company should take as little risk as possible, this would mean that the reinsurance company would get as little of the associated premiums as possible.
If the reinsurance company has determined that the business is (or should be) profitable, then it would be in the reinsurance company’s best interest to “assume” as much risk and associated premiums as possible (or “Ceding Fee”).
The cost of reinsurance varies greatly, and it is based upon both industry standards and the negotiating skills among the two companies involved, the insurance (or ceding) company and the reinsurance (or assuming) company. The cost of reinsurance is described as a “Ceding Fee” or “Ceding Allowance”, and consists of the payment from the reinsurance company to the insurance company as compensation for “assuming” the transferred risk.
A reinsurance company needs an insurance license. The license is limited. It allows a reinsurance company to take on risks and premiums from a commercial casualty company pursuant to an insurance ceding agreement. A reinsurance company cannot issue an insurance policy directly to the public.
A reinsurance company can be owned by any individual or entity other than the company being insured. Owners may include the owners of the company being insured, an asset protection trust, another corporation, limited liability companies, limited partnerships and other entities.
The Insurance Manager provides a variety of essential insurance services to the reinsurance company, including:
- Providing expertise in the areas of insurance, risk management, and underwriting expertise to the reinsurer
- Hiring an independent actuary to review risks and exposure and to establish appropriate levels of premiums
- Developing business plans and preparing pro forma financial statements that are filed the Insurance Commissioner
- Working with the regulators to secure the reinsurance license and the annual renewal of the license
- Developing equitable premium allocations
- Issuing and monitoring policies and premium invoices
- Obtaining certificates of insurance for insured companies
- Monitoring and reconciling investments records and bank statements
- Maintaining the reinsurer’s financial and operational records
- Serving as the primary contact for regulatory agencies and assisting in regulatory compliance
- Filing insurance regulatory reports
- Preparing and filing annual tax returns (IRS Corporate Income Tax Form 1120PC)
- Handling claims processing
- Serving as a liaison between the commercial insurance and the reinsurance company
Our third party Insurance Managers are nationally known and manage the insurance process, including collecting premiums, paying claims and other operational matters. In this way, its functions are akin to a TPA (third-party administrator) of a tax-qualified retirement plan. However, the role of the Insurance Manager goes further. It also prepares reinsurance company financial statements, business plans, license applications, and annual tax returns.