It is popularly thought that a captive is primarily a tax
minimization device. In fact, captives are usually formed for other
economic reasons with the main drivers being risk management and
risk financing. Some of these reasons are summarized below.
- Lower insurance costs. Commercial market insurance
premiums must be adequate to meet the cost of claims but, in
common with other commercial enterprises, insurers are in business
to make money and will therefore include in the premium an element
to provide for their acquisition costs, overheads and profit. This
portion of the premium can represent as much as 35% or 40% of the
whole. In establishing a captive, the parent seeks to retain the
profit within the group rather than see it go to an outside party.
A captive may also help reduce insurance costs by charging a
premium that more accurately reflects the parent’s loss
experience.
- Cash flow. Apart from pure underwriting profit, insurers
rely heavily on investment income. Premiums are typically paid in
advance while claims are paid out over a longer period. Until
claims become payable the premium is available for investment. By
utilising a captive, premiums and investment income are retained
within the group and, where the captive is domiciled offshore,
that investment income may be untaxed. Additionally the captive
may be able to offer a more flexible premium payment plan thereby
offering a direct cash flow advantage to the parent.
- Risk retention. A company’s willingness to retain more
of its own risk, particularly by increasing deductible levels, may
be frustrated by the inadequate discount offered by insurers to
take account of the increased deductible and by the fact that the
company is unable to establish reserves to pay future claims.
Establishment of a captive can help address both these problems.
- Unavailability of coverage. Where the commercial market is
unable or unwilling to provide coverage for certain risks or where
the price quoted is seen to be unreasonable, a captive may provide
the cover required.
- Risk management. A captive can act as a focus for the risk
management and risk financing activities of its parent
organization. An effective risk management programme will result
in recognisable profits for the captive. Risk management can be
viewed by a captive owner not as a cost centre but as a
potentially profitable part of the company’s activities. A
captive can also be used by a multinational to set global
deductible levels by enabling a local manager to insure with the
captive at a level suitable to the size of his own business unit
while the captive only buys reinsurance in excess of the level
appropriate to the group as a whole.
- Access to the reinsurance market. Reinsurers are the
international wholesalers of the insurance world. Operating on a
lower cost structure than direct insurers they are able to provide
coverage at advantageous rates. By using a captive to access the
reinsurance market the buyer can more easily determine his own
retention levels and structure his programme with greater
flexibility.
- Writing unrelated risks for profit. Apart from writing its
parent’s risks, a captive may operate as a separate profit
centre by writing the risks of third parties. In particular, an
organisation may wish to sell insurance to existing customers of
its core business. For example, retailers may sell extended
warranty cover to customers with the risk being carried by the
retailer’s captive. The claims pattern of this type of business
is usually very predictable with a large number of small exposures
and can provide the retailer with a valuable additional source of
revenue.
- Tax minimisation and deferral. The tax considerations in
forming a captive will depend on the domicile of both the parent
and the captive. Integration of a captive as part of an overall
tax planning strategy is a complex subject so that professional
legal and tax advice is essential.
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Every year, business owners and executives invest a large portion
of income to insure the health and safety of their companies and
employees. In a traditional insurance program, a year with minimal
or no losses generally yields little, if any, return on that
investment; a bad year typically equates to higher premiums the
following year. Either way, we believe you lose what potentially
could be a substantial return on this investment.
A captive insurance approach can result in the immediate
realization of significant cost reductions and future long-term
savings because:
The financial strength of the captive is secured by accepting
only quality companies that have learned to manage risk
effectively.
The purchase of strategic insurance products such as specific
and aggregate excess reinsurance coverage allows captive members
to manage predictable losses while transferring potential
catastrophic losses.
Premiums are based on loss history rather than trends in the
overall insurance market. Many of the fixed costs associated with
traditional carriers are greatly reduced due to the ability to
unbundle services and negotiate directly with service providers.
Income potentially accumulates tax deferred for a period of time.
Members should expect a return on their underwriting profits
and investment income by adhering to risk management strategies.
In other words, there is the potential for a significant return on
dollars that were once considered pure expense.
As a group captive member and owner, you have control over your
insurance destiny and are no longer subject to the ups and downs
of the traditional insurance market.
As an individual owner, you control the return on your
investment through the design of detailed loss prevention and
claims management strategies.
As a captive member, you help choose and direct some of the
most effective providers in the industry to perform the various
insurance-related services required to run your captive insurance
company.
And, as a client of Captive Resources, we help you implement,
coordinate and enhance those services to help facilitate the
growth and continued success of your captive.
As a group captive member and owner, you have control over your
insurance destiny and are no longer subject to the ups and downs of
the traditional insurance market.
As an individual owner, you control the return on your investment
through the design of detailed loss prevention and claims management
strategies.
As a captive member, you help choose and direct some of the most
effective providers in the industry to perform the various
insurance-related services required to run your captive insurance
company.
And, as a client of DS&P and Captive Resources, we will help
you implement, coordinate and enhance those services to help
facilitate the growth and continued success of your captive.
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