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A Quick Look at Captive Insurance, including group health captive insurance.
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A Captive Insurance company is A privately owned, closely held insurance company formed to
enhance the performance of its owner’s business.
Nearly anyone can have a captive insurer, but to receive the taxation benefits accorded to commercial insurers by the IRS:
You must have a legitimate and compelling need to self insure.
You must meet IRS tests of “Risk Shifting” and “Risk Dispersion”.
May require significant funding, expert guidance and a fair chunk of your time.
Legitimate and Compelling Needs to Self-Insure
o Your annual premiums exceed $1,000,000o You have considered insurance that was too expensiveo You want to improve your overall risk management performanceo Your policies contain discomforting exclusionso You are paying for uninsured (self insured) losses with after-tax dollarso You are using large deductibles or self insured retentions o Your premiums have sometimes fluctuated in a way that disrupted
your businesso You are unable to set aside reserves for future loss on a systematic,
tax deductible basis
Risk Shifting & Risk Dispersion Defined
Risk Shifting: The risk of financial loss from an unexpected event is transferred from the party at risk to a second and financially separate party.
Risk Dispersion: Numerous homogeneous and cooperating entities pool their funds so that each of them will share in the payment of a loss incurred by any of them. The entities should be organized in such a way that no single loss event is likely to affect more than a small percentage of them.
The IRS may still be debating the exact meaning of these terms. Discuss this with your Captive Management Consultant
Most Uninsured Risks can be Covered in a Captive
Insured RisksWorkers CompExcess LiabilityGeneral LiabilityE & O LiabilityProperty (Fire etc)
Uninsured RisksContractual LiabilityPunitive DamagesD & O LiabilityEarthquakeFloodMoldDeductibles, RetentionsLitigation Expense
Risk Management
Examples of Commonly Self-Insured RisksConstruction Defects
Directors and Officers LiabilityContractual Liability
Special Punitive DamagesEmployment Practices Liability
Business Interruption Administrative Action
Earthquake, FloodSelf-Insured Retentions
Jumbo Deductibles
Positioning the Captive
What is the owner’s tax profile? What are the owner’s goals?How does the owner prioritize his/her goals?Will the Captive be owned personally or by an irrevocable trust?
Where will the Captive be domiciled?Cost considerationsRegulatory considerationsTravel and time considerationsRecreational opportunities
Considerations When Choosing a Domicile
Domestic or Off-Shore?
Local Taxes?Capitalization Requirements?
Reserve Investments?Well Tested Regulatory Environment?
Ease and Time of Travel?Is it a place you’d like to visit?
Your Objectives as a Captive Owner
Federal Tax Benefits
Control of Claims
A New Profit Center
Lower Insurance Premiums
Risk Management
Estate Planning
Federal Taxation
Captive Insurance Tax Issues are keeping lots of lawyers in high style. But a large Majority of captive managers know when a proposed plan is likely to offend the IRS.
Before you pay a captive manager one dime, ask for his opinion on your tax situation, and what it will cost to validate that.
It’s far too complex an issue to deal with via an Internet slide presentation.
Small Captives & 831(b) Tax Filings
To be eligible for IRC 831(b) tax treatment a captive insurer must have earned premium of at least $350,000 and not more than $1,200,000. In that case the captive owner can elect to file under 831(b) and no tax will be payable on underwriting profit. Tax will be payable on Investment Income, Dividends, Interest & Capital Gains.
If an 831(b) filing is made and then not taken in a subsequent year, the 831(b) filing cannot be taken again.
A captive that is growing rapidly or is only marginally profitable may be able to justify using its profits to bolster its reserves against future loss, in which case it may pay little or no tax. Contributions to any insurance company’s reserves against future loss are based on actuarial calculations and reports.
Why Form a Captive?
To Reduce or Stabilize Insurance CostTo Access Reinsurance MarketsTo Exert Control To Improve Average Claim ExperienceTo Provide Ancillary Tax BenefitsTo Improve Profitability and Cash FlowTo Provide a Means of Funding RetentionsTo Offer Estate Planning BenefitsTo Provide Coverage That is Not Otherwise Available
Captive Formation Process (1)
Is a captive right for your company?One way to know is to Conduct a Feasibility Study
Identify Potential Risks of Captive (Loss History)
Analyze the Financial Impact on the Captive’s Owner
Discuss Cash Flow and Tax BenefitsDraft Operations Plan & Financial ProjectionsSubmit Captive Application to RegulatorIncorporate and Capitalize Company
If your company or professional practice does not yet enjoy the size and diversification to meet IRS tests of Risk Sharing and/or Risk Dispersion you may want to consider forming what is called a Protected Cell Group Captive.• Save money• Satisfy IRS Tests of Risk Sharing and Risk Dispersion• Be up and running in 3 – 6 weeks• Same eligibility tests for 831(b)• Comply with good risk management practices• Can be used to insure Medical Expense Stop Loss (MESL) deductibles.
If you have a question, just call 1-760-366-4670
Captive Formation Process (2)
