A captive insurance company allows businesses to minimize risk mitigation costs by recapturing underwriting profits usually earned by commercial insurers. It provides broader coverage than commercial insurance, including risks that are hard to insure. Using a captive insurance strategy can reduce insurance costs by 30-40% by allowing businesses to deduct premiums paid and retain investment income. Captives provide flexibility in coverage options and claims control processes.

1. Article reprinted from Summer 2011
BIZGrowth Strategies
IDEAS TO HELP GROW YOUR BUSINESS
Insurance Strategies
Captive Insurance: an Opportunity to Minimize Risk Mitigation Costs
C
aptive insurance companies have played a significant part in Federal Income Tax Considerations
the risk mitigation processes of many companies, primarily The key issue with these types of captives has, until recently,
large publicly-listed companies, for over 50 years. While been whether the operating company can in fact obtain a tax
initial interest in the concept was found in the U.S. and Europe, deduction for premiums paid to its own captive. After almost 20
companies from all around the world now enjoy the benefits years of litigation and rulings, the IRS issued a number of Revenue
available from using captives. Rulings from 2002 through 2008 that provide “safe harbors” for
A captive insurance company is a closely-held insurance maintaining tax compliant captive insurance companies.
company which provides insurance for its owners and/or affiliates. If the captive is formed and operated within those safe
Businesses, including closely-held businesses, have two harbors, then there is no longer any issue regarding the
options to deal with risk: (i) self insure the risk or (ii) obtain deductibility of the premiums paid to the captive insurance
insurance to transfer the risk to a commercial carrier or captive. company. The key issues relate to the fact that there must be
Transferring the risk to a commercial insurance carrier or captive (i) risk shifting and (ii) risk distribution to meet the definition of
allows a business an ordinary and necessary business deduction “insurance” for U.S. income tax purposes. Further, the amount of
for the premiums paid. A business that self insures its risks the premium must not be excessive and represent an amount that
obtains a deduction for the risk reserves only if and when an actual a typical insurance company would otherwise charge (i.e., an arms-
loss occurs. length charge).
Benefits Premiums received (and investment income earned thereon)
by the captive facility, in many cases, are not subject to tax due
A key benefit of captives is the recapture of underwriting to federal income tax accounting rules allowing a deduction of a
profits usually earned by the commercial insurance carriers. This discounted value of reserves against premium and investment
effectively lowers the cost of obtaining insurance coverage to the income. In addition, all assets in the captive are protected from
captive owner. Further, a captive can provide coverage for risks that claims by third party creditors.
are not commercially available or are overpriced. These situations
arise when the commercial market is thin or nonexistent. Captives Summary
also provide a non-commission paying alternative to the commercial A captive insurance facility can provide participants with
coverages traditional brokers offer. benefits generally associated with the formation of a wholly-owned
In addition to commercial coverages that may be placed captive insurance company, such as:
through captives, captives permit policy exclusions and deductibles • Recapture of underwriting profit and investment income
to be covered, as well as insure previously uninsured risks and • Broader coverage and coverage for hard to place or
even supplement existing coverages. uninsurable risks
There are numerous examples of how captive insurance • Flexibility in program design and claims control
• Access to reinsurance markets
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benefits closely-held businesses across industries. With the
assistance of independent actuaries and other captive insurance • Reduced insurance program costs
professionals, a business may establish a captive insurance • Ability to form part of a highly cost effective international and/or
company that can insure an increased deductible for existing estate planning structure
commercial coverages, which may, in some cases, result in a 30 to If you would like to discuss in more detail how your business
40% reduction in the commercial insurance premiums. In addition, can benefit from a captive insurance strategy,
coverages that supplement the existing commercial insurance please contact the author or your local CBIZ
coverages can be added, as well as providing insurance coverages advisor.
for uninsured or otherwise costly business interruption type
liabilities, such as loss of key contracts, customers or suppliers;
product liability; warranty coverages; and errors and omissions.
our business is growing yours Stuart H. Anolik, CBIZ MHM, LLC • Bethesda, MD
301.951.3636 • sanolik@cbiz.com