As companies scramble to adjust their health care strategies to keep a lid on costs, some are turning their attention to captive insurance companies — basically, an insurer that is owned by the company whose risks it insures. Large companies have long formed captives to insure their property and casualty risks, but businesses of all sizes are now considering captive insurance for either their primary health care coverage or, in self-insured companies, stop-loss coverage to protect against catastrophic claims.

Captive insurance benefits

The premiums paid to a captive insurer are often less than those charged by traditional carriers. And, unlike the similarly economical self-insurance arrangement, the parent company can deduct insurance premiums paid to the captive insurer. (A self-insured company can take tax deductions only when claims are actually paid.) Because the parent company owns the captive, it reaps the insurer’s underwriting profits — the excess of the premiums received over the expenditures associated with paying claims and servicing the policy. That means the parent directly profits from its successful risk management strategies (for example, reducing health care costs through an employee wellness program). And those profits are subject only to capital gains taxes.

Potential problems

Just as the parent company enjoys the captive’s profits, though, it also sustains its underwriting losses if claims exceed the premiums. The reduced diversification of risk because of the smaller pool of insureds could leave a captive vulnerable to catastrophic claims. Additionally, captive insurers are subject to federal and state insurance laws, including strict capitalization requirements, and to Department of Labor restrictions on using captives for insuring employee benefits. The start-up costs can therefore be significant.

Look before you leap

We can help you determine whether a captive insurance arrangement is appropriate for your health care coverage and, if so, assist with navigating the complicated process of forming and maintaining an insurance company.