Transcript Captives – Alternative or Obstacle Business Case Charlie Woodman, CPA SVP, Risk Finance Marsh CAS Annual Meeting November, 2004

Captives – Alternative or Obstacle
Business Case
Charlie Woodman, CPA
SVP, Risk Finance
Marsh
CAS Annual Meeting
November, 2004
Captive Insurance Company Forms

Single Parent - Non Risk Pooling
• Wholly-owned / Rent-A-Captive / Trusts / etc.
• Emphasis on Risk Funding and Cost / Funding Efficiencies

Group Owned- Risk Sharing / Risk Pooling
• Group, Association Captive, Risk Retention Group
• Emphasis on Risk Transfer replacement / Alternative
“insurance”

This distinction is critical in assessing the merits of a
program.
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Current Captive Insurance
Program Emphases

Cost Savings

Risk Management Facilitation

Business Enhancement

Insurance / Risk Transfer Replication (Group Emphasis)
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Cost Savings

Long-term: “Seasoning” / Risk Management Point Facility
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Short-term: “Business Case”
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Seasoning

“Seasoning” / Risk Management Point Facility
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Extends the Corporate Risk Management
“Commitment” to It’s Own Risks
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Engages in Insurance under the Insurance Industry’s
Mechanisms and Measurements

Regulated and “Grounded”
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Reinforces Relationships with (Re)insurance Markets

Hard to quantify / “Theoretical in Many Instances”
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Business Case

NPV of Cash Flows - Short Term Business Case cost
Savings
• Accelerated Tax Benefits - Qualified Insurer
• State (& International) Tax Arbitrage
• Operating Costs
• Opportunity Cost of Capital

Other Quantitative & Qualitative
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Accelerated Tax Benefits Qualified Insurer

Insurance Premiums are Deductible over the policy term

“Casualty” losses are subject to “Economic Performance”
for tax

Accounts and “set-asides” are not economic performance

Incurred Basis (incl. IBNR) vs. Paid Basis
• SubChapter L of the IRC

Accelerated Recognition, not an accelerated realization
• i.e. Already recognized for financial reporting
• No “above the line” accounting benefit
• Consolidated Cash Flow Benefit
• Note: Basis of tax benefit is actual premium deduction from
insured to Group Captive
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Tax Reality

The underlying issues which define whether an insurance
transaction has occurred or whether a transaction is selffunding are:
• “Insurance Risk” - Insurer must assume a reasonable
possibility of incurring significant loss.
• Notions of Risk - Form
• Risk Transfer / Risk Distribution - Risk of loss must be
legally transferred from one legal entity to another, which
pools the risk among other risks so as to increase
predictability, and reduce adverse loss uncertainty.
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Tax Facts & Circumstances
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Tax Facts & Circumstances
Brother-Sister Approach
Parent
Sub
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Captive
Not
Deductible
Deductible
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Sub
Other Business Case
Components

State (& International) Tax Arbitrage
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Operating Costs

WACC / Opportunity Cost of Capital
• Capitalization
• Losses as Premiums
• Discount rate on enhanced cash flows
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Other Quantitative & Qualitative
• (Re)insurance
• Internal Costs & Resource Commitment
• Recognitions and Materiality
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Captive Operating Costs

Start-up
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Fronting, if applicable.
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Management
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Measurement: Audit & Actuarial
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Legal & Regulatory
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(Re)insurance
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Pools and Participations
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Premium-based Taxes
• Direct / Reinsurance
• Federal Excise Taxes
• Self-procurement / Direct placement.
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Design Components and
Issues

Coverages
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Structure
• Direct Writer
• Reinsurer
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Capitalization & Collateral
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Domicile
• Cost
• Regulatory
• Other
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Premiums & Operating Expenses

Premium Taxation
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Underwriting

Traditional risk
• Professional Liability/Medical Malpractice
• Workers compensation, auto and general liability
• Products/completed operations, errors & omissions,
environmental
• D&O, Surety, Property?
• Employee Benefits
• TRIA
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Program Evaluation or
“Feasibility”

Risk Assessment / Self-Assessment
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Insurance Marketplace
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Risk Quantification
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Qualitative Issues
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Pro Forma

Structure & Design
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Time - Urgency versus Commitment

Capital
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Cultural
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