Captive Insurance

Derick A. White, CPA, CFE

Director of Captive Insurance

Vermont Department of Banking, Insurance,

Securities and Health Care Administration

CAGNY June 1, 2005 New York City

What is a Captive?

“formalized self-insurance” wholly owned subsidiary licensed in a state (or country) a regulated insurance company with

a limited license

Why form a Captive?

Obtain CoverageControl CostFocus on Risk ManagementManuscript PolicyPre-loss funding

History

Bermuda during the early 1970’sColorado, Georgia, TennesseeVermont in 1981Hawaii in 1986Recent States

Types of Captives

PureIndustrial InsuredAssociationRisk Retention GroupsSponsored (Rent-A-Captives)ReciprocalBranch

Some Coverages Currently Written with Captives

General Liability Product Liability Workers Comp Auto Liability Auto Physical Damage Property Business Interruption Marine & Cargo Terrorism

Environmental Impairment

Credit Professional Liability Political/War Risk Aviation Strike Employee Benefits D&O

Trends

Medical MalpracticeTerrorismRedomestication

Vermont’s Captive Industry Profile

numbers (over 700 licensed companies)management firms (14 active)service providers (CPA’s, banks, actuaries)Vermont Captive Insurance Association

Total Number of Vermont Captive Licenses Issued

732

1981 1985 1989 1993 1997 2001 2005

2004 Financial Results Vermont

Premium Written $ 10.6 billion

Net Income $ 8.6 billion

Total Assets $ 85.7 billion

Capital & Surplus $ 51.2 billion

Role of the Actuary

Feasibility Study Annual Opinion Financial Projections Actuarial Review of applications Examinations

Current Events

Title/mortgage insuranceRisk transferGAO-risk retention groupsNAIC accreditation

www.bishca.state.vt.us

State of VermontCaptive Insurance

VT Department of Banking, Insurance,Securities & HealthCare Administration

89 Main Street, Drawer 20Montpelier, VT 05620-3101

(802) 828-3304

Captive Insurance Companies

William D. MotherwayExecutive Vice President

Tishman Realty & Construction Co., Inc.

A Brief History

Historical Review Most early captives were wholly-owned ‘50s. By 1960 there were approx.. 100 captives in operation

including some groups 80’s-90’s – Rent-A-captives and Cells

Critical factors for development of the industry

Availability of coverage problems Pricing inequity - swings from soft to hard markets leaving

good risks with “Hats in Hand” Lack of flexibility with insurance coverage and wording Regulatory Responsiveness by Domiciles Changing Owner Needs

Current Trends & Key Opportunities Property Programs Getting Fresh Look

Return to Deductible & Retention Captives

Hard Reinsurance Market – Lack of Support & Underwriting

Contractors Nursing Homes Medical Malpractice D&O Property Many Others

Terrorism Risk Insurance Act of 2002

Group Program Proliferation in Stressed Classes of Business

Controls and Flexibility

“Reasons for a Captive:

Internalize insurance program underwriting profits

Unbundle insurance services, reduce insurance costs

Access to the reinsurance markets

Enhance premium funds, cash flow and investment income

Leverage markets, greater control, enhance strategic partnerships

Policy design flexibility, specific to insured’s risk profile

The Stage is Set

All forms of Captives are subject commonattributes:

Financial Regulatory Control Flexibility

What is a Captive and Who Uses them?

Single-Owner (Pure) Captives - insure only the risks of the owner or the owner’s subsidiary operations (Exception - controlled unaffiliated business)

Companies with predictable attritional losses (high frequency. low severity)

Companies with better than market average loss experience Companies with poor loss experience but committed to

improved risk management Companies with uninsured risks Companies that wish to consolidate global programs Companies able to sell insurance products to their customers

Key Financial Considerations

Risk retained within the “economic” family Program loss sensitivity Additional fixed costs of captive operations Investment and liquidity Capital commitment (Cash , LOC’s, other) Tax deductibility (paid losses vs. loss reserves) Income and Local Taxes Each Structure discussed contains some or all of these

Typical Design Structures

Direct Writing Captive Retain all Risk or Cede Risk to a Reinsurance Partner

Reinsuring / Assuming Captive Assumes risk from a fronting carrier or another ART

vehicle Retains or retro-cedes to a reinsurance carrier

Captive - Operating as a Direct Writer

ClaimSettlements

ShareholderDividends

Claimants

Insured

Captive Insurance Company (Owned by Insured)

Capitalization InsurancePremiums

Captive - Operating as a Reinsurer

Capitalization

Security toGuaranteeReimbursementof Losses

ShareholderDividends

InsurancePremiums

Insured

ClaimSettlements Claimants

PolicyIssuing

Company

Captive Insurance Company (Owned by Insured)

Reimbursement of LossesPremium Less

Fronting Fee &Excess Insurance

Risk Retention Group

An RRG is an insurance entity owned and controlled by two or more non-affiliated organizations insured by the RRG.

Homogeneous and insure similar types of businesses risks or Heterogeneous and insure risks of several types of organizations.

RRGs in the United States are licensed to issue policies and and operate under the Federal Risk Retention Act of 1986.

They are stock, reciprocal or mutual in organizational form.

Association Captive

An Association Captive is an insurance company owned and controlled by two or more non-affiliated association insured by the captive.

Homogeneous and insure similar types of businesses risks or Heterogeneous and insure risks of several types of organizations.

Association Captives in the United States are licensed by a domiciliary state (VT for example) and use a fronting carrier.

They are stock, reciprocal or mutual in organizational form.

Ownership

Are insureds owners of the entity? In what way and how much?

Joint and Several liability?

Assessable policy?

Withdrawals?

Other?

Management and Governance

Board of Directors

Officers

Shareholders

Professional Managers

Investments

Regulatory and Tax Issues

State insurance regulation Possible use of a fronting carrier Liability Risk Retention Act of 1986 Financial responsibility laws Tax treatment of group captives Dividend distribution

Front carrier (if applicable)Reinsurance (specific and aggregate)ManagementUnderwritingClaims and Loss AdjustmentActuarialBanking Investment ManagementAuditorsLegal Counsel

Service Providers

Benefits

Better member service

Lack of coverage and capacity fears eased

Price no longer total market driven

Long term relationship with knowledgeable partners

Protection against competition

Protection against market instability

Profit driven

Captive Forms - Rent-a-captive/ PCC A non-owned facility

Clients do not contribute capital but instead rent it from the rent-a-captive sponsor

Usually located off shore, e.g. Bermuda, Barbados, Guernsey or Cayman

PCC law offers protection to rent-a-captive participants

Affordable and quick option for most smaller companies

Company selection criteria - cost of risk greater than $1m and net worth greater than $25m

TRIMCO Insurance Company Overview

Parent Company - Tishman Realty & Construction Co., Inc.

Industry:

Construction

Hotels and Realty

Real Estate

TRIMCO Insurance Company Overview

Details of Vermont Captive

Licensed - December 2001

Operational - January 1, 2002

Program Structure:

Direct Deductible Reimbursement - (Premium = $5.0M ) Workers Compensation

General Liability

No Loss Portfolio Transfer

TRIMCO Insurance Company Overview

Key Operational Components

Start-up costs $25k

Operational/Administrative Costs - $90k annually

The Future

Program Changes

The floor is open for Questions