To Control Insurable Risks Traditional insurers are subject to the cycles of hard and soft insurance markets. During hard markets, insurance coverage is more limited and prices are higher. A captive is less susceptible to these fluctuations and offers the insured more control over underwriting and claims settlement activities.
To Capture Investment Income and Accelerate/Manage Cash Flow There is a difference in the timing of when the insurer receives premiums and when claims are paid to the insured. Because of this difference, premiums collected are invested and reserved until claims are paid. Corporate systems retain the benefit of investment earnings on premiums paid, whereas in the traditional market this benefit is forfeited to an independent, third party insurer.
Potential Tax Advantages Primary tax advantages for captives include the potential deductibility of premiums and deferred taxation of insurance income. Under certain circumstances, an insured may deduct premiums paid to a captive that are not otherwise deductible under a self insurance arrangement.
Safety and Soundness for Risk Management Programs The captive insurance market is more formalized than self-funding insurance risk and has a regulatory framework to support the captive (for example, a requirement for annual audits and actuarial opinions on adequacy of reserves). This may provide a higher probability (whether perceived or real) of success. Alternatively, the formalized framework still allows for insureds to work within a flexible environment to meet unique and specific needs.
To Establish Better-Than-Average Claim Experience Because premium levels are directly impacted by claims experience, a company that has established a favorable claims history relative to the average market is a prime candidate to consider establishing a captive to avoid subsidizing other insured businesses with less favorable claims experience. Since there is a direct financial benefit for improving claims experience in the captive market companies will put greater emphasis on controlling claims costs. As a result, companies may take a more direct role in safety programs and other favorable practices. Since a captive is a more formalized form of self-insurance, the captive may provide better tools for gathering data for cost control efforts.