What is Captive Insurance?
Pro’s and Con’s of Captive Insurance
A captive insurance company, often referred to as a “captive”, is a risk transfer entity and an alternative to the traditional commercial insurance and reinsurance markets. A captive is a privately held insurance company that is usually a subsidiary of the insured business. It issues policies, collects premiums and pays claims, just like a commercial insurer. The major difference, however, is that it does not offer its services to the public. An 831(b) captive benefits from the preferred tax treatment afforded to small insurance companies by the IRS. 831(b) captives can record up to $1.2 million a year in premiums without any federal income tax implications. Premiums are deducted from a business’ ordinary income and a captive’s profits can be distributed to shareholders at long term capital gain rates.
Captives were once considered too outside the mainstream of risk management practices. However, within the past decade or so, most major corporations have either utilized captives or actively considered the feasibility of captives. Captives are now truly considered a mainstream and cost effective risk management alternative. It is estimated that between 75-85% of S&P 500 companies use captive insurance for risk transfer purposes.
Businesses often find themselves with a need for comprehensive risk management. By establishing a captive insurance company, business owners can craft insurance coverage that addresses their particular needs. The ability to be creative and task specific is a tremendous advantage of captive insurance company ownership. Additionally, using the captive structure companies can create employee retention and executive compensation benefits.
Further, captives can provide significant estate planning benefits. In many scenarios the parties that own the captive also own the business that is insured. In some instances it makes sense for the children of the owners of the business to own the captive. The captive can also be owned by a trust structure, effectively removing the profits and assets of the captive from the estate of the business owner. This can only be accomplished if the captive meets the requirements of the Internal Revenue Code’s section 831(b).
Captives have also demonstrated the ability to provide important asset protection benefits. In particular, if the captive is formed offshore and chooses to make an IRC 953(d) election, thus treating the captive as a domestic corporation, the captive will be able to transfer assets to offshore banks or investment vehicles. There are requirements that disclosures are made about foreign bank accounts. The real advantage comes when dealing with creditors. Creditors would be obligated to pursue their claims in these foreign jurisdictions.
Another advantage is the anonymity that captive ownership provides. Information regarding the ownership of a captive is often protected by the jurisdictions that allow captives. Therefore, ownership information is not readily available to third parties.
Additional protection can be obtained by forming the captive as a Limited Liability Company. Captives can benefit from the LLC structure; this provides an added layer of protection for the owners, who are able to restrict their personal liability.
Our team of advisors has a unique blend of over 100 years of combined experience in the insurance and financial service industries. By combining our extensive experience and knowledge of financial services and insurance we are able to design and implement insurance solutions tailored to fit our client’s insurance needs. We offer comprehensive captive consulting services to wealthy individuals and business owners seeking innovative tax minimization and wealth preservation strategies.
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