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An Introduction to Captive Insurance. F. Hale Stewart, JD, LLM, CTEP, CWM, CAM Author of the book U.S. Captive Insurance Law Captiveinsuranceinfo.com 832-330-4101. Who Should Form A Captive?. A company that has an above-average risk profile.

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an introduction to captive insurance

An Introduction to Captive Insurance

F. Hale Stewart, JD, LLM, CTEP, CWM, CAM

Author of the book U.S. Captive Insurance Law

Captiveinsuranceinfo.com

832-330-4101

who should form a captive
Who Should Form A Captive?
  • A company that has an above-average risk profile.
  • A company or individual with the financial resources to contribute to the captive.
  • Finally, a company should have a good combination of income and risk
    • Ideally, a company should have $3 million in gross revenue
    • But a company that has $1-$3 million may have enough risk to warrant looking at a captive.
    • Please call if you have questions
what companies are more likely to benefit from a captive
What Companies Are More Likely to Benefit From a Captive
  • Doctors and other professionals
  • Manufacturers
  • Commercial real estate
  • Construction companies
  • Transportation companies
  • Shipping Companies
what are the benefits of forming a captive
What Are the Benefits of Forming A Captive?
  • Custom Insurance Policies
    • The Beech Case
    • Using Individual loss experience in determining insurance rates
  • Broader Insurance Coverage
    • Third party insurer insures standard risk
    • The captive underwrites specialty risk
  • Asset protection
  • Estate Planning
  • Tax arbitrage
what are the steps to forming a captive
What Are the Steps to Forming a Captive?
  • After a company decides to form a captive, the next step is to perform a feasibility study, which has three objectives.
    • It provides a blueprint for the entire captive program.
    • Second, it aids in compliance.
    • Third, the study can aid in selling important decision-makers within the organization on the plan.
what are the steps to forming a captive1
What Are the Steps to Forming a Captive?
  • The jurisdiction where the captive is being formed must determine if forming the captive is in the jurisdiction’s best interest. To do that, they will consider
    • (i) The character, reputation, financial standing and purposes of the incorporators;
    • (ii) The character, reputation, financial responsibility, insurance experience and business qualifications of the officers and directors; and
    • (iii) Such other aspects as the commissioner shall deem advisable.
what are the steps in forming a captive con t
What Are the Steps in Forming a Captive, con’t
  • Next, the applicant must make a formal application to open an insurance company. The application must typically contain the following information
    • (A) The amount and description of its assets relative to the risks to be assumed;
    • (B) The adequacy of the expertise, experience, and character of the person or persons who will manage it;
    • (C) The overall soundness of its plan of operation;
    • (D) The adequacy of the loss-prevention programs of its parent, member organizations, or industrial insureds, as applicable; and
    • (E) Other factors considered relevant by the commissioner in ascertaining whether the proposed captive insurance company will be able to meet its policy obligations
  • Finally, there is the issue of original capital and surplus.
running the captive
Running the Captive
  • Domicile manager
  • Legal counsel
  • Audit
  • Actuarial Services
  • Investment manager
shutting down the captive
Shutting Down the Captive
  • In most states, one of the following seven reasons will allow a state regulator to shut down a captive:
    • 1. Insolvency or impairment of capital and surplus.
    • 2. Refusal or failure to submit an annual report … or any other report or statement required by law or by lawful order of the director.
    • 3. Failure to comply with the provisions of its own articles of incorporation, bylaws or other organizational document.
    • 4. Failure to submit to an examination or any legal obligation related to the examination.
    • 5. Refusal or failure to pay the cost of an examination.
    • 6. Use of methods that, although not otherwise specifically prohibited by law, render its operation hazardous or its condition unsound with respect to the public or to its policyholders.
    • 7. Failure otherwise to comply with the captive statute.
the irs fought captive insurance for nearly 30 years
The IRS Fought Captive Insurance For Nearly 30 Years
  • They used three arguments
    • The Economic Family
    • Nexus of Contracts
    • Assignment of Income
  • No Court Accepted Any of the IRS’ arguments
safe harbor guidance part i
Safe Harbor Guidance, Part I
  • Under Harper, a captive must comply with a three prong test:
    • (1) whether the arrangement involves the existence of “insurance risk”;
    • (2) whether there was both risk shifting and risk distribution; and
    • (3) whether the arrangement was for “insurance” in its commonly accepted sense.
      • The duck test – does the company “walk and talk” like an insurance company?
slide12

Safe Harbor Guidance, Part II

  • The IRS has issued several Revenue Rulings that provide further safe harbor guidance
  • A captive must derive at least 50% of its insurance revenue from a non-parent.
  • Or, a captive must have at least 12 subsidiaries in order to have sufficient risk distribution.
private letter rulings or the ultimate safe harbor
Private Letter Rulings, or, the Ultimate Safe Harbor
  • A Private Letter Ruling (or PLR) is "issued for a fee upon a taxpayer's request and describes how the IRS will treat a proposed transaction for tax purposes." 
  • Private Letter Rulings create certainty – we know how the IRS will view a specific transaction