1. Group Captive
&
Actuarial 101

2. Division Executive Vice President
Chad Kunkel
Artex Risk Solutions
Division Executive Vice President

3. Pinnacle Actuarial Resources, Inc.
Joe Herbers
Pinnacle Actuarial Resources, Inc.
Managing Principal

4. TC Leshikar
KPMG
Director, Tax

5. What is a Captive?
A licensed insurance company formed to insure the risks of its owners
Regulated by the Country or State the company is licensed in
Captives are not all the same

6. Why form a Captive? Ability to retain underwriting profits
Underwriting flexibility
Lower insurance costs over the long term
Control over claims
Opportunity to receive investment income
Direct access to reinsurance and carriers
Incentives for loss control
Tax advantages
Insure coverage gaps

7. Types of Captives Single Parent Captives Rent-A-Captives
Pure captives insuring only their own risks or affiliates
Rent-A-Captives
Agency Captives
Association Captives
RRG – Risk Retention Groups
Group Captives

8. Single Parent Captive

9. Types of Captives Single Parent Captives Rent-A-Captives
Captive “rents” its facility to an outside organization
Agency Captives
Insures risks of its customers
Association Captives
Group Captives

10. Rent-A-Captive or Cell Captive

11. Types of Captives Single Parent Captives Rent-A-Captives
Agency Captives
Association Captives
Insures risk of the members of its association
Group Captives
Insures risk of its members or shareholders

12. Group Captive Group Captive Premiums Business 1 Business 5
Insurance Policies
Business 2
Business 6
Business 3
Business 7
Business 4

13. Group Captive Considerations
Reason for the Group Captive
Need for Critical Mass
Historical Data
Capital and Carrier LOC requirements
Retentions of the Captive
Sharing Risk
Captive Structure

14. Reason for forming a Group Captive
Myth – taking risk does not always equal cheaper insurance
Need for long term approach
Hard and soft market cycle consideration

15. Critical Mass Important for viability of Group
Premium volume typically equals lower costs
Need for Reinsurance/Carrier support
Law of large numbers
Need to overcome start up costs

16. Historical Data Important to determine feasibility
Historical Losses by Line of Coverage
Historical Exposures
Historical Premium information
Projected Exposures
Need for Carrier/Reinsurance Support
Need for Actuarial Study

17. Capital Requirements
Captive will need Capital in addition to Premium paid in
If Fronted Program – Carrier Collateral considerations need to be contemplated

18. Captive Retentions Risk appetite of group needs to be contemplated
High retentions could create concern for new insureds
Low retentions could prevent carrier support
Lower retentions can help with stability in early years
Can increase retentions over time to assist in lower costs

19. Sharing Risk Number of ways to share risk Pooling or Quota Share
Sharing occurs after premiums exhausted
Layer Approach
Reduces Sharing of Risk
Holds Insureds more accountable

20. Captive Structure Stock or Mutual Company Ownership
1 Vote Per Insured
Based on Premium or Capital
Return of Premium Considerations
Tax

21. Captive Process

22. Captive Feasibitliy Studies - Outline
What is a Captive Feasibility Study
What are Actuaries?
Actuarial Involvement in Captive Feasibility Study
Dealing with Uncertainty
Predicting the Future

23. Captive Feasibitliy Studies
Data Analysis
Loss Estimates
Capitalization Requirements
Domicile
Tax Issues
Coverage, Retentions, Limits
Expenses
Reinsurance Costs
Regulatory Issues
Pro forma Financials

24. Actuaries & Captive Feasibitliy Studies
Projecting the future in regards to:
Premiums
Losses
Loss Adjustment Expenses
Captive expenses
Acquisition, general, taxes
Reinsurance costs
Capitalization Requirements
Investment Returns

25. What is an Actuary?
Insurance professional skilled in measuring and quantifying risk
Typically a math or statistics major in college
Schooled in all aspects of insurance operations
Claims Accounting
Underwriting - Ratemaking
Marketing - Reinsurance
Legal Systems/IT

26. What does an Actuary do? Quite simply – Predict the Future
Ratemaking – Figure out what premiums to charge for a variety of coverages, limits and deductibles
Loss Funding Studies – Projecting future costs so insurer or self – insured entity can budget costs
Loss and loss adjustment expense reserve accruals for financial reporting purposes
Retention Level Analysis
Exposure Modeling (CAT)
Risk Transfer in Reinsurance

27. Essential Background Information
Business Plan
Historical premium, losses, claim counts & exposures for entity being considered
Domicile, Service Providers being considered

28. Captive Business Plan Key management of enterprise
Owner(s), officers, roles
Nature of underlying business being insured
Coverages
Retentions – both per occurrence and aggregate
Limits
Services Providers

29. Data Analytsis Projecting Ultimate Losses Project Ultimate Loss Ratio
Start with current reported incurred losses
Adjust for retentions
Adjust for expected future loss development
Adjust for future trend
Adjust for changes in statutory benefit levels (WC)
Use multiple methods to project ultimate losses
Rely on a point estimate or reasonable range of ultimate losses
Project Ultimate Loss Ratio

30. Lags
Property/Casualty insurance business is characterized by lags (which give rise to need for IBNR)

31. Uncertainty in Projecting Ultimate Losses
Changes in rate of claim payments
Changes in case reserving practices
Changes in mix of exposure
Changes in retention limits
Changes in claim reporting procedures

32. Data Analysis Projecting Expenses Commissions/Brokerage Fronting
Taxes, Licenses & Fees
General (audit, actuarial, legal)
Claims Handling
Reinsurance
Loss Control
Federal Excise Tax
Usually stated as % of either WP or EP

33. Data Analysis Underwriting Profit Investment Returns FIT Dividends
Investment Income
Mix of investments by type (stocks, bonds, cash, other)
Expected returns by type
Realized Capital Gains/Losses
FIT
Dividends

34. Pro Forma Financials Run Pessimistic, Base and Optimistic scenarios
Underwriting Exhibit
Projected premiums (direct / ceded / net)
Projected losses (premium x loss ratio)
Projected expenses
Dividends
Underwriting profit (by subtraction)
Balance Sheet
Assets, Liabilities & Surplus

35. Pro Forma Financials Run Pessimistic, Base and Optimistic scenarios
Income Statement
Underwriting Income, Investment Income, Other Income
Changes in Surplus
Beginning Surplus
Capital Paid In
Net Income
Change in unrealized gains
Stockholder dividends
Cash Flow Statement
Beginning Cash
Inflows (premiums, investment income, paid-in capital)
Outflows (losses, expenses, taxes, dividends)

36. Consideration of Uncertainty
Reliance on actual data versus benchmarks and/or external data – less uncertainty in we have reliable data for entity being studied
Nature of historical data (# of years, consistency between years)
Examine reasonable range versus point estimate

37. Predicting the Future
We know our projections will not be absolutely correct
Objective is to have projections “in the right neighborhood” close to reality
Systematic pessimism or optimism in not good
With feasibility studies, we provide a range from pessimistic to optimistic

38. TAX From the insured’s perspective From the owners’ perspective
- Are the Premiums Deductible?
- Are there any Premium Taxes?
Domicile, U.S. Federal Excise Tax, State Premium Taxes etc.
From the owners’ perspective
If Non-U.S. domiciled, are the owners subject to tax annually or only when distributions are made?
Is there any “unrelated business taxable income” for the tax-exempt owners

39. TAX From the captive’s perspective
Is it considered an “insurance” company for U.S. tax purposes (i.e. can it deduct loss reserves, are the premiums paid by the insureds deductible)?
If Non-U.S., is it a controlled foreign corporation (“CFC”)?
If Non-U.S., is it eligible to make the Section 953(d) election to be taxed as a U.S. Corporation?
Is it eligible to make the Section 831(b) election?
If Non-U.S., are there withholding taxes on its income?
If Non-U.S., does it intend to “conduct a U.S. trade or business”?

40. TAX
Items to Consider
Taxable and tax-exempt organizations may have different tax motivations
Some uncertainty in the area of U.S. Tax of Captives. Should be part of Owners/insureds’ risk tolerance assessment
Determine upfront, how the Captive will be treated for U.S. Tax purposes.
Make sure all stakeholders’ tax advisors are involved at formation and all on same page
Document the business reasons for captive formation as support in case of future audit
Include tax calculations in proformas and projections

41. Formation Process Creation of Business Plan
Identification of Services Providers
Insurance Manager forwards Business Plan to CIMA
Meeting with CIMA
License Application submitted to CIMA
Pro forma Projections, Actuarial projections, Business Plan, Identification of service providers along with director applications
“Approval-In-Principle received – 6 Weeks
Company incorporated and capital put in place
License Issued

42. Get Started Board of Directors Appointment of Officers
Appoint and Engage Service Providers
Insurance Arrangements
Creation and approve operating budget
Creation of Committees
You are up and running!

43. On Going Board Meetting Shareholder/Member Involvement Committees
Determine how often
Shareholder/Member Involvement
Committees
Signing Authority
Financial Statement Review
Investment Policy
Review of Goals/Establish new ones

44. Long Term Retention of Membership Long Term Approach
Adequate pricing and capitalization
Risk Management
Return of Premiums/Dividends
Monitor Service Providers
Review of Structure/Retentions

45. Questions & Answers