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9/18 M97/February 2018 Reinsurance

C5 Advantages of captives
These can be summarised as follows:
• to reduce and/or stabilise insurance costs; predictability is important to chief financial officers:
– no overheads or profit or capital costs of the insurance company to bear,
– the reinsurance market offers flexibility; for example, if the underwriting cycle is at a stage where
cover is expensive, greater risk can be retained;
• efficient claim settlements, wordings, coverage;
• cash flow from investment income on retained funds and favourable terms of trade from reinsurance
firms (for example, accounts quarterly in arrears) – the capital and retained funds represent the
captive’s surplus: (excess of premiums paid in comparison to claims paid out);
• capacity and leverage against insurance firms:
– access to reinsurance markets with their lower costs, capacity and flexible programmes,
– captive’s surplus (ability to write new risks or offer supply if there is a lack of market coverage),
– consolidation within (re)insurance markets reduces choice for clients;
• insurance arrangement continuity: the insurance industry still prefers not to offer long-term contracts if
possible; and
• risk management activities communicated:
– financial statements to summarise risk financing activities,
– segregated funds for risk management purposes only; no appropriations,
– senior management aware of risk issues,
– focus on risk management by all staff.

C6 Disadvantages of captives
These are outlined as follows: Reference copy for CII Face to Face Training

capital requirements:
the investment
funds are tied up
in the captive
prejudicial tax
treatment if set-up is captive
in state or country of management costs
parent domicile

Disadvantages
of captives
tying up senior limited spread
management time of risk
9
Chapter

traditional covers
are often competitive possibility of
on price crippling loss

Be aware
In the USA, businesses usually go out-of-state for their captive formations. Forming in-state captives rarely makes
sense because of state premium or independently procured taxes.