Captive Insurance CAGNY June 1, 2005 Derick A. White, CPA,

Captive Insurance CAGNY June 1, 2005 Derick A. White, CPA, CFE Director of Captive Insurance Vermont Department of Banking, Insurance, Securities and Health Care Administration New York City

What is a Captive? “formalized self-insurance” wholly owned subsidiary licensed in a state (or country) a regulated insurance company with a limited license

Why form a Captive? Obtain Coverage Control Cost Focus on Risk Management Manuscript Policy Pre-loss funding

History Bermuda during the early 1970’s Colorado, Georgia, Tennessee Vermont in 1981 Hawaii in 1986 Recent States

Types of Captives Pure Industrial Insured Association Risk Retention Groups Sponsored (Rent-A-Captives) Reciprocal Branch

Some Coverages Currently Written with Captives General Liability Product Liability Workers Comp Auto Liability Auto Physical Damage Property Business Interruption Marine & Cargo Terrorism Environmental Impairment Credit Professional Liability Political/War Risk Aviation Strike Employee Benefits D&O

Trends Medical Malpractice Terrorism Redomestication

Vermont’s Captive Industry Profile numbers (over 700 licensed companies) management firms (14 active) service providers (CPA’s, banks, actuaries) Vermont Captive Insurance Association

Total Number of Vermont Captive Licenses Issued 732 1981 1985 1989 1993 1997 2001 2005

2004 Financial Results Vermont Premium Written 10.6 billion Net Income 8.6 billion Total Assets 85.7 billion Capital & Surplus 51.2 billion

Role of the Actuary Feasibility Study Annual Opinion Financial Projections Actuarial Review of applications Examinations

Current Events Title/mortgage insurance Risk transfer GAO-risk retention groups NAIC accreditation

State of V ermont Captive I nsuranc e VT Department of Banking, Insuranc e, Sec urities & Health Care A dministration 89 Main Street, Draw er 20 Montpelier, VT 05620-3101 www.bishca.state.vt.us (802) 828-3304

Captive Insurance Companies William D. Motherway Executive Vice President Tishman Realty & Construction Co., Inc.

A Brief History Historical Review Most early captives were wholly-owned ‘50s. By 1960 there were approx. 100 captives in operation including some groups 80’s-90’s – Rent-A-captives and Cells Critical factors for development of the industry Availability of coverage problems Pricing inequity - swings from soft to hard markets leaving good risks with “Hats in Hand” Lack of flexibility with insurance coverage and wording Regulatory Responsiveness by Domiciles Changing Owner Needs

Current Trends & Key Opportunities Property Programs Getting Fresh Look Return to Deductible & Retention Captives Hard Reinsurance Market – Lack of Support & Underwriting Contractors Nursing Homes Medical Malpractice D&O Property Many Others Terrorism Risk Insurance Act of 2002 Group Program Proliferation in Stressed Classes of Business

Controls and Flexibility “Reasons for a Captive: Internalize insurance program underwriting profits Unbundle insurance services, reduce insurance costs Access to the reinsurance markets Enhance premium funds, cash flow and investment income Leverage markets, greater control, enhance strategic partnerships Policy design flexibility, specific to insured’s risk profile

The Stage is Set All forms of Captives are subject common attributes: Financial Regulatory Control Flexibility

What is a Captive and Who Uses them? Single-Owner (Pure) Captives - insure only the risks of the owner or the owner’s subsidiary operations (Exception controlled unaffiliated business) Companies with predictable attritional losses (high frequency. low severity) Companies with better than market average loss experience Companies with poor loss experience but committed to improved risk management Companies with uninsured risks Companies that wish to consolidate global programs Companies able to sell insurance products to their customers

Key Financial Considerations Risk retained within the “economic” family Program loss sensitivity Additional fixed costs of captive operations Investment and liquidity Capital commitment (Cash , LOC’s, other) Tax deductibility (paid losses vs. loss reserves) Income and Local Taxes Each Structure discussed contains some or all of these

Typical Design Structures Direct Writing Captive Retain all Risk or Cede Risk to a Reinsurance Partner Reinsuring / Assuming Captive Assumes risk from a fronting carrier or another ART vehicle Retains or retro-cedes to a reinsurance carrier

Captive - Operating as a Direct Writer Insured Capitalization Insurance Premiums Captive Insurance Company (Owned by Insured) Claim Settlements Claimants Shareholder Dividends

Captive - Operating as a Reinsurer Insured Shareholder Dividends Security to Guarantee Reimbursement of Losses Insurance Premiums Policy Issuing Company Premium Less Fronting Fee & Excess Insurance Capitalization Claim Settlements Reimbursement of Losses Captive Insurance Company (Owned by Insured) Claimants

Risk Retention Group An RRG is an insurance entity owned and controlled by two or more non-affiliated organizations insured by the RRG. Homogeneous and insure similar types of businesses risks or Heterogeneous and insure risks of several types of organizations. RRGs in the United States are licensed to issue policies and and operate under the Federal Risk Retention Act of 1986. They are stock, reciprocal or mutual in organizational form.

Association Captive An Association Captive is an insurance company owned and controlled by two or more non-affiliated association insured by the captive. Homogeneous and insure similar types of businesses risks or Heterogeneous and insure risks of several types of organizations. Association Captives in the United States are licensed by a domiciliary state (VT for example) and use a fronting carrier. They are stock, reciprocal or mutual in organizational form.

Ownership Are insureds owners of the entity? In what way and how much? Joint and Several liability? Assessable policy? Withdrawals? Other?

Management and Governance Board of Directors Officers Shareholders Professional Managers Investments Regulatory and Tax Issues State insurance regulation Possible use of a fronting carrier Liability Risk Retention Act of 1986 Financial responsibility laws Tax treatment of group captives Dividend distribution

Service Providers Front carrier (if applicable) Reinsurance (specific and aggregate) Management Underwriting Claims and Loss Adjustment Actuarial Banking Investment Management Auditors Legal Counsel

Benefits Better member service Lack of coverage and capacity fears eased Price no longer total market driven Long term relationship with knowledgeable partners Protection against competition Protection against market instability Profit driven

Captive Forms - Rent-a-captive/ PCC A non-owned facility Clients do not contribute capital but instead rent it from the rent-a- captive sponsor Usually located off shore, e.g. Bermuda, Barbados, Guernsey or Cayman PCC law offers protection to rent-a-captive participants Affordable and quick option for most smaller companies Company selection criteria - cost of risk greater than 1m and net worth greater than 25m

TRIMCO Insurance Company Overview Parent Company - Tishman Realty & Construction Co., Inc. Industry: Construction Hotels and Realty Real Estate

TRIMCO Insurance Company Overview Details of Vermont Captive Licensed - December 2001 Operational - January 1, 2002 Program Structure: Direct Deductible Reimbursement - (Premium 5.0M ) Workers Compensation General Liability No Loss Portfolio Transfer

TRIMCO Insurance Company Overview Key Operational Components Start-up costs 25k Operational/Administrative Costs - 90k annually The Future Program Changes

The floor is open for Questions