After 23 consecutive quarters of increasing premiums, businesses are experiencing rate fatigue, causing them to purchase lower limits, increase deductibles, increase market limits and, ultimately, evaluate alternative financial structures, according to industry experts.
Convenience retailers and insurance professionals met in Philadelphia late last year for CSP’s Captive Insurance Forum to share insights about one such financing alternative—captive insurance.
Captive insurance is an insurance company formed by a retailer or other business to insure itself, and their use is on the rise. About 90% of Fortune 500 and S&P 500 companies currently use captive insurance compared to less than 50% in 2000.
Getting Started
While captive insurance is costly upfront, long-term benefits include strategic design of how the company is covered, accelerated tax deductibility, access to the reinsurance market and the accumulation of surplus—the money that remains after an insurer's liabilities are subtracted from its assets—to finance additional risk exposures or growth of the business, according to the Graham Co., an insurance brokerage and consulting firm based in Philadelphia. Depending on the type of captive program, there also may be tax advantages. For example, an 831(b) captive insurance program, as named by U.S. tax code, is only taxed on the investment income generated, and not underwriting profits.
“If you’re able to get 10% back that’s going to your bottom line, it’ll make you more competitive,” said conference speaker Blair Garland, captive practice leader at the Graham Co. “It’ll make you a financially stronger company subject to less volatility in the market. It’s going to make you better than competitors.”
Steve James, CFO at OnCue, a 75-store chain based in Stillwater, Oklahoma, added, “A dollar saved [with captive insurance] is a whole dollar saved. A dollar sold in the store is only a 20-cent profit.”
- OnCue is No. 93 on CSP’s 2023 Top 202 ranking of U.S. convenience-store chains by company-owned store count.
Captives are helpful when the commercial insurance market is unable to provide coverage for certain risks because under a captive plan, companies can choose exactly how and what they want covered.
“That’s what’s so nice about captives,” said Tom Glavin, vice president and director of risk management at Gate Petroleum Co., Jacksonville, Florida. “You can write your policies the way you want them. If you want to put an aggregate limit of $2 million for workers comp in that year, do it. Basically, you can customize your policy language.”
Companies can use captives to fund current retentions, take layers off the excess tower placement and write a difference-in-conditions policy to fill gaps in coverage or common exclusions. It also allows for organizations to provide insurance coverage for customers (warranties) and employees (certain benefits), which helps generate new revenue and profit streams while providing value to stakeholders.
A captive program is designed not only to solve a problem today, but also to evolve and keep helping the business, Garland said.
“If you’re able to get 10% back that’s going to your bottom line, it’ll make you more competitive”
Types of Captives
The three levels of captive insurance include single-parent, rental and group programs.
- Single-parent captives, the most controlled type, are wholly owned, take nine to 12 months to start up and require an annual insurance spend of $5 million or more.
- Rental captives are a middle ground, where companies rent a space in a captive owned by someone else. They take four to six months to start up and require $1.5 million to $5 million in annual insurance spend.
- A group captive provides the least control of the three but more than traditional insurance. It takes three to four months to start and requires $500,000-$1 million in annual insurance spend.
When forming a captive insurance policy, retailers should consider involving an insurance broker, captive consultant, captive manager, actuarial firm, accountant and an attorney.
Creating a Captive
To begin, retailers must become educated on the topic, ideally with help from an insurance consultant.
One fear common among conference attendees was squashed when they learned that retailers don’t have to be experts in captive insurance; they just need to have the right expert in place.
With help from a consultant, the next steps include developing a mission and vision, reviewing programs and identifying risks to be financed.
The next phase includes selecting a domicile—where the captive agent is located—and professional partners, and then submitting a business plan application to regulators.
Retailer Point of View
Of the approximately 20 retailers who attended the Captive Insurance Forum in October, only one already had a captive insurance model in place—Gate Petroleum Co., which owns several business interests including a convenience-store chain of 72 units.
- Gate Petroleum is No. 102 on CSP’s 2023 Top 202 ranking of U.S. convenience-store chains by company-owned store count.
Gate Petroleum entered a captive insurance model 21 years ago with a single-parent captive called an 831(b), which is a small captive, said Glavin.
“We just dipped our toe into it initially, and then, pretty quickly we found out that this was a good alternative risk strategy,” said Glavin. “It provides you flexibility. Within a couple years, we said, ‘This is really a great tool. It’s a legitimate insurance company and a great risk tool.’”
Twenty-one years ago, he said, the advantage to having that small captive was that the premiums the company would pay to the program were deductible on the income tax return.
“The 831(b) structure is only taxed on the investment income, not on their operating income,” said Glavin. “The captive allows us to take higher retentions in the market, thus reducing our premiums. We typically use our captive for deductible buy-downs.”
Gate’s captive covers five common exposures: general liability, workers comp, automobile liability, physical damage and property.
Gate Petroleum is considering transitioning its captive to a larger model that would allow it to increase the amount of premiums and exposures in the captive, said Glavin.
“One of the reasons we would do that is because there’s a hard market in the insurance world. As a company, we are doing everything possible to keep claims down with a strong loss prevention program and low claims history. Then, the insurance carriers are charging a lot of premium for those coverages, and we’re not getting the value for our efforts,” he said. “The captive allows us to get a little creative and possibly move some of that coverage into the captive rather than pay a high dollar premium for it.
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