5 Key Elements to Group Captives
Workers' Compensation Insurance Option: Captives
For some staffing companies, group captives are one type of workers’ compensation insurance option worth exploring. It can be an effective means to come together and benefit from risk sharing and greater purchasing power, especially during a difficult market cycle. If properly structured, captives can reduce total cost of risk, improve cash flow and provide income tax benefits. But group captives are not for everyone – one should carefully consider both the benefits and pitfalls prior to applying a long-term commitment to a short-term issue.
There are many types of group captives. Captives are generally classified as either homogenous (open to only members of the same industry) or heterogeneous (open to members from a variety of industries). Generally, workers’ compensation is the dominant (and sometimes only) line of coverage insured through the group captive scheme.
Five Considerations to Note
Following are several key elements to consider prior to joining a group captive:
- Risk Sharing – All group captives have an element of risk sharing with each member. Prospective members should understand the amount of risk being shared on an individual basis as well as the magnitude of risk retained on a group basis.
- Assessments – As a member of a group captive, the captive is able to assess its members for underperformance. It’s critical to understand the timing and ultimate liability of assessment potential – from a member’s own loss experience and from other members’ adverse experience.
- Ultimate Cost – Many of the cost components are unbundled, but aren’t completely known upfront. It’s important to understand all of the costs, including tail fund for commuting older policy years, bankruptcy of a member and members’ assessments – among other items.
- Total Security – Members of a group captive are usually required to post security at a level approximately 140% of estimated ultimate losses. In a traditional deductible or retrospective program, policyholders post security at approximately 100% of estimated ultimate losses. This higher security requirement will continue for 3-4 years.
- Exit Strategy – Exiting a group captive is more complicated than changing commercial insurers. The group captive should clearly articulate the process and provide an algorithm on the financial mechanics of leaving the group captive. This should include a full understanding of how open claims, loss development, timing, assessments and buy-out penalties fundamentally work. Ideally, a predetermined exit calculation with stated factors should be provided.
Prospective members of a group captive should consider all issues associated with entering a group captive and base the decision as a long-term commitment, not simply a reaction to cyclical commercial market condition(s). As part of that decision, prospective members should fully understand the financial mechanics and operational requirements, including what the exit strategy looks like. Without a predetermined exit strategy a member could be made to feel as though they are being held captive by their group captive.
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