What is a Captive?
A captive insurance company is an insurance company formed to insure the risks of its owner, affiliated businesses, or a group of companies. Captives have been recognized as valuable risk management tools, allowing businesses to effectively manage corporate risks of all kinds. Due to the favored tax treatment of smaller captives under Internal Revenue Code Section 831(b), a captive can offer certain tax and estate planning benefits to its owners.
Insuring Through a Captive
Captives can be used to minimize insurance costs and control risk. They can write coverage for risks that are not available, or not affordable, in the commercial market. As part of a comprehensive risk management program, creating a captive can allow the parent to supplement or extend its existing commercial policies and to customize coverage to meet its unique needs. Creating a captive may also help a business lower its commercial premiums by allowing the business to raise its deductibles. In addition, as an insurance company, the captive can buy reinsurance on the wholesale market at rates significantly lower than those available to the operating business.
Because favorable claims experience results in underwriting profit for the captive, a captive provides the parent with incentives for loss control and allows the enterprise to retain premium dollars. A captive also provides the business with greater control over the claims process.
Estate Planning with a Captive
If a captive is properly formed and operated as an insurance company, the premiums paid to the captive are a deductible business expense for the insured. By forming a captive that is owned by a trust for the benefit of the business owner’s family, wealth can be transferred from the business to the family without exposure to gift, estate or generation-skipping transfer taxes. Asset protection benefits also make forming a captive an attractive and powerful estate planning strategy.