Captives for Rent

Companies are flocking to rent-a-captives for risk transfer.

Directory Distributing Associates Inc. (DDA) stopped paying through the nose for workers’ compensation insurance in 1994. Fed up with expensive state assigned-risk pools, DDA rented a captive facility instead–and slashed its expenses by half. “The strategy has driven down our costs and provided more claims control,” says Michael Shelton, CFO of the St. Louis­based order-fulfillment company, which currently has 60,000 employees. “I can finally budget the expense. In the past, I never knew what the next year would bring.”

Renting risk transfer may seem off the wall, but it’s a proven concept that has kicked around for more than three decades. With commercial property-and-casualty insurance prices up 5 to 10 percent this year and headed for further increases, many alternative risk- transfer strategies are being dusted off and reconsidered. Among them is the rent-a-captive.

Think of a rent-a-captive as a mall of stores, with each store representing the self-insurance program of a particular company. The concept is akin to that of a traditional captive–a subsidiary owned by a corporation to insure its own exposures. The difference is that with a rent-a-captive, the corporation doesn’t have to go through all the hoopla of incorporating the captive; it leases one instead.

“A company doesn’t have to come up with the initial capitalization and endure the regulatory legwork to create and fund its own captive, since we’ve already done that for it,” says David Alexander, president of Mutual Indemnity Bermuda Ltd., a Hamilton, Bermuda-based rent-a- captive that represents the insurance interests of 155 active clients.

Rent-a-captives promise pretty much what most corporate-owned captives offer: more control over losses through improved claims management, the ability to garner underwriting profit and investment income on the funds set aside in the facility, and even potential tax benefits. What’s different is that the company avoids the usual accounting and auditing issues, which are handled by the rent-a-captive sponsor.

What do sponsors get for providing capital and administrative services? Most charge a percentage of the premium paid to them; some take a share of the investment profit.

Rent-a-captives have evolved considerably since their debut in the 1970s. Early programs involved the sharing of risk among the individual renters, which was great if your company had a high-loss year, but less great if you had a low one. In recent years, as the competition among rent-a-captive domiciles has intensified, new structures have been unveiled that wall off each company “cell” (the preferred nomenclature for a corporate account) from the loss experience of other cells.

In Bermuda, the seedbed of the captive movement, segregating cells had been legal but difficult, requiring a private act of Parliament. New legislation enacted in 2000 (The Segregated Accounts Companies Act) makes this a walk in the park today, requiring only a simple application process. This has dramatically increased interest in rent-a- captives.

So has, of course, the tightening insurance market. “Applications are up tremendously, and we’re executing quite a few deals,” reports Alexander. In the fourth quarter of 2000, Mutual wrote 16 new corporate accounts, compared with 5 in the same quarter of 1999.

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