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US domicile review
Roger Crombie takes a selective tour of the burgeoning number of US domiciles.
April 2006
Two dozen US States now offer captive insurance facilities. At first glance, given the history of captives, that would appear to be a curious notion. Isn’t captive insurance an offshore concept? The answer is: no longer. Although Colorado was the first US state to permit a form of captive insurance more than 30 years ago, about half the US States now facilitate such business.
Captive insurance has so completely proved its advantages to US regulators that the United States has suddenly become, overall, the leading global jurisdiction for such activity. Part of the reason is that geography plays a part in captive owners’ decisions. In this regard, some of the newer States will perhaps never compete with the market leaders, but such is not their goal. If they can develop a corps of local companies keen to minimise the cost of travel, they will be content to derive a revenue stream and enhance their tax base.
The following review of US captive jurisdictions is not exhaustive. Many States guard their statistics jealously. Some calculate their numbers differently from others. Some States permit captives; others have done better with risk retention groups (RRGs). Some States are open for captive business, but do not as yet have any captives.
What this review does underline is just how widely accepted captive insurance, once considered an “alternative” insurance technique, has become in the country in which the largest number of captives are owned.
Advisen Ltd., in its March, 2006 report on Captive Insurance Company Trends and Developments, cites State legislation creating incentives as the main reason why captives, which were historically domiciled mainly in offshore locations, are now choosing to settle onshore.
Advisen also reports, however, that growth in new captive insurance companies, excluding RRGs and health care captives, slowed in 2005, with the top 10 domiciles reporting less than four percent total growth for the year. Falling commercial insurance rates and expanding insurance capacity were the drivers, Advisen says.
RRGs and healthcare captives are growing more quickly, thanks to the US medical malpractice crisis, an area largely unaffected by the property and casualty market cycle.
Captives typically are formed in response to rising insurance costs or loss of commercial insurance capacity.
Despite the slowing in the rate of captive formations, Advisen says related regulatory activity is continuing at a steady pace. The report notes the Government Accountability Office’s recent recommendation that the National Association of Insurance Commissioners (NAIC) establish a common set of regulatory standards for RRGs, to be implemented in all States.
Finally, Advisen expects 2006 new captive formations to hold steady at 2005 levels, or fall slightly. The report notes, however, that regions or industries most impacted by the 2005 hurricanes may stimulate captive growth in 2006.
US captive jurisdictions fall into three broad categories.
Only a handful has incorporated more than 100 captive companies, with Vermont, Hawaii and South Carolina in the lead. Each is now counted among the world’s major jurisdictions. Although they are not necessarily the longest-established US domiciles, these are the States where captive insurance has really taken off, the powerhouses of the US captive industry.
A larger number of States has more than 20 captive insurers, although fewer than 100. These are the States that have built the infrastructure necessary to enable captive insurance, and whose message has been received.
In some of the newer States, facilities are still relatively small. Not all of these domiciles has a separate budget for captives; not all of them have yet incorporated a single one.
Neither the United States’ Virgin Islands nor Puerto Rico is included in this survey, but both offer captive facilities.
Some caveats: Captive domiciles do not use a uniform manner of counting their captive companies. That makes quoting definitive numbers a potentially misleading approach. A. M. Best counted more than 5,000 captives in formation worldwide at the end of 2005, while Advisen reported a thousand fewer. Further, the jurisdictions are forthcoming in different degrees and as of different dates about the number of captives they have licensed.
For those reasons, the following survey does not cite specific numbers of captives, but aims instead to provide an indicative view of the State’s profile, based on information available from the State.
Finally, the following may not include every State that has passed, or is in the process of introducing, captive legislation.
Arizona
Since the early 1970s Arizona has been a destination of choice for limited purpose reinsurance companies. These companies, known as Life and Disability Reinsurers (LDRs), have enjoyed many of the benefits realised by captive insurance companies. Arizona has licensed about 300 LDRs. The law applicable to LDRs was modified in 1999 when unaffiliated credit life and disability reinsurers (UCLDs) were exempted from the Insurance Holding Company Act. In addition, these reinsurers were exempted from several other provisions of Title 20, which basically made them similar to captive insurers. Of the 300 licensed LDRs, approximately 120 are underwritten in the subset of UCLDs.
The Arizona Captive Insurance Act went into effect on July 1, 2002, since which time the State has incorporated more than 30 captive insurers.
Arizona’s Department of Insurance has responsibility for regulating almost 3,000 insurers. Within that regulatory framework, a separate division solely dedicated to captive insurers has been created and is supported by a staff of professionals averaging more than 20 years’ experience in the industry. Arkansas
In 2001 the Arkansas General Assembly passed Act 1428, which provides for the licensing and regulation of captive insurance companies. The captive legislation allows for several options. American Management Corporation (AMC), a Conway insurance agency, formed the first captive in Arkansas in 2003.
“It just makes sense to give companies the option to set up captives here at home, as opposed to going out of the State or country,” Steve Strange, AMC president and chief executive officer, said at the time AMC Re was formed, encapsulating the argument that many of the States newer to the captive market would espouse.
Arkansas captive law requires portions of captive company assets to be reinvested in bonds and securities. Those investments would be used by the State or local community to support hospitals and other improvement projects. Colorado
Colorado was the first US State to adopt captive insurance, in 1972. The State updates its regulations consistently and regularly. It is home to fewer than 20 captives.
District of Columbia
The District opened its doors to captives in 2004.
Its Risk Finance Bureau regulates captive insurance companies, RRGs, and other kinds of non-traditional risk transfer mechanisms that operate in or from the District of Columbia. The regulator licenses qualified institutions, performs financial analyses, and conducts regular financial examinations to ensure fiscal stability. Delaware
On July 12, 2005, Governor Ruth Ann Minner signed into law House Bill 218, which revised Delaware Code, Title 18, Chapter 69, the State’s captive insurance company law. This was the first substantive revision of the captive insurance law since its enactment in 1984 and was intended to make Delaware an attractive domicile for the formation of captive insurance companies.
Building on Delaware’s existing reputation for business, including access to Delaware’s highly regarded business entity laws and pre-eminent court system, the new Delaware Revised Captive Insurance Company Act provides flexibility to captive insurance companies within a tax-efficient framework, especially for start-up captive insurance companies, and within an appropriate regulatory context.
Delaware had fewer than 20 captive insurance companies at
last count.
Georgia
At December 31, 2004, Georgia reported having 14 captive insurers, the oldest of which was established on June 15, 1991. The 14 had total assets of $387 million, more than double the total a year earlier. Capital and surplus of these companies was $124.6 million at December 31, 2004. Net premiums earned in 2004 were $167.5 million. Hawaii
Since its establishment as a captive domicile in 1987, the State of Hawaii has become the leading captive insurance domicile in the Pacific Rim. With more than 150 captives, Hawaii is the second-largest US domicile. The Risk & Insurance Management Society, Inc. is holding its annual conference, the industry’s largest, in Hawaii this year, underlining the importance of the State to the national insurance industry.
Hawaii captive insurance companies are governed by Chapter 431, Article 19, of the Hawaii Revised Statutes. The State Legislature regularly reviews this code to ensure that it meets the needs of Hawaii’s current and prospective captive owners.
The Statute allows for five classes of captive insurance companies: pure captives (minimum statutory capital requirement of $100,000); pure captives that can be reinsurers and/or direct writers ($250,000); association or risk retention captives ($750,000 or $500,000, respectively); leased capital facilities (protected cells) ($1,000,000); and reinsurance captives, at the discretion of the Insurance Commissioner (capital requirements considered case-by-case).
Hawaii’s captive insurance companies may write both parent-related and unrelated business on a direct and/or reinsured basis. The classes permitted are casualty, auto, marine, property and surety, although other lines may be allowed upon application to the Insurance Commissioner.
Hawaii is believed to be the only domicile that specifically allows the formation of not-for-profit captives. This can bring tax efficient benefits to many healthcare and educational institutions.
The Hawaii Captive Insurance Council (HCIC), a non-profit corporation since 1991, is committed to promoting, developing, and maintaining a quality captive insurance industry in the State of Hawaii. In partnership with the State of Hawaii Insurance Division, the HCIC provides information and education on issues affecting captives, and assists the State of Hawaii in promoting Hawaii as a quality captive domicile on the local, national and international level.
Illinois
Illinois’ efforts to make the State a friendly environment for the alternative market are assisted by the Illinois Captive & Alternative Risk Funding Insurance Association (ICARFIA), which also seeks to make Illinois the domicile of choice for captives and others involved in the alternative risk transfer marketplace.
Illinois boasts several unique features in its regulatory environment for both captives and RRGs.
Any domestic, foreign or alien stock or mutual company may reorganise in Illinois as a captive insurance company or a commercial insurer. Onshore and offshore captives may redomesticate and still maintain their original date of incorporation. Stock companies are required to have $1 million in capital and $1 million in surplus. A mutual company must show $2 million of surplus. Captives may provide stop-loss insurance or reinsurance of a single employer, and may operate a self-funded disability benefit plan or an employee welfare plan. Illinois captives may reinsure employer’s liability risks.
As permitted by Federal law, if an RRG is admitted in Illinois, it may underwrite risks in any State. Because Illinois is an accredited jurisdiction under the NAIC accreditation program, once an RRG meets Illinois criteria, its financial information will be acceptable in all other jurisdictions.
As of July 1995, RRGs must be organised under Illinois’ Domestic Insurer legislation, rather than Illinois captive law. The Federal exemption does not apply to association captives, as opposed to RRGs. If the RRG wishes to retain its federal authority, it must provide the same organisational capital and surplus as a domestic insurer and cannot use letters of credit for capital.
So far, Illinois is one of the smaller captive States. Iowa
Iowa has led the way, with others, in the development of RRGs.
It currently has almost 100 in operation.
Any insurer who wishes to qualify as an RRG under Iowa Code section 515E.4 as a non-admitted insurer must make an application to the Commissioner, which contains, inter alia:
• a statement identifying the State or States in which the RRG is chartered and licensed as a liability insurance company; its date of chartering, principal place of business and information on its membership;
• a copy of its plan of operations or a feasibility study; and
• a statement of registration designating the Commissioner as its agent for the purpose of receiving service of legal documents or process for which a filing fee set by the Commissioner shall be paid. Kansas
Kansas facilitates both captives and RRGs, and would fall into the third category of jurisdictions, with fewer than 20 captives in formation as yet.
Kentucky
In an effort to provide fiscally responsible insurance alternatives and to promote economic development within the State, Kentucky’s General Assembly passed several new laws during the legislative session in 2000, including State Bill 245, which authorised the creation of captive insurance companies within the authority of the Kentucky Department of Insurance.
Kentucky has a long history of foreign captive involvement, with the most recent spike in activity occurring during the late 1990s. Many self-insured group funds, recognising the difficulty of competing with carriers in a soft market and reluctant to participate in the required guaranty fund or be subject to the continued monitoring, converted their programmes to the voluntary insurance market using a fronting arrangement with an offshore captive. Fronting arrangements, through use of an admitted carrier, continue to be guaranteed by the Kentucky Insurance Guaranty Association (KIGA) in the event of default, thus ensuring the continuation of benefits to injured workers.
A Kentucky employer may form a captive insurance company for purposes of providing workers’ compensation insurance for itself and its subsidiaries or affiliates. KRS Chapter 304.49 permits a captive insurance company to write coverage directly, provide excess coverage for the employer’s current policy or plan, or provide low loss coverage for a high deductible policy from the standard commercial market. Captive insurance companies are licensed and regulated by the Executive Director of the Office of Insurance. Maine
The Financial Analysis and Alternative Risk Markets work unit is responsible for reviewing captive insurance applicants, surplus lines applicants, multiple employer welfare arrangements, and continuing care retirement centres as well. Due to the analytical expertise of staff, the work areas often provide financial information support to other work units in the Maine Bureau of Insurance.
Montana
Montana authorised the formation of captive insurance companies in October 2001. The State licensed its first captive early in 2002 and its second and third in the fall of that year. As of October 2005, Montana reported 12 captives.
Nevada
Since its captive legislation was passed in 1999, Nevada has licensed more than 60 captives, not all of which are still in operation. The 2005 legislature passed legislation (AB 338), signed into law by Governor Kenny C. Guinn, which expands the range of businesses authorised to form a captive in Nevada.
Nevada allows a broad range of captive companies, including pure captives, association captives and rent-a-captives. It is believed to be the only State to allow agency captives. Nevada permits owners to form captives elsewhere and be licensed in Nevada. New York
Signalling a watershed change in insurance regulatory policy for New York, Governor George E. Pataki signed legislation in 1997 authorising the formation of captive insurance companies in the State. Under the terms of the measure contained in a massive tax reform package, Chapter 389 of the Laws of 1997, New York allowed captive insurers and their managers to operate free from most regulatory restraints, starting on January 1, 1998.
In 2003, Governor Pataki and New York City Mayor Michael R. Bloomberg announced legislation that would allow a wider range of businesses the opportunity to use captive insurance companies to retain, fund, and better manage some of their risk. New York formed its first group captive late in 2003.
The new State captive legislation provided a new risk transfer vehicle, known as a sponsored captive insurance company, which permits various participants to use the same vehicle to self-fund their risks. The bill in addition, created additional flexibility by lowering the threshold for businesses to form single-parent captives and to participate in a group captive. As well, public entities that meet appropriate standards were permitted to form captives.
New York falls into the middle category of States offering captive insurance, with more than 25 on its books. Rhode Island
Rhode Island has proved attractive to RRGs, especially those formed by professionals. At March 14, 2006, Rhode Island had
62 RRGs.
South Carolina
Act 331, signed by Governor Jim Hodges on June 6 ,2000 established South Carolina as a captive insurance domicile. South Carolina Code of Laws Title 38 governs the State’s captive industry. RRGs formed as captives are governed by 15 USC 3901-3906.
In its report, Advisen pointed to South Carolina as the most successful new domicile. The State attracted 21 new captives and RRGs in 2005, Advisen reports, and now stands behind only Hawaii and Vermont as the third largest US domicile.
South Carolina also enacted protected cell legislation in 2000.
Acceptable insurance subsidiaries include: pure or single-parent; association; captive reinsurance company; sponsored captive insurance company; special purpose captive insurance company; and industrial insured captive insurance company. South Dakota
South Dakota is another among the third group of States that permits captive insurance, but has not yet registered more than
20 captives.
Tennessee
Tennessee also permits captive insurance and RRGs and is as yet in the third category of smaller jurisdictions.
Texas
Texas’ Insurance Code, Article 21.54, provides the requirements for registration of RRGs. As Texas does not accept the NAIC registration forms, the State has designed its own forms.
Texas is another in the third category of up-and-coming jurisdictions. Vermont
Vermont is the US market leader, with about half of all US captives domiciled in the State. Advisen notes that Vermont has lost market share as the other domiciles have opened their doors, and also reports that, by its yardstick, the combined captive domicile count of all other US domiciles now slightly exceeds that of Vermont. That statistic should not be taken to reflect badly on Vermont; it has never stopped growing as a domicile. Rather, if imitation is the sincerest form of flattery, Vermont would be justified in taking a “glass half full” view of the development of the US captive industry.
Vermont was among the very the first to recognise the importance of a specialised, knowledgeable staff of professionals dedicated solely to captive insurance regulatory matters. In 1981, the State realised the potential benefits of attracting captive insurance companies and passed a Special Insurer Act, providing the appropriate regulatory and taxation environment. The objective of the legislation was to establish a business-friendly climate for companies forming captive insurance operations in Vermont.
In 1993, the Vermont legislature passed a bill reducing premium taxes by as much as 75 percent for captive insurance companies, and four years later the legislature passed an amendment to the 1981 Act that allowed pure captives to insure controlled unaffiliated businesses and allowed them to be formed as reciprocal insurers.
Further legislation was enacted in 1999 and more has followed, to ensure that Vermont keeps up with changing commercial needs.
Vermont’s success has provided the model that many other States have adopted.
Virginia
Virginia has recently passed legislation enabling captive operations, and joined the growing list of domiciles. West Virginia
West Virginia Senate Bill 428, authorising the formation of captive insurance companies, became effective on June 11, 2004. The Bill authorised the formation of different types of captives, which had not been previously permitted in West Virginia. The Bill also established minimum capital and surplus requirements for each of the different types of captives authorised.
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