firms that are run by lawyers, as a result of which our lawyer clients feel comfortable with them. Also on the high end you have firms that are run by accountants, as a result of which our clients who are most comfortable with accountants tend to choose them. One advantage of these high end firms is redundancy; if the person to whom you were speaking yesterday is not in when you call, there are two people who can continue the conversation without a loss of time or substance. In between the two extremes are several “aggregators”. These are firms that indicate that they will help you with a captive, but actually do little or none of the work in-house. They subcontract out all of the actual work, e.g., actuarial, accounting, management. At the lowest end of the cost scale are firms that we would liken to “sole practitioner” lawyers or accountants. They may well have nice operations, but there are few frills and no redundancy.
about their other insurance policies. The actuarial firms then engage independent underwriters (there are far too few of them) and brokers to help ensure that the premiums scheduled for specific risks make sense in the marketplace. After all, the data derived from carriers and customers cannot, by definition, cover all of the risks that are being provided by captives. By their very nature many of the risks provided by captives are not being routinely sold by commercial carriers. Even though the premiums make sense in the marketplace, that does not mean it is reasonable and necessary for that particular operating business to insure all of those risks (and pay all of those premiums). (This relates to Internal Revenue Code Section 162.) Almost invariably each candidate for a captive will be told that there is $1,200,000 of premium that is available, divided among a number of risks. (See the examples below for (i) a writer/producer and (ii) a physician.)
PHYSICIAN $275,000
Loss of business revenue due to excess malpractice covering liability not covered by the named insured’s primary coverage
$200,000
Loss of revenue due to loss of license to practice medicine
$100,000
Loss of business revenue due to loss of hospital privileges
4. Are the premiums (i) appropriate in the market and (ii) reasonable and necessary?
$ 70,000
Loss of business income resulting from loss of relationship with a significant referral resource
$ 60,000
Reimbursement for costs and expenses incurred in connection with tax audit defense or tax controversy
The IRS is concerned, of course, with the operating business’ deduction of the premiums. The first concern is whether the premiums are based on the market place. (This relates to Internal Revenue Code Section 482.) It is not enough to be told that the premiums were determined by actuaries: actuaries are not underwriters, and underwriters are the ones who price policies. Captive managers typically hire actuarial firms to help them price the policies. The good actuarial firms input data from the market place, e.g., the rate sheets that carriers supply to each state’s department of insurance and the information that each captive manager gets from its own clients each year
$ 50,000 Reimbursement for damages, civil penalties and costs to defend HIPAA violations $ 50,000
Loss of business income due to federal or state legislative changes including workers comp insurance law changes and changes in reimbursement rates
$ 25,000
Loss of business income and expense reimbursement due to computer system failure due to detrimental code
$ 25,000
Reimbursement for time lost and out of pocket expenses incurred to support litigation counsel in medical malpractice matters
$ 10,000
Reimbursement for necessary costs to repair or replace personal and laptop computers; cellular phones; and other similar equipment
$815,000 Total
5.Who will own the captive? As indicated earlier, there are three primary models for ownership in the “wealth captive” world. If the owner is either a children’s trust or a dynasty trust, then the bundle of advantages of the captive structure include the following: (i) deduction by the operating business; (ii) tax free receipt by the insurance entity; (iii)
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The Self-Insurer
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September 2013
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