Captive Insurance Companies

Created by a business owner or a company to incorporate its own insurance subsidiary, i.e., the insurer is captive to the policyholder.

  • Pure captive: the captive insurance company insures own its parent and affiliates.
  • Homogeneous captive: the captive insurance company insures one type of industry.
  • Heterogeneous captive: a captive insurance company insures a group of diverse companies.

Captives often have co-directors: one experienced in captive management, formation, licensing, and ongoing services, and one experienced in general business financial matters.


  • With a captive or risk retention group, you stabilize coverage for your specific exposures while participating in the underwriting profit and investment income.
  • You control the processing of claims, have flexibility with policy provisions, and gain special cash flow advantages.
  • Gives you an excellent tool to help manage risk and control costs.


The formation (incorporation) and licensing process comprises two elements: the structuring of the captive and application for admission to the state of domicile.


  • The process should start with risk and insurance.
  • Assess the viability of a captive or risk retention group.
  • Prepare, submit, and monitor application to domiciliary regulators.
  • Identify service providers, such as auditors, actuaries, attorneys, and bankers, and act as a liaison with them and with regulatory authorities.
  • Consider domicile alternatives, captive structure, retention levels, and capitalization.
  • Estimate initial contribution, reinsurance and excess insurance placements.
  • Access both brokered and direct reinsurance markets.
  • Establish investment management guidelines and protocol to monitor performance.
  • Design and implement client-oriented accounting and insurance recordkeeping, control, and reporting procedures.
  • A captive could be a good vehicle to comply with Obamacare (i.e., more than 50 employees).

 Ongoing Compliance

  • The captive should be built on a solid foundation, with legitimate insurance coverages.
  • Regulatory compliance.
  • Financial reports, including annual and quarterly statements, periodic and statutory financial statements and underwriting, statistical, and management reports, tax returns and other required filings.
  • Home office and a local director, if required.
  • Policy documentation.
  • Directors’ and Shareholders’ meetings, and meeting materials.

 What to consider:

  • If you exceed annual captive contribution of $1.2 million, you create taxable income, under IRC 831(b).
  • There must be a valid reason and purpose: a policy that has been issued that requires a premium payment into the captive, so the program satisfies the letter of the law regarding real insurance.
  • There are investment restrictions, just like there are for insurance companies – what would be generally accepted for insurance companies.
  • There should be a real insurance business risk transfer and risk distribution happening for the company, and then the captive would only pay taxes on its investment income.
  • The captive business should be conducted like an insurance company; assuming real risk in exchange for a reasonable premium and for a legitimate purpose.
  • For deductions under IRC 831(b) to withstand IRS scrutiny the tax deferral advantage should not be the primary driver: the captive should be built as an insurance company, not as a scheme to reduce taxes.
  • After year one, and there is a conservative track record, the manager of the captive could consider being a bit more aggressive.
  • All investments are subject to approval of the Department of Insurance.
  • A captive could be domestic – certain states are set up for it (including Arizona). In Arizona’s regulatory framework, a separate division solely dedicated to Captive Insurers has been created and is supported by a staff of professionals.
  • Organizers of captives recommend participating in a “pool” creating risks other than your own. This creates a dangerous upper level:  should just a couple of the coverages in one of the programs be challenged it could literally take down every one of the captives that share that questionable coverage’s risk.
  • Pools rarely, if ever, accept medical risks.
  • There are setup and annual costs.