Captives and global programmes

In today’s global marketplace where companies are operating from Azerbaijan to Zambia, having a centralised way to keep a handle on the myriad risks they face can deliver real benefits. For risk managers, a captive insurance company is a useful tool to coordinate an international insurance programme and to derive some tangible cost savings, while gaining a global picture of risk. A desire for innovation was a key driver in the development of captives. As Matthew Latham, head of captive programmes at XL Catlin, explains, risk managers are once again exploring ways to use their captives to manage new and evolving exposures.

How can a captive be used to benefit clients with global insurance programmes?
These days, most companies operate internationally. And for many, a centrally coordinated global programme is proving the most efficient way to manage their risks across multiple territories. Using a captive as part of this risk financing strategy can be an efficient way for them to retain some of their risks and get a real handle on controlling their losses. Owners can take truly meaningful retentions at the parent level – rather than at the local level. And this gives them a much greater transparency of their cost of risk – globally.

How can insurers help buyers make the best use of their captives?
Working with an insurance partner from the start can help clients to put together a truly multinational programme. In many territories, captives are not able to issue policies directly. An insurer with an ability to issue local policies through their own offices or, where they don’t have their own offices, network partners, can deliver a global programme. This ensures clients have compliant local admitted policies, where they need them, and a master policy to supplement that local coverage where needed.

Are owners exploring writing new risks within their captives?
Talking to risk managers has shown us that many are already, or are considering, expanding the range of coverages written in their captives beyond standard property and casualty risks. For example, a study of UK risk managers that we carried out back in 2015, showed us that 71% were considering writing new lines of business in their captives within the coming 18 months. This bore out what we had been hearing anecdotally and what we continue to see today.

As well as lines of business such as employee benefits, many clients are looking at writing risks such as cyber, trade credit, environmental or non-damage business interruption via their captives. Not only are buyers able to get coverage for risks which they may not feel are adequately covered in traditional markets, writing more business in a captive means that, should a large or unexpected loss occur, there is more premium within the captive to cover that.

What impact has Solvency II had on captives that are used in global programmes?
Solvency II, which applies to captives in EU domiciles, has meant that some captives are now subject to heightened governance and reporting requirements, as well as increased capital requirements. This has prompted many captive owners to explore the benefits of writing more lines of business via their captive. The diversification of writing non-correlated business within a captive not only spreads the risk across a broader portfolio – the captive no longer has all its eggs in one basket as it were – it can also deliver real capital efficiencies under Solvency II. This is one of the major drivers of the trend we have observed of captive owners seeking to write a wider portfolio of risks within their captive.

The Organisation for Economic Co-operation and Development(OECD) in 2015 issued guidance on base erosion and profit shifting (BEPS) to try to make sure that companies are not exploiting gaps in rules to artificially shift profits to low or no tax jurisdictions. How might this affect captives that are used in global programmes?
The BEPS guidance is not specifically aimed at captives. But the OECD did express concern that some companies might be using their captives as a tax avoidance measure – for example by charging higher premiums than are required to subsidiaries in high tax areas and moving the premium to a captive based in a low tax domicile to reduce their tax liabilities. It is extremely important that risk managers understand these issues.
The OECD’s guidance states that companies must be able to demonstrate that arrangements are driven by “clear non-taxable reasons” and that there is governance and substance in place. Tax authorities may ask why an offshore jurisdiction has been chosen for a captive, and risk managers must be able to give a satisfactory answer.

What can risk managers, their insurers and brokers do to make sure they are adhering to the guidelines?
While insurers do not give advice on the structure or governance of captives, where we can help clients is by benchmarking to ensure that the premium the captive is charging is a fair commercial market premium. And risk managers should work with their advisers to make sure that they can show their captive has a robust governance structure in place.

Contributed by Matt Latham, head of captive programmes, XL Catlin