A captive insurer is an insurance company wholly owned and controlled by its insureds. The owners of the captive put their own capital at risk while being in full direct control of their parent.
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It is a regulated, licensed insurance company. These are typically designed to self-insure a part of a risk or risks, or a particular line overall. The captive may retain the risk for its own account or purchase reinsurance, accessing the reinsurance markets directly to limit its ultimate exposure for every loss and in the aggregate during that underwriting period. Captives are typically set up as subsidiaries of the corporation.
Sumit Bohra – President of the Insurance Brokers Association of India (IBAI), said that a captive insurer is essentially an insurance company wholly owned and controlled by its insureds. In the aftermath of the 2010 British Petroleum (BP) oil spill in the Gulf of Mexico, a notable captive insurance company drew considerable attention. Reports indicated that BP was self-insured through Jupiter Insurance, a captive insurer based in Guernsey, UK, and could potentially claim up to $700 million in coverage for its losses.”
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“Many IT firms in 2023 were looking to acquire captive technology units from banking and financial institutions in the US and Europe, reminiscent of the 2008 financial crisis. Leading IT companies like TCS, Infosys, Wipro, and Cognizant successfully acquired parts of the captive businesses of major banks such as Citi, ABN Amro, and UBS during the previous crisis. Captives offer a medium to long-term risk management solution, independent of market conditions,” said Bohra.
Although the captive insurance model is relatively new in India, it holds promise for large, dynamic businesses looking to hedge against risk. As the Indian market evolves, we anticipate a rise in captives due to their effective risk management strategies. Companies with good loss experience often find traditional premiums disproportionately high compared to their actual loss rates. For example, a company might question high liability premiums despite having minimal losses over the past decade. As the Indian market grows, captives are expected to gain traction, added Bohra.
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Gurpal Singh Dhingra, Joint MD, Prudent Insurance Brokers, said, “Captives are typically suited to large corporations with extremely robust risk management practices as, in essence, it is a form of self-insurance. The model has existed in the global market but is yet to garner space in the Indian market. Captives can be used to cover risks that are beyond the scope of traditional commercial insurance and are not without downsides or risks if not managed properly. Globally, out of the millions of corporate organizations, there are approximately 6000 odd captive insurance companies, out of which 77% are single-owned and not shared captives.”
How it works
For it to work, first and foremost, they must be allowed by the local regulator. Since 2019, insurance market rates have significantly increased, and other terms have deteriorated, for example, pandemic exclusions, three-figure increases in excesses, and some insurance coverage not available under any terms. Worldwide claims are increasing, which affects the reinsurance market, and this, in turn, keeps insurance rates high in the mid-term. As a result, some of these insurances are not economical to buy in the current market for corporations that haven’t contributed to the losses.
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Amit Agarwal, CEO of Howden India, says, “A corporation with good risk management, which involves a thorough understanding of its losses, reasons for them, current and future exposures, and market volatility, may use a captive to tailor its program to meet the specific requirements and premium aspirations of the parent company.”
How can it benefit the insurance industry?
A captive manager or insurer may create flexibility in program design, which may be an industry first, thus paving the way for others. “With low operating margins, captives can bring efficient pricing to the market. Setting up the captive would mean a deep and thorough analysis of all aspects of business, thus moving the needle from insurance being a last-minute tick-in-the-box to an evolved risk management exercise.” Agarwal said that creating a captive would also mean the retention of premiums within the country.
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“The growth of captives in India presents a significant opportunity for brokers. As more companies explore captive insurance, brokers can expand their consulting services and product offerings to include captive solutions. This shift will enable brokers to provide more comprehensive risk management strategies tailored to the needs of their clients, leveraging the advantages of captives.
This could lead to better Risk management practices although the Government should be aware of the fact that the premium remitted to captive insurers should be as per market rates to take care of tax avoidance,” added Bohra.
Is issuing a captive license a good idea?
Like things, there are always many sides to a situation. “Captives may mean increased competition for insurers, while they may also mean innovation, better product coverage, and premium efficiency for corporations. Then again, even for corporations, forming and running a captive may itself be a risk and would come with associated costs,” said Agarwal.
