If your lawn or landscape company is operating safely and efficiently, it can be frustrating as your insurance rates continue to rise despite your lack of individual claims.
One alternative to traditional insurance is to participate in a captive insurance program. In a traditional insurance model, businesses purchase policies from independent carriers, and then the carrier manages their claims and losses based on deductible or no-deductible levels.
“A captive program would be an alternative way of looking at that, where either a group of businesses or an individual company uses a third-party captive manager and they essentially form their own insurance company and purchase insurance on particular lines for themselves,” says Drew Garcia, vice president of Rancho Mesa Insurance Services. “The structure of that captive can vary based on the needs of the group.”
While people tend to use captive insurance and self-insured interchangeably, Garcia says there is a difference between two.
“Captives are a wholly owned subsidiary that is generally providing insurance back to the group that owns it,” Garcia says. “Simply put, self-insurance would be a company saying, ‘We’re going to take on the first “X” dollars of any claim.’ Generally, this underlying limit would begin at $500,000 or more and then we’re going to purchase reinsurance from a carrier for claims that exceed this underlying limit. Basically, we’re self-insured up to the underlying limit and then we’re using a reinsurance carrier to cover the loss that exceeds that underlying threshold.”
Captive insurance’s popularity ebbs and flows with the market. Garcia says when insurance rates firm up, companies begin to seek alternatives to help in controlling those rising costs. In many cases, this involves evaluating “loss sensitive” options like captive insurance programs where members take on some additional risk but gain more control over their entire insurance program. He says that typically the companies entering group captives are very safety-conscious and willing to bet on themselves.
“You’re not really subject to the ebbs and flows of the traditional market because you’re now not really lumped in with everybody buying insurance altogether; you are really just buying insurance with a group of 100 or 200 other companies,” Garcia says. “The stability that brings is normally a little bit less volatile than the traditional market can be.”
How many companies make up each captive varies. Garcia says if a captive gets too big it can lose what people like about captives and the relationships that are forged, so it’s really up to the members of the captive to determine the ultimate size and make-up of the group.
The normal lines of insurance that go into a commercial captive are workers’ comp, auto and general liability.
There are two types of group captives: homogenous and heterogeneous. Homogenous group captives are made up of the same type of businesses, for instance, all tree care companies. Heterogeneous group captives can include businesses from all types of different industries.
Garcia says that captives could fit any type of operation, but commercial maintenance companies are probably the most preferred captive risk because there’s not a lot of severity in their work beyond their auto exposures.
“Once you bring in snow and ice or elevated tree service into your operations, it will increase the risk of a severity claim so that has to be considered when evaluating the captive option,” Garcia says. “There are still some captives that could be a fit, but I think it does start to limit you a little bit.”
Garcia says captives are typically structured with two different funds. One is a premium set aside for your individual frequency, what the captive actuary thinks your actual claims will be on a frequency basis, and the other fund is for group risk sharing.
He explains that you are still pre-funding your premium so there is no cashflow advantage to a captive as you’re still anticipating a loss.
Things to Consider
Group captives typically perform very well so you don’t have those big jumps in insurance rates.
“That’s where the interest comes from normally is somebody saying, ‘We don’t have any claims. My carrier’s making a ton of underwriting profit on our premium every year,’ or they’re saying, ‘Normally, I’m not having any claims and I’m still having these increases. What are my other options?’” Garcia says. “This is where a captive option becomes a natural next step for a middle-market size of business.”
Because you don’t have to subsidize poor performers, the main benefit of being in a group captive is the predictability, as there normally aren’t huge ebbs and flows with rates as with traditional insurance.
“What differs from the traditional marketplace is at the end of the year, if there wasn’t group sharing cost, or you didn’t use up all of your funds, then there’s an opportunity to get some of that money back in four or five years when that underwriting year closes out so you could get that underwriting profit as opposed to that going to the carrier,” Garcia says.
He says there’s also the added benefit of networking with other like-minded, safety-focused businesses in the captive.
Being in a group captive includes taking on the risk of the other member companies in the captive. As a part of the group captive, there is risk sharing between the members. So if one member generates more claim costs than expected, there may be an assessment to the other group members, which is paid on top of the premium that was already pre-funded. As an individual company in a captive you may also be subject to additional assessments if you use up all of your loss funds.
“If somebody’s not performing well, then the captive and captive managers will create action plans for those members to hopefully make those changes and improve,” Garcia says. “If improvement does not happen then the captive can ask the business to exit.”
Because of this, captives are very selective about who can join and are looking for the right fit. Garcia says captives like to look at a company’s loss pick, which is an actuary’s estimation of future losses based on previous trends.
The collateral requirements will be something to consider. Captives have collateral requirements of either cash or a letter of credit to show your company’s stability and ability to pay for claims.
Advice for Others
If your business is nearing the time when they would be considering shutting their doors then entering into a captive now might not be the best choice. Garcia says you need to consider your runway as group captives are more of a long-term play.
“Just be diligent in the process of evaluating the captive, and take your time,” Garcia says. “This isn’t something that your insurance renews in 90 days or 60 days and you’re just going to go for it. It’s probably at least a one-year process. Learn about it; meet with a captive. Most captives have a captive manager.”
Garcia says that the captive manager handles the day-to-day aspects of the captive and facilitates it on the behalf of the members.
He says that if you do $10 million or more in commercial maintenance revenue and your premiums are over $150,000 annually, it could make sense to look at other insurance options. He suggests companies considering captive insurance look at their premiums versus claims for general liability, auto and worker’s comp for the last five years.
“Just line up the total premium paid for each of those lines, total claim cost incurred for those five years and they can basically do their own little performance review,” Garcia says. “How did they do?”
Look at total annual audited premium in each of these years versus the total incurred claim cost. If your premium paid constantly far outweighs the claim cost incurred, then your business has performed well.
