ARE CAPTIVES REALLY CHEAPER?

TRANSCRIPT

[Bruce Silverman] Hello, everybody, and welcome once again to another edition of "Managing Risk for Tomorrow, Today." And today, we have Adam Perea. He is the Vice President of Elite Risk Insurance, you can reach out to Adam at 602-882-1213, and aperea@eliterisk.com. And the website is eliterisk.com. Adam, good to see you again.

[Adam Perea] Hey, Bruce, I appreciate you having me back.

[Bruce Silverman] Hey, it's your show, I'm just along for the ride, right? Let's jump right into it, we're gonna get right back into a topic that we talked about on previous episodes that you are very, very familiar with. And it's something that Elite Risk does very, very well. And that's captives. And let's really break it down our captives really cheaper?

[Adam Perea] Well, you know, I think you can use them as a strategy to lower your total cost of risk. You know, given the current market we're in right now, what we're getting is a lot of people calling, because they've been told or from what they've read, that you can buy cheaper insurance through a captive, and, you know, in most cases, that's just simply not true.

[Bruce Silverman] Why do you think that there's that misconception?

[Adam Perea] You know, historically, the way captives were used for a lot of businesses, you could just buy cheaper insurance through your captive, but it was very specific kind of lines, right? There are times where the commercial market may be overcharging. And you go to an actuary and say, Yeah, you know, based on your individual company, or company's risk profile, I think you can buy it for, you know, a cheaper amount and into your own captive. So if you're going to self insure it, if you will. But for the most part, you know, that's, that's things like maybe administrative actions or reputation risk, some of that stuff might not be available in the commercial market.

But I think, you know, there was a misconception that you can just buy it cheaper from your own captive. And what we run into is people don't realize that when you're self insuring and taking into a captive, you now are responsible for the entire risk, right? So if you're buying a million dollars of coverage in the commercial market, you can simply go somewhere and say, Hey, how much do you charge me for a million dollars of coverage, and they can say, hey, you know, it's gonna be $3,000 for a crime policy, or $50,000. For a GL policy? Well, they've got a pool of clients behind them, that have all paid premium. So they have this giant pool of premiums and surplus, that they can charge you $50,000 for a million dollar policy. So they're spreading the risk amongst all their clients.

The fact of it is when you get into your own captive, it's now you. So there are risk pools that you can participate in, that you can lay off a defined amount of risk. But at the end of the day, you still have to be responsible for that claim. So it's, it's not just, can I pay less premium to my own insurance company? It's, do I have it structured properly. So in the event, I have a loss, I can actually pay it.

[Bruce Silverman] So how can people, just to refresh everybody's memory on this, create their own captive?

[Adam Perea] So there's a sometimes a lengthy process that we go to, right, so we will take all of their data, usually, it's copies of current copies of their policies, and their loss runs and some of their, you know, maybe their safety protocols. And we can really dig into it and look at what they're paying to the commercial market, versus, you know, what we might be able to do in a captive. So there's a process where you say, Hey, should I should I take on more risk? Or should I pass that risk off to the commercial market? And folks don't often realize sometimes it's cheaper to pass most of that risk on through risk transfer to the commercial market. So for example, if you're, let's just say you're paying $200,000 for a GL policy in the commercial market, right, a million dollars of coverage. It might be better for you to take larger deductibles and see how much premium you save and then self insure that versus, you know, if I'm going to take that whole million dollars into my captive, if I charge myself $200,000 Now I have to have the capital or other premiums in that captive to pay that full loss.

[Bruce Silverman] And that's something that obviously Elite Risk, sits down talks to their clients and breaks it down shows them In all the different options so that the businesses can make the best decision for themselves.

[Adam Perea] Sure, so so when I get folks that have the call us or reach out to us that are looking for cheaper insurance, you know, we talk through what that really means. So, cheaper insurance, sometimes we get calls, people are just looking for lower premiums, right. So that's not necessarily the only way to have cheaper insurance, we focus on a lower total cost of risk. So at the end of the day, you may be spending a million dollars entirely on your commercial program. But what we do is try to show you how you can keep more of that premium and underwriting profit. So are you are you getting cheaper insurance? By definition? Yes, at the end of the day, if your total cost of risk is cheaper or lower? Are you getting cheaper premiums? Not necessarily, because you're still going to have that same initial cash outlay? And it's not like, hey, if I'm taking that risk, I don't have to pay that premium, you still have to pay it to yourself. The upside is you're not kissing that money goodbye every year.

[Bruce Silverman] What are, you know, we talked a little bit about the misconceptions with captives. But what is it about captives that people truly, truly don't understand? I mean, there is that you're insuring yourself there is that you have to pay out your claims, but there's a lot more to it as well.

[Adam Perea] There is you know, I mean, a captive, really, you're starting your own insurance company, it's highly regulated, it's licensed, you know, it's no different than the larger insurance companies, they just have a bunch of different rules and regulations they have to follow because of the way they operate. But what people don't understand is they hear other people talk about it, or people talk about it, say, Oh, if you get a captive, you just buy reinsurance, it's easy, you know, you just buy reinsurance and and then you can write larger limits in your captive, or they don't talk about the cost of capital, you know, you do gotta capitalize your your insurance company. So the more premium you write, oftentimes, the more capital you have to have. So, you know, they get told about, or they hear stories of buying cheaper insurance. And, and, you know, it's easy just to go get reinsurance. What they don't tell you is there's thresholds where people just won't talk to you, right. So if you want reinsurance right now, in the reinsurance market, it's difficult, it's tough. So you can't just go out and say, Hey, I need to buy $2 million of reinsurance from my captive, they're gonna want to know what programs you're riding, you know, what limits you have, what your safety precautions or measures are. So there's just, there's just a whole host of things that people make it sound very simple, but oftentimes, they forget to tell you all the things that go into it, right. So even if you can lower your total cost of risk, or perhaps even paid less premiums into your captive, and get cheaper insurance, you forget about the other costs, you know, the startup costs, the cost of capital, that oftentimes start to make if you're a smaller company, that's where it starts to become not really economically viable to self insure. And there's, that's why there's kind of a threshold of where you need to be before that makes sense.

[Bruce Silverman] Because you're self insuring, and because you are essentially setting up your own insurance company, do you need to have the personnel on your staff on your payroll, to manage it and oversee it?

[Adam Perea] No. So that's one of the great things about captives is most of the time, you're gonna go to a an advisor, or a risk manager or a captive manager even directly, and have them help structure this for you. So they will take care of everything. They're really they do the day to day operations. So a client can continue to focus on running their business successfully, and engage or pay somebody else to run this second company or, you know, sometimes it's a multiple of a company. But yeah, you don't have to really know the ins and outs of an insurance company, because you'll engage that captive manager to do the day to day functions for you.

[Bruce Silverman] Yeah, I was curious about that. Because as you were starting to talk about the cost that people don't necessarily think of in self insuring and starting their own insurance company to take advantage of the captive. I was wondering, you know, do you have to bring somebody on board where, you know, is it another function of HR or something like that, to be able to take care of it and you explained it so incredibly well? What are some of the other risks that ensure and not insurance companies but someone creating their own insurance company needs to be aware of that takes this Going off of the sexiness of having your own captive, insuring yourself and potentially limiting your capital outlay.

[Adam Perea] Yeah, you know, it's, it's the fact that most of the time, these are long term plays, and there is a lot of risk in starting a new company, right? So they, they might think, Hey, I'm just gonna put into a captive this year, because we're having a tough year getting premium. So you know, I'm just gonna, it's gonna be a short term solution. That could work in some cases very, very few times. So I see that work, it's more of a long term play, right, you got to see this 567 years out to understand where you start to see the benefit of taking on that risk. So I don't think people understand that. And the startup, you know, doing all the data collection, and all the underwriting and everything that goes into it, you really got to be committed to that, and understand what you're getting into. Because oftentimes, their experience with insurance is, yeah, just go get me the cheapest price and you write, you write one check, or you know, for your premium, and then you're done, you don't have to worry about anything else. But when you have a captive, now you have your own insurance company. So does that add to the administrative functions of your company? In most cases it does. But it varying levels, right. So we have captives that folks say, Hey, I've been self insuring this, I want to transfer it to a captive, great, you know, we're gonna get that off our balance sheet and funded through a captive, well, they can still go through their normal processes of how they do things day to day, the only difference is now they have one step where they have to report that loss to a captive versus just whoever's in accounting to properly account for that loss. Right. So in most cases, there's not a big administrative burden. And we try to shoulder most of that as and pass that off to a captive manager. And other times depending on how complex they want to get with their program. They may need people that are more actively involved on their end.

[Bruce Silverman] You explain this so incredibly well, that even a guy like me, who know understands nothing about insurance, completely understands the situation. If you have any questions, if you have anything that you want to do in the insurance industry, you need insurance, or you're looking to create a captive Adam is the man to reach out to his phone number is 602-882-1213, the email is aperea@eliterisk.com. And the website is aperea@eliterisk.com.. He's Adam. I'm Bruce managing risk for tomorrow today. And Adam, I know we got more episodes to do so stick around and we'll continue to let folks know exactly how they can take care of themselves financially in insurance and in risk. So thank you for being with us, and we'll see you next time.