Risk Services Companies
Michael Rogers of Risk Services Companies tells CIT why the group captive structure can be a winner, and how companies should go about setting one up
Why do your clients decide to form an RRG?
Our clients desire to form a risk retention group (RRG) largely reflects the common diversity of reasons for forming a group captive generally. A RRG unlike most other captives acts as a direct writing insurance company, rather than a reinsurance company, and therefore eliminates the reliance of the traditional insurance market to provide fronted paper and enables the client to control its own destiny. With the direct writing capabilities comes the ability to access the reinsurance market and unbundle underwriting, claims, loss control and management to the best of breed service providers that specialise in these areas.
Sometimes, decision comes from a perception that the traditional insurance market is miss-pricing the exposure. For instance, we have one RRG client that had a pre-existing programme insured by a traditional insurer that had an extraordinary loss ratio of under 10 percent, which simply was not reflected in the premium charged. This programme also required unique underwriting and claims handling, which the traditional insurer could not or would not provide.
In other cases, the traditional insurance market is unwilling or unable to provide the coverage needed. An example is a client that had a manufacturing liability programme requiring an endorsement that the traditional insurance market would simply not provide. The RRG so formed did provide the endorsement, and ironically the traditional insurance market, buoyed by the RRG’s success, began to offer the endorsement to its traditional policyholders.
The bottom line is that the decision to form a RRG, with the unique benefits afforded by the structure, largely mirrors that for group captive formation generally. This includes: insurance availability and affordability; unique coverage and policy forms that are not generally available from traditional insurers; access to the reinsurance market; utilisation of claims handling; risk management; underwriting procedures that are not afforded by traditional insurers; and a group programme having better loss experience than the industry class as a whole.
Why did they choose an RRG over a traditional captive?
Pursuant to the US Federal Liability Risk Retention Act (LRRA) under which RRGs are formed, there are invaluable preemptions afforded to RRGs that are not available to non-RRG captives or traditional insurers.
First and foremost, it is important to recognise that multi-state unauthorised insurer laws make it difficult for a group captive having a significant number of policyholders to operate on a multi-state basis without using a fronting insurer. Direct procurement statutes require virtually all aspects of a captive operation, including any communication with the policyholder, whether by mail, email, telephone, or other methods of communication to take place solely within the captive’s domicile and not interstate. Otherwise, the captive can be deemed to be doing an unauthorised insurance business in the domiciles of its policyholders and be subject to significant penalty.
The use of a fronting insurer to comply with multi-state licensing requirements carries with it significant drawbacks. One is obviously the often-significant fronting fee involved, along with dependence on the front for the captive to operate and the related year-on-year collateral requirements of such fronting carriers. Moreover, the captive can very often be limited to the policy forms and rates that the fronting insurer has on file in other states—thereby minimising or obviating the form and rate flexibility that captives should offer to its policyholders.
Under the LRRA, RRGs can largely do business on a multi-state basis without the cost and drawbacks of having to use a front. Under the LRRA, a RRG is licensed only in the state of domicile and can do business on a multi-state basis by a filing registration in the non-domiciliary states in which it seeks to do business. Moreover, policy form and rate approval is required only by the RRG’s domiciliary licensing state. Non-domiciliary states are preempted from imposing rate and form approval on RRGs. Thus, the RRG can freely operate on a multi-state basis without the use of a front and utilising the policy form and rate approved by its domiciliary state.
Moreover, under the LRRA, RRGs for the most part are preempted from financial responsibility requirements that would require the use of only insurers licensed in a policyholder’s state. This feature is particularly useful when dealing with commercial auto financial responsibility requirements, but it has also been advantageous to RRGs’ providing professional medical liability, and in many other situations, such as for warranty administrators.
Another often under-appreciated advantage of RRGs is the ability to secure capitalisation for captive formation from potential member/policyholders without US Securities and Exchange Commission/federal securities filings and related state blue-sky law securities filings. While hastening to add that organisers are still subject to anti-fraud provisions of these state and federal securities laws, the legal expense, time, and labour obviated in not having to make such filings in order to raise capital for the RRG’s funding, are enormous.
What advice would you give to a company interested in setting up its own RRG?
In considering the formation of a RRG, it is important that the proposed group clearly defines the goals and objectives of the RRG programme, and works closely with its selected service providers to ensure that the RRG’s filed business plan addresses those goals and objectives. It is also critical for the RRG to select service providers that have RRG experience. A RRG is a unique entity, which, although often licensed as a captive insurance company, acts very much like a traditional carrier and as such requires strong expertise dealing with both domiciliary and other states regulators.
Additionally, it is important that the proposed group understands that the formation of a RRG is to provide a long-term solution to its liability insurance needs and as such requires a long-term commitment from the proposed members.
What must affinity groups consider before opting for the RRG structure?
For any affinity group that’s considering forming a RRG, we suggest these guidelines:
Go with a pro—getting an RRG off the ground successfully is not a do-it-yourself project. Any group considering the RRG business model faces a complex task that includes developing the corporate documents, capital contributions, preliminary marketing, board development, selecting state of domicile, licensing, and registering the RRG in other states where it plans to do business.
Due diligence essential—the track record of any captive manager being considered should be checked. How many RRGs has the organisation launched? How many are under management? Talk with the manager’s clients.
Flexibility to meet your needs—is the group seeking total management: the full range of services including administration, underwriting, claims and risk management, reinsurance, regulatory compliance, and marketing? Or does it have existing relationships that provide some of these functions. The group should select a captive manager that can tailor services to specific requirements.
Specialist best qualified—we believe that RRGs are best served by managers whose primary business is RRG administration and have the professional staff to provide the full range of services.
Governance—the success of any RRG depends on strong board leadership. We recommend a blended board with the majority of directors coming from the insured industry, supplemented by insurance professionals.
Reinsurance—most RRGs require reinsurance to protect against severe losses, and a few buy quota share reinsurance to enable growth. Reinsurance should be purchased from reinsurers with a minimum “A-” rating from A.M. Best.
State of domicile—we tell our clients that the best domicile is the one that expedites the initial licensing application for admission and, once licensed, treats its captives fairly and has a good relationship with its captive manager. We advise clients generally against choosing the state where its operations are based as the state of domicile.
