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Fully Insured vs Captive vs High Deductible: An Honest Comparison

We hear it all the time from business owners: "We are paying too much for insurance. There's gotta be a better way." 

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And our industry responds: "Have you heard about captives?"

Too often, insurance brokers confuse the financial instrument with the strategy. 

The reality is that these tools alone will not solve the problem of high insurance costs. To clear the air, though, we thought we'd share the pros and cons of 3 insurance products, each with different levels of risk ownership: full insurance, captives, and high deductibles.

Fully Insured/Low Deductible Plans: Pros and Cons

Advantages: 

  • Financial Certainty: Since the premium paid is relatively fixed, financial planning/budgeting is easier to predict and more stable in the current year. 
  • Delayed Penalty: The penalty (increased cost) for a high loss year doesn't impact the company until the next policy period begins. 
  • Market Choice: Depending on the class of business, the amount of insurance companies offering the fully insured programs greatly outnumber those offering Self-Insured Retentions or Captive programs. 
  • Low/No Collateral: Typically the only escrow needed is a premium deposit. 

Disadvantages: 

  • Delayed Reward: The reward (cost savings) for a good year will be recognized once a year at renewal. This reward may be thwarted by industry-wide rate increases.
  • Safety Net Mentality: Have you ever heard an employee who was involved in a loss say “oh well…that is why we have insurance”?  When a company does not hold direct financial responsibility for the incident, it's easy to ignore the reasons why it happened in the first place.

Captives: Pros and Cons

Advantages:

  • Investment Income: Captive owners typically earn investment income on premium and any cash collateral during the period whereby losses are paid.  
  • Tax Advantages: Captives typically will fund anticipated losses upfront in the form of premiums. These premiums can be expensed, thereby decreasing any pre-tax profit. 
  • Ownership Mentality: The member owns part of the captive and thus participates in any profit or loss. Usually this influences the company's safety culture and sense of accountability. 
  • Building Net Worth: Underwriting profits are typically left to accumulate in a tax advantaged location for years. A sustained run of excellent performance can result in a substantial amount of profit built up for the captive owner.   

Disadvantages: 

  • Capitalization: The captive needs to be capitalized in order to operate as an insurance company.  The amount of capital is needed over a period of years and can be a substantial amount. 
  • Risk Sharing: Unless you are in a single-parent captive, you are sharing a portion of the loss experience with other group members. This works well when the majority of members perform well. But there can be years where multiple members perform poorly, and that burden is shared by the group.

High Deductible: Pros and Cons

Advantages: 

  • Ownership of Risk: When you have significant dollars coming out of your pocket on every loss the urgency to produce excellent safety results is elevated. In general, this increased ownership of risk tends to produce better safety performance. 
  • Lower Upfront Premiums: By owning a significant portion of the risk, your insurance premiums will be lower. 
  • Immediate Rewards: If you perform well, you won't have many claims that need to be payed out of your pocket. And if what is coming out of your pocket is less than what you saved in insurance premium, you will be financially ahead of where you'd be with full insurance. 
  • Increased Freedom: With a very large Self-Insured Retention or Deductible, the insurance carrier may be willing to allow the motor carrier to have more flexibility on claim settlements, or even use a Third Party Administrator (TPA) to handle claims. 

Disadvantages: 

  • Less Financial Certainty: If you have a high frequency of large claims, a high deductible (say $100k per occurrence) will hurt the bottom line. 
  • Collateral: Insurance carriers are going to want financial certainty that you can pay claims. Typically there is additional collateral needed to fund claims (although generally less than full insurance and captives). This collateral could come in the form of a letter of credit or cash.      

The Strategy:

In order for you to reduce your insurance dependency (and cost), you need to be in a position of control. Regardless of which financial instrument you choose, this is how you take back control: 

1) Build an uncompromising safety culture

At the foundation of performance-driven insurance is an uncompromising safety culture driven by leadership. Without this, nothing sticks.

There are many stories of companies that were unable to turn the corner. Companies that had good ideas and good intentions - but their safety initiatives never caught on. That's because these companies forgot to lay the foundation. 

There are also many stories of companies that 'got it'. Companies where the leadership team not only buys in but is relentlessly unapologetic in their commitment to the organization's values. These leadership teams live it every day. 

2) Go "performance-driven"

Once you have the culture in place to support strong performance, your insurance dependency starts to wane. You now have the confidence you need to bet on yourself and own more of your risk.

 

Read Paper Transport's story here.

Topics: Leadership / Strategy