What is a Health Insurance Captive?

A health insurance captive is an insurance arrangement that is owned and controlled by its insureds.  Mutual insurance companies, Multiple Employer Trusts and Multiple Employer Welfare Arrangements, also have a similar structure.  While a captive can certainly be established and owned by one employer, and many single large employers do own and operate captives, this article will concentrate on the small and mid-size employer captive market.

With a captive the insureds are at risk and therefore can benefit from the underwriting performance and investment income generated by the captive.  They are typically set-up for companies that are too small to self-insure on their own.  By combining a number of employers together they achieve the critical mass to self-insure as a group.  The carrot is that employers will (somehow) achieve a lower cost of providing health benefit plans to their employees than they could through other traditional market options.

Many “captive specialists” have hit the market in recent years promoting health captives as a way for small employers to beat the Affordable Care Act.  These captive consultants do the necessary legal and administrative work to establish a captive on behalf of a potential pool of like-kind employers and then make money through consulting, broker or administration fees for the captive.

Looking under the hood- in a captive, each individual employer is in essence operating a self-funded plan.  Employers take on additional responsibilities and administrative responsibilities in running a self-funded plan, even if the captive is taking on significant portion of the administrative burden.

The captive structure is typically:

  • The employee receives a regular, ACA compliant health benefit plan
  • The employer established a self-funded plan.
    • The captive usually has stock documents for its insureds. The employer has specific and aggregate stop loss insurance purchased through the captive.  The employer pays that actual claims costs for their employees, plus: the administration costs of the captive (which include its reinsurance costs); the stop loss insurance costs; and in the first year or any year the captive has a need, additional capital contribution to the captive (typically 10% or more the first year).
  • The captive purchases reinsurance at levels determined by the size and risk of the captives pool of employers/employees

This structure can of course work, but the gamble is that the captive will have enough critical mass to be able to achieve its promise of outperforming the fully insured market.

California has recently enacted regulations to discourage small employers from sidestepping the ACA small employer pool by using self-funded plans and therefore captives.  The law regulates the minimum amount of the specific and aggregate stop loss small employers (fewer than 100 employees) may purchase, ensuring, in most instances a risk too great for a small employer to assume.  Specific deductibles cannot be below $40,000. Aggregate stop loss minimums are on a formula that requires a risk of at least an additional 20%, or more depending on the specifics of a group.

Upside and downside of a health captive:

The upside is potential cost savings from a number of health plan operating and performance categories.  The most important piece is that claims cost of the captive, in aggregate, outperform the fully insured market in the short and long.  This upside comes with an extremely high risk and is outside of the control of the captives members. Any number of expensive chronic conditions or catastrophic claims can put the captives’ members in a financial disadvantage.  In addition to claims performance, captives usually state that they operate at a lower administrative cost than the fully insured market.  This must be analyzed carefully because the captive has management costs, employer and the captive’s reinsurance costs, and the administrative costs of operating a health plans which have become very complex.  Provider contracts, prescription drug vendors, customer service, appeals, premium billing, large case management, fraud management and many other functions all need to be managed the same as a fully insured carrier.  There are also internal administrative costs and liability to the captives employers that are not incurred with a fully insured plan.  And an employer can have substantial cost to leave a captive or if it is not performing or runs into financial issues.

Captives usually look good from the marketing materials and the mangers who sell them are well versed at handling the risk objections.  For most small employers, particularly in California, the captive arrangement is a financial risk too great and an administrative burden that it does not have expertise in handling.

As mentioned in the first paragraph, a captive and a MEWA Trust like CalCPA Health are similar in that the aggregate a number of smaller employers together.  But the MEWA model provides the participating employers a fully insured health plan, in essence, so it does not subject them to the financial risk and administrative burdens of a captive.