If you had a captive insurance company writing liabilityinsurance for long-term care facilities in the early years of thisdecade, you had a good thing going, but because of dramatic changesthat have taken place in the marketplace in the past few years, thereverse is true today.

At this point in time, your capital may be frozen, but youcontinue to pay into the captive for liability insuranceprotection. To make things worse, the return on your investedassets has sunk to around 2 percent or less.

As a single-parent captive, thereare better uses for your invested capital than keeping your moneytied up in the captive.

What to do? Financially strong risk retention groups may offerthe answer. In the jargon of the insurance business, it's called aloss-portfolio transfer.

Take, for example, an RRG that provides liability coverage tolong-term care facilities. A captive insurer that wants to get outof the business and free up equity capital could transfer itsportfolio of losses and reserves to the RRG.

In this scenario, the captive would cease underwriting. The RRGwould assume existing losses and offer stable, affordable coverageto facilities that were insured by the captive. Members of thecaptive would get their equity out of the captive.

While this may sound simple, however, it isn't. A high level ofdue diligence is required to protect both parties, but the endresult can be well worth the effort.

MAKING IT HAPPEN

The critical elements in a loss-portfolio transfer (LPT) are anactuarial analysis of the reserves to be transferred and anunderwriting audit of the years in question.

In addition to analyzing the existing claims, an estimate mustbe made of what is known as the incurred-but-not-reported, or IBNRclaims.

With all this said, a well-researched LPT can providesubstantial benefits for both parties: freed up capital for thecaptive's parent to invest in the company, and solid new businessfor the RRG.

Because of the striking changes that have taken place in themarketplace since these captives were formed, an LPT may be the wayto get your money out, while still assuring liability protection tomembers of the captive at today's lower premium rates.

A major benefit of an LPT is that captive sponsors can use cashrealized from the transfer for organic growth or operating expensesof the basic business. This is especially important today, whendebt financing is costly and difficult to obtain.

At the same time, members of the captive are at lower risk oflosing affordable liability insurance. The RRG takes over theportfolio of the captive, offering its members stable, affordablecoverage.

What's more, because the RRG is owned by its policyholders,premiums are kept competitive. Members go from being shareholdersof the captive to being shareholders of the RRG.

Those members of the former captive have secure insuranceprotection with a voice in the RRG and the potential for a seat onthe board of directors.

With the right RRG, they also will have a good investmentopportunity. At the health care RRG mentioned above, for example,the value of shares doubled over the last five years due tounderwriting profitability.

The RRG will provide services customized to the needs of captivemembers, whether a single-parent or affinity group.

With liability insurance rate increases expected to escalate asthe market hardens, it's a good time to dissolve the captive beforean actuary prescribes following the market up and swallowing rateincreases.

MORE ABOUT RRGs

If concerns about turning liability insurance protection over toan unfamiliar entity persist, learning more about RRGs mayhelp.

Restricted to writing liability insurance, RRGs were created inresponse to the lawsuit crisis that caused many traditionalinsurance companies to withdraw from liability lines or jack upprices to prohibitive levels.

The federal Liability Risk Retention Act of 1986 was created toauthorize business groups to form insurance companies licensed in asingle state to operate in all 50 states without additionallicensing.

From a modest beginning, the number of RRGs has grown to 246today. The top-100 generated more than $2.6 billion of premium in2009.

RRGs have become a stable, reliable source of liabilityinsurance for business and professional groups. Many of thosegroups are in the health and long-term care field, and wouldotherwise be dependent on carriers that move in and out ofliability lines at will. Choosing the right RRG for a LPT will helpprotect members.

REGULATORY ISSUES

If the captive is domiciled offshore, attention needs to be paidregulatory issues. The strong arm of the U.S. government isreaching out to bring offshore operations increasingly underfederal control.

Take note of recently issued IRS Notice 2010-23, which relatesto personal responsibility, commingled funds, and rules governinginvestment in private equity and hedge funds.

Some speculate that, while seemingly bland, this notice may be aprelude to exclusionary regulations. The Treasury Department'srecent Notice of Proposed Rule Making issued Feb. 26 relating tofiling requirements also indicates that the tax status of captivesis under review.

With both the IRS and Treasury looking more closely at offshorebusinesses, plus the federal government's constant search for morerevenue to make up for mounting deficits, offshore captives arelikely to become targets. Maybe it's best to get out before theFed's reach becomes deeper.

An LPT to a qualified, financially sound RRG may be the way toretrieve money from a captive, while providing competitiveinsurance coverage to members. It's certainly worth lookinginto.

Sanford “Sandy” Elsass ispresident-underwriting manager at Lewis & Clark LTC RRG Inc. inAtlanta, Ga. He may be reached at [email protected] .