Many business owners consider self-funded health plans because they offer greater flexibility and potential cost savings than traditional group coverage. However, these plans also come with financial risk. After all, a large medical claim can leave you strapped for cash. This is where captive health insurance can help.
Think of a captive insurance company as a team effort. Instead of taking on all the risk alone, you join forces with other employers to share costs and reduce financial uncertainty. But is captive insurance the right fit for your business?
In this blog post, you’ll learn:
- How captive health insurance can help businesses manage cost and risk.
- The key differences between captive insurance, self-insurance, and traditional group health plans.
- The potential benefits and drawbacks of captive health insurance.
Check out our 2024 ICHRA Report to learn more about how this health benefit can support your employees.
What does captive mean in health insurance?
A health insurance captive is an independent insurance company a group of businesses creates and owns to manage the risks of providing their employees with health insurance. The combined group of companies—often from similar industries or risk levels—is called a “captive.”
As the sole insurer, the captive covers the member companies’ employees enrolled in the health plan. As such, it incurs all the financial and administrative risk. But, employers have greater flexibility over plan design and more cost savings than fully-insured plans.
What’s the difference between captive insurance and self-insurance?
With self-insurance, a single employer runs their own health plan and independently funds the cost of providing a health benefit to their employees. In contrast to paying an insurance company a premium for health coverage, you set aside money to cover your employees’ medical claims. You’ll also pay the administrative costs and potentially stop-loss coverage premiums that come with managing the plan.
Captive insurance is a type of self-insurance strategy. It lessens financial risk by allowing several businesses to pool their resources and share the cost of insuring their employees. This gives its member companies more financial control over their budgets.
What’s the difference between captive insurance and traditional insurance?
With traditional group coverage, employers choose their preferred group plan from a health insurance company. Then, the employer and enrolled employees pay a fixed premium to the insurance carrier to maintain active coverage. In exchange, the insurance company assumes all the risk of covering the employees’ medical claims.
With a captive insurance program, the members share the financial risk of providing their employees health coverage instead of relying on a third-party insurer. This gives the captive insurance company greater flexibility over their health benefits without taking on the entire risk of running a traditional self-funded plan.
How does captive health insurance work?
The captive insurance arrangement works similarly to traditional self-insurance. Better yet, this alternative insurance model is available to various types of organizations, regardless of industry or size.
Here’s a quick look at how captive health insurance works:
- A group of businesses, typically with similar risk profiles, form a captive. After paying the initial setup fees, the captive runs like an independent insurance company, providing each member company’s employees with healthcare.
- The member companies design a health insurance policy that meets their employees’ needs. Instead of having to choose an insurance company’s pre-designed health plan, the captive can craft the best employee benefit for them.
- The captive members each contribute capital to a pool of funds for the following expenses:
- Employees’ medical claims
- Third-party administrator costs
- Stop-loss coverage premiums
- Add-ons to the insurance policies, such as wellness programs or supplemental health benefits
- When an employee’s medical claim or other expense requires payment, the captive insurer uses the pool of funds to pay for it.
- If unused funds remain in the pool at the plan year’s end, the captive returns them to the captive members or rolls them over into the following year.
What are the benefits of captive health insurance?
If you’re considering creating or joining a captive insurance entity, you’ll be pleased to know that there are many advantages.
It can help you control healthcare costs
One of the biggest benefits of a captive health insurance entity is that it allows you to save on your healthcare costs. In contrast to fully-insured plans, you only pay for the healthcare your employees use. This can help you optimize your plan’s usage so you can save money over time.
Here are other ways captive companies can save:
- Fixed costs, such as administrative expenses and stop-loss premiums, may be lower if you have fewer, less expensive medical claims.
- Captives can earn investment income on their premiums reserves if they have underwriting profits. These types of profits happen when the premiums the captive receives from their employees exceed the amount the captive pays out on claims and other expenses.
- The fewer claims you have, the more likely you’ll have leftover funds in your pool. Your captive can return this money to member companies at the end of the year, which you can put toward other essential aspects of your business.
Additionally, if you have more members in your captive program, you’ll have access to a bigger risk pool, which reduces each member’s overall health insurance costs. This is because potential losses spread among more companies in the group.
You can customize your health plan
Captive insurance allows members to create their own health plan instead of choosing from a commercial insurer’s limited options. You determine the plan’s details, including deductibles, copays, coinsurance percentages, and out-of-pocket maximums. You can also choose your provider networks and any supplemental benefits.
These customization capabilities help you craft captive insurance coverage that will meet your employees’ unique needs, increasing satisfaction and morale.
You have greater insight into your spending
Since captive members run their own health plan, they have complete visibility into how their employees use their benefits. This helps you identify gaps in coverage and run your claims process more effectively. You’ll also have insight into how much you’re paying for fixed costs and other healthcare benefits you’re offering.
This information can help you design better business risk management strategies and enhance your health plan to make it even more valuable.
What are the downsides of captive health insurance?
Even with all its advantages over traditional insurers, some businesses may see potential downsides to captive health insurance strategies.
There are costly start-up fees
You’ll need substantial financial resources during the initial stages of a captive formation.
The setup fees include:
- Working capital contributions
- Plan document creation
- Legal fees for forming the captive
- Initial premium payments for stop-loss coverage
- Insurance licensing fees
- Risk management consultations
These setup costs can range from $50,000 to over $100,0001. This amount of money may be too much to manage depending on how many companies are in your captive.
It still comes with financial risk
Like traditional self-insurance, captive members assume all the difficult risks of running the health plan. A sudden change in business profits for one member company can shake the financial stability of the pooled funds. Additionally, if the captive carrier experiences several high medical claims during the year, it may not have enough resources to cover the costs. If one member has high claims, it can affect the entire group’s costs.
If you don’t have a captive where each member company is dedicated to its success, the capital you contributed may take a hit.
There are complex insurance requirements
Like commercial insurance companies, captives are subject to insurance industry regulations in their state. The requirements may not be as extensive as those experienced by a traditional insurance company. But, like traditional insurers, there are still requirements regarding capital management, taxes, and reporting.
These regulatory requirements can be difficult to understand. They can also require significant time and money to complete. You may choose to outsource these compliance tasks to a captive management company. However, this fee for the management company services is another fixed cost you must consider.
The captive could kick member organizations out for high claims
Finally, the captive health insurance plan might force a member organization out. This can happen if a company experiences excessive claims, for example. The captive removes the organization to protect its financial stability.
Alternatives to captive health insurance
If you’re looking for an alternative to your captive health insurance, there are options that can provide flexibility and cost management.
Individual coverage HRA (ICHRA)
An individual coverage health reimbursement arrangement (ICHRA) allows you to give your employees a tax-free allowance for individual health insurance premiums and qualified medical expenses. This gives you complete budget control while eliminating the risk of self-insurance. Employees choose their own individual health plan, which gives them more control over their coverage.
There’s:
- No risk-sharing or unpredictable costs
- Greater flexibility for employers and employees
- Less administrative burden
- Improved scalability for growing businesses
Learn more about our ICHRA+ solution.
Level-funded health plans
For companies that like the idea of self-funding but want more predictability, level-funded plans provide a structured approach. These plans combine self-insurance with stop-loss protection, meaning employers pay a fixed monthly cost (similar to traditional insurance) while still benefiting from potential cost savings if claims are lower than expected. Unlike captives, businesses in level-funded plans do not share risk with other companies, making this a more controlled alternative.
Conclusion
Captive health insurance strikes a balance between traditional self-funding and fully insured plans. It gives employers more control over their healthcare costs while reducing risk through shared responsibility. By joining a captive, your business isn’t going it alone. You can draw on the strength of your fellow members to offer a quality health benefit your employees will love.
But like any new strategy, captive health insurance is not one-size-fits-all. Whether it’s a good fit for your organization depends on several factors, including the size of your business, risk tolerance, and financial stability. If done right, a captive insurer can give you a competitive advantage in managing healthcare costs while keeping your employees covered.
See the top six questions you should ask your health insurance broker with our free guide.