Physicians who own captive insurance companies do more than just save money. Captive insurance companies, which are subject to the same regulatory oversight as traditional insurance carriers, offer physicians control over claims adjudication and growing financial reserves to fund practice-related expenses. Captives offer coverage for traditional practice-related risks as well as emerging risks, such as cyber threats and reputational harm.
Physicians who effectively manage the risks of their profession pay the same high insurance premiums as those who do not. When physicians count on traditional commercial insurers for coverage, they relinquish control of the claims adjudication and legal process, including settlement rights, choice of legal representation, and suit disposition. Insurance companies routinely take an expeditious approach to claims management, settling cases without regard to the effect settlement can have on the insured’s professional reputation. This prevailing arrangement hardly seems fair, and it costs physicians millions of dollars every year.
Physicians Turning to New Insurance Model
With substantial amounts of hard-earned practice revenue at stake, physicians are turning to a new insurance model that recognizes the value of effective risk management, offers complete control over claims adjudication, and provides specialty coverage for emerging risks as well. With this proven model, physicians own a captive insurance company that they control completely.
Privately held insurance companies that offer coverage exclusively to their owners have been in operation for a century, although the term “captive insurance” did not originate until 1955.(1) Captives can be located in the United States or offshore, and more than 70 jurisdictions now domicile and license captive insurance companies for their owners.(1) Almost all Fortune 500 companies own captives, often as subsidiaries, and there has been a significant uptick in captive creation in the past 30 years. Today, approximately 7000 captives operate globally.(1)
A captive insurance company mirrors the operation of a traditional insurance carrier. Captives are subject to the same intense regulation and oversight as traditional commercial insurers. The main difference between the two, however, is that a captive provides coverage exclusively to its owners.
For physicians and practice groups with pre-tax profits of $500,000 or more, captive ownership can allow them to:
Fund selected risks on a self-insured basis;
Reward themselves financially for effective risk management;
Transfer high risks to traditional insurers;
Leverage government-provided tax incentives; and
Build tax-deferred resources to fund growth.
Physicians Gain Control With Captives
Physician-owners direct every operational decision of their captives. They select the risks that will be self-insured and often transfer high risks to traditional insurance carriers. Because a captive operates just like a traditional insurance carrier, the captive can purchase coverage for high risks directly from the wholesale market, often at a discount. When a claim is made, the captive’s owners decide how to handle the claim. They, and they alone, determine how much they are willing to pay to fight the claim or settle it.
After paying outstanding claims and funding reserves, captives return remaining premiums to their owners as a reward for effective risk management. Reserve funds leverage government-provided tax incentives to grow, often on a tax-deferred basis. These monies can be used to fund practice-related expenses, such as those associated with expansion and growth.
Often, it’s the lure of hard dollar savings that prompts physicians to look, at least initially, into captive ownership.
Often, it’s the lure of hard dollar savings that prompts physicians to look, at least initially, into captive ownership. That was the case when a cardiac surgeon, working as an independent contractor in Florida and providing his own medical malpractice insurance, started investigating captive ownership as a way to save money. Even though he ultimately purchased medical malpractice coverage through a traditional insurer, he opted for a high deductible to keep his premium low. Then he set up a captive to cover the cost of that deductible, the first $125,000 of any claim payment that is made.
Assuming Some of the Risk Can Save Money
In this case, traditional coverage provides indemnification against claims exceeding the surgeon’s deductible. The captive retains any remaining funds after deductible payouts are paid in reserve. The surgeon can then use these reserve funds as collateral against loans to benefit the practice, such as office and staff expansion, and equipment purchases. By combining traditional insurance with coverage from his captive, the surgeon is fully covered and has a “war chest” of growing monies to fund the future practice costs.
Insurance Against Cyber Attacks
Although many physicians turn to captive ownership as a way to stop paying high premiums to traditional insurance companies, sometimes they come to captives as a way to access specialty coverage that isn’t available—at any price—on the commercial market. One such unavailable type of coverage indemnifies physicians against the effects of cyber attacks, which can damage reputations and negatively affect top- and bottom-line revenue.
Healthcare—The Most Frequently Breached Industry
Because commercial insurance against cyber assaults is not available, physicians are forced to self-insure for this risk—a threat that is significant, expensive, and growing. In 2016, healthcare became the most data-breached industry on earth, displacing financial services from that spot.(2) The richness and depth of personal information contained in patient records makes them attractive to identity-stealing hackers. Sadly, 13% of the hackers are insiders, most often employees.(3)
Like the cardiac surgeon in Florida, a dermatologist in California also was drawn to captive ownership, but for a different reason. His practice, which operates in a rural, underserved area of the state, enjoyed significant growth, which necessitated hiring new staff. Although extensive due diligence was conducted during the hiring process, embezzlement followed, and some of the new hires were terminated.
Disgruntled employees began posting negative “information” about the physician and his practice on social media and making unflattering comments to members of the community. As these negative impressions filtered out into the community, the upward trajectory the practice previously enjoyed slowed down significantly. The physician searched the commercial insurance market for help in indemnifying the practice against these risks and soon discovered that there was no solution on the commercial market. Coverage against reputational damage simply did not exist. Not only was no coverage available, but he was unable to find any commercial insurer willing to take on this emerging liability.
A Captive Can Insure Specialty Risks
With no commercial answer on the horizon, the physician began networking with colleagues to find out how they were managing this risk. His probing revealed that several of his peers had set up captive insurance companies to provide coverage for traditional risks associated with medical practice operation and emerging risks as well.
Because it is controlled completely by its physician owner, a captive insurance company can offer any kind of coverage its physician-owner requires. The captive in this case, which was established in 2016, covers the doctor and his practice for the traditional medical-related risks as well as emerging threats stemming from reputation harm, employee theft, billing audits, technology risk, HIPAA compliance, and ransom risk.
The physician who owns the captive pointed out that having coverage for potential adverse employee situations has given him new confidence to make decisions about termination more quickly.
Choosing to Delegate Captive Operations
Even with the significant financial benefits captives can deliver, physicians often find running an insurance company, even a captive, to be a daunting responsibility. Because most captives are located offshore, complex international, legal, and regulatory issues come into play in captive management. Physician-owners who take on the challenge encounter a steep learning curve. As a result, physicians often delegate the creation and ongoing management of their captives to an expert third party.
Captive management firms provide financial, insurance, and legal counsel on a wide range of set-up options, allowing physicians owners to co-create their captives with confidence. The captive management firm executes the physician-owner’s vision, establishing the domestic, near-shore, or offshore captive in the domicile of choice. Once the captive is established, the captive management firm takes over every aspect of its day-to-day operation, including ongoing regulatory reporting and legal compliance.
How to Screen Captive Management Firms
When time-pressured physicians consider forming a captive insurance company, the international regulatory and compliance issues can be daunting. The captive’s domicile—that is, its domestic or offshore location—drives the complexity of these issues, because every jurisdiction has its own regulatory and compliance mandates. In addition, the interplay among insurance, financial, legal, and jurisdiction-specific regulatory and compliance requirements complicates captive ownership for physicians and practice groups.
That is why many physicians and practice groups with a need for captive ownership turn to a professional captive management firm to organize, establish, and operate their captive on a day-to-day basis. Finding a professional management firm can be a complex, time-consuming task. Asking 12 key questions can help physicians and their advisors qualify potential captive management providers. These key questions include:
How many captives has your firm created?
How long have you been creating captives?
How many of the captives your firm created are currently under management?
What is the first-year set-up cost of establishing a captive?
What are the recurring annual maintenance costs?
Are your services all-inclusive or will I be billed for additional services provided by outside vendors (e.g., accounting and compliance)?
How many of your captives have been audited?
What were the results of those audits?
Will this planned contractual relationship include the cost of defending and responding to audits, if any?
Can you provide client and professional references?
How can I collapse or wind down my captive?
Which jurisdictions have domiciled your captives?
Although these questions will provide a consistent framework for comparing potential captive management providers, it is wise to consult with trusted advisors as well during due diligence.
Why Physicians Choose to Own Captives
Constantly changing regulations, increased competition, and declining reimbursement have forced physicians to focus on operational issues and paperwork, cutting into the time normally reserved for patient care. As physicians accept this new reality, they have begun searching for innovative ways to protect their practices and ensure their professional and financial futures.
For many physicians, owning a captive insurance company allows them to avoid paying high premiums to traditional insurers, reward their effective risk management, and gain control over their financial future. For others, captive ownership is a gateway to specialty coverage not available on the commercial insurance market.
Coverage for emerging risks, such as those associated with employee terminations, cyber attacks, and reputational harm, is not available at any price. These risks are real, however, and few physicians want to self-insure for the damages that can result. Because physicians control 100% of their captive’s operations and decision-making, their captives can offer specialty coverage for these risks, reinforcing physician-owners’ confidence in practice operations.
Although the option of captive ownership is attractive for many physicians in a wide range of specialties, operating a captive is a challenge complicated by complexity, international regulation reporting, and operational nuance. For those reasons, many physician-owners delegate the creation and operation of their captives to trusted third parties.
Captive insurance companies. National Association of Insurance Commissioners. December 8, 2016.. Accessed January 12, 2017.
Morgan S. Top 5 industries at risk of cyber-attacks. Forbes. May 13, 2016.. Accessed November 20, 2016.
Weisbaum H. Cyber attacks and negligence lead to rise in medical data breaches. NBC News. May 17, 2016.. Accessed November 21, 2016.
RelatedReflections on Leadership and QualityHow Paternity Leave Helps Dads’ Brains Adapt to ParentingA Guide for Getting Stakeholder Buy-In for Your Agenda