As seen in the Captive Review Group Captive Report, September 2021.

With the rapid spread of the Delta variant, the Covid-19 pandemic continues to leave employers with a series of unpredictable risks directly related to the pandemic. Among these risks is the potential higher cost of healthcare benefits offered to employees, a factor which must be built into any long-term risk management or cost-containment strategy. Covid-19’s impact on healthcare costs Based on tracking data across multiple employers, the future impact of Covid-19 on high cost claims will directly impact health insurance. Key factors include:

Direct costs related to Covid-19

Costs associated with testing, treatment and vaccines remain a primary source of plan costs. The most direct impact on captives is the high cost treatment tied to severe hospitalizations, particularly due to potent strains of Covid-19 like the Delta variant. There may also be ongoing health needs for members who recover from Covid-19 or are long-haulers.


Deferral of care

Plan members have chosen to defer elective treatments. While some of this care was eventually incurred over the course of the last year, many plan members continue to hold back on care, whether because of discomfort in a hospital setting or difficulty in finding care due to bandwidth issues. This influences future costs, particularly with unpredictable costly surgeries.

Missed preventative care

Client data across industries also showed a significant reduction in preventative care visits, and lower test numbers in areas such as labs, CT scans and MRIs. As a result, many employers are concerned because if certain health issues are not identified and treated early, the severity of the case and corresponding cost of care may be higher down the road.


Behavioral health

Covid-19 propelled behavioral health issues into crisis levels. While it may seem indirectly related to broader healthcare, consider this: the national Alliance on Mental Illness reports that cardiometabolic disease rates are twice as high in adults with serious mental illness, and that depression and anxiety disorders cost the global economy $1 trillion annually in lost productivity. We are sure to see the repercussions of this in claims costs to come.

Health insurer risk premium margins built into insurance pricing have been increasing in light of all this uncertainty, as well as broader trends such increased prevalence of high cost specialty drugs and increasing hospital costs. In fact, the most prevalent specialty medications are increasing in price at 10%-15% annually, further contributing to unpredictability of future claims.


Employer Considerations


During the pandemic, employers have needed to confront their organizational philosophy on the employee value proposition and balancing the investment in employee benefits with the impact on the company’s stakeholders. The impact of Covid-19 has made employers more acutely aware of the need for sufficient healthcare coverage for employees and their families.


In order to provide attractive benefits in an environment of rising costs and volatility, employers must rethink the programs they offer and how they are funded. Many organizations have also revisited benefit program governance structures, how decisions are made, and how programs are monitored.


Perhaps your remote workforce has different needs than they did in 2019, or the pandemic has triggered new problem areas that can be addressed through wellness solutions or advocacy tools.


No matter your path, employers seeking to ensure that they offer comprehensive healthcare benefits to employees at an affordable cost need to consider the financial management benefit of potential long-term cost savings and mitigation of volatility associated with captive structures.


Captive Arrangements for Employee Benefits


As employers look at the impact of the pandemic, organizational planning requires balancing the increasing cost of healthcare with the risk associated with solutions that reduce the total cost of the program. At its simplest form, health insurance can be expensive if a fully insured program is purchased, as organizations pay a risk margin, often 20% to 40%, for transfer of the risk to an insurer. Small to mid-sized organizations typically mitigate this cost by self-insuring a portion of their healthcare risk with medical stop-loss to cover higher cost claims. However, the higher risk premiums required by health insurance, including stop-loss insurance, lead to steep healthcare plan costs and/or, in some cases, being forced to take on higher-than-optimal risk.


A captive arrangement is a strategic way for employers to benefit from self-insurance while creating a sustainable solution to partner with commercial markets. Captives provide substantial competitive advantages over traditional self-insurance, such as:


Reduced total cost of insurance

Insurance carriers develop premiums by heavily weighing on industry averages, state rates and, to some degree, on an employer’s individual loss experience. This may lead to pricing that may not accurately reflect an organization’s actual loss experience. Insurance carriers usually price to include substantial overheads, including risk and profit margins. A captive provides employers an opportunity to recapture premiums from the commercial market and build a sustainable long-term model for their insurance needs.


Insulation from market fluctuations

Conventional commercial insurance is vulnerable to market fluctuations. This has never been more evident than today, with hard insurance markets and premiums that are increasing substantially with almost no change in coverage level. As a member in a captive program, employers are less susceptible to unpredictable rising costs imposed by conventional insurers every renewal season, as a balanced funding approach can smooth the cyclical volatility of the commercial insurance markets.


Protection from cashflow volatility

Leveraging a captive to fund medical stop loss can lower the cashflow volatility often faced by self-insured programs on a monthly basis. Having a captive cover claims at a substantially lower stop-loss level allows employers to smooth out plan funding and mitigate cashflow risk to the company.

For employers that may not have their own captive or the resources to form one, there are a variety of group captive solutions in the medical stop-loss space. These solutions are turnkey in nature and simple to implement. Most well-structured group captive programs aim for a seamless transition for employers where there is almost no disruption. In other words, from an employee’s perspective, the claims process is entirely the same. With group captives in particular, all the mechanical aspects are handled by the group captive management team, with minimal effort required for an employer.


There are several group captive arrangements that employers can tap into. In selecting the most appropriate arrangement, you need to consider factors such as the upfront cost of the program, the extent to which customization will be available, the flexibility you will have for your organization within the group captive model, and how renewals will work.


Looking Beyond the Pandemic


As we look forward beyond the pandemic, employers should consider ongoing healthcare program effectiveness. Healthcare costs will continue to increase and become a larger portion of organizational budgets, but it is not too late to start leveraging innovative solutions to mitigate these costs. You can proactively adjust your tactics today and be better prepared for tomorrow, and with a captive you are truly in the driver’s seat.

Check out Captive.com’s writeup of a panel Spring’s Peter Johnson moderated at the Vermont Captive Insurance Association (VCIA) 2021 Annual Conference.

As seen in Captive International


As the dust begins to settle on the COVID-19 pandemic, forward-thinking organizations are focused on programs that provide competitive benefits as they look to lure new workers and retain existing employees. They recognize that employee benefits give them flexibility to deal with the changing employee landscape, from a demographic and geographic perspective, as well as improving employee wellness, maximizing their savings and increasing employee engagement in the modern era.

COVID-19 impacted insurance coverages and industries differently, but a picture is emerging of what the employee benefits landscape will look like post-pandemic

Prabal Lakhanpal of Spring Consulting

A holistic approach


Historically, employers were largely focused on ensuring they had adequate insurance coverage on a line-by-line basis, and these coverages often operated in silos. Today, more organizations are breaking down those silos and developing a view that is holistic, looking across the board to create an employee benefits program that emphasizes employee wellbeing and population health management.


Employee wellness is primarily the idea of not just providing employees with appropriate health, life and disability benefits, but also ensuring that employees have assistance regarding their overall wellbeing, including physical, financial, behavioral, social and intellectual health. Organizations increasingly understand how the individual components of their benefits programs are inter-related, and that evaluating and managing these relationships adds value to their employees.


A captive is an effective mechanism for achieving an integrated program. In an integrated captive program it is easy to bring together all the lines and ensure that the appropriate resources are being used to plug any gaps in the benefits portfolio. Most of our clients using this approach have been able to leverage the savings from the captive program to provide the additional coverages at almost no or nominal cost.


In addition, the transparency and clear line of sight into claims activity and utilization rates help employers plan for program changes, make decisions and adjust to changing employee needs sooner than they would be able to without a captive. Organizations that already had benefits in their captive when COVID-19 hit fared much better than those without one, as they were able to adapt quickly to make changes to their benefits that accounted for the unusual circumstances.


For example, we helped a large global employer leverage its captive to provide extended benefits for employees it was forced to furlough when the pandemic struck. Its carrier would allow for continued benefits for only three to six months, but by using the captive to take on the risk, the organization was able to keep benefits for furloughed employees for 12 months at no additional cost. This move went a long way to improve employee retention and morale.

Medical stop-loss


If we think about the range of employee benefits in the US, medical stop-loss is perhaps the one that has changed the most and attracted the most interest in the last few years. It is typically not an Employee Retirement Income Security Act (ERISA) benefit so Department of Labor (DOL) processes don’t apply.


There are two driving forces behind this interest. First, healthcare costs continue to skyrocket, causing employers to look at alternative ways to bend the healthcare cost. Medical stop-loss in a captive is a smart, cost-conscious response to these market conditions.


The second factor is that for a long-time medical stop-loss has largely been considered a first-party risk. Over time, law firms and accounting firms have gradually started to categorize it as a potential third-party risk.


This transition to medical stop-loss being a third-party risk is gaining substantial traction and impacting the way programs may be structured to achieve insurance tax treatment. This concept needs to be individually assessed at the employer level, considering the circumstances of the organization. We highly recommend working with a captive attorney or tax advisor to ensure compliance.

Life and disability


Life and disability are other lines that have changed significantly in recent years. Typically, any coverage subject to ERISA needs to go through a DOL exemption process in order to be placed in a captive. Life and disability are usually subject to ERISA. Historically, the DOL had an expedited process, which allowed employers to submit an application for approval to add benefits to a captive.


In late 2018, the DOL paused this process in order to rethink and better understand how employers are using these benefit lines in a captive. They have since conducted an analysis and created a more streamlined exemption process for which we are already seeing applications flow through the DOL.


As we look to the future, I believe this will encourage more employers to think about life and disability as potential coverages for captives. These coverages not only help employers achieve best-in-class benefits provision, they also support captive insurance structure from a diversification point of view.


Another growing area of interest is the self-insuring of employer-paid disability coverages. This is an extremely useful solution for organizations and is quick to implement, but the feasibility of this needs to be evaluated on an individual employer basis.

Voluntary benefits


While not new, voluntary benefits continue to pick up steam in the market. This trend correlates in part to my first point about a holistic approach, as voluntary benefits can offer a range of different protections that are not part of a traditional benefits package. In this way, employers and employees can address a larger spectrum of health and wellbeing concerns such as vision, financial wellness, or accident insurance, thus creating a more comprehensive program.


Voluntary benefits are an important tool to have as employers fight against rising healthcare costs, as they are a low-to-no-cost mechanism to support employees in managing those increasing costs.


Last, as most voluntary benefits are underwritten at extremely low loss ratios, insurance carriers make a substantial profit from a voluntary benefit that is fully-insured. By utilizing a captive (self-insured structure) for voluntary benefits, the employer can further reduce benefits costs for its employees. It’s a classic win-win.


Conclusion


The “new normal”, whether it feels normal or not, is not on the horizon, but at your doorstep. Cutting-edge businesses are taking a modern approach to address the challenging market conditions while still providing competitive benefits, retaining and attracting talent, and being risk-smart and mindful of their bottom lines.
Thinking holistically and reframing your strategy around medical stop-loss, life and disability, and voluntary benefits are just a few of the ways you can use your captive to stay ahead.

Our Managing Partner, Karin Landry was in a Q&A with Financer Worldwide, in which she discussed some of the leading healthcare risks and what changes we can expect to see in the insurance market. Check out the full discussion here.

In Risk & Insurance’s March 2021 magazine, they spotlight research conducted by Spring and quote our Managing Partner, Karin Landry. Check out the magazine here.

Our Managing Partner and Senior Vice President, Karin Landry and Karen English laid out some of their predictions of what businesses can expect to see in 2021. Check out the HR Teach Outlook piece here.

As seen in Captive Insurance Company Reports (CICR)

For most companies today, its people are one of the largest investments its makes. COVID-19 accentuated this point and further showed us how the health of a company depends in large part on the health and wellbeing of its workforce. Providing competitive benefits is not just the right thing to do, but a sound business decision. Employee benefits usually account for one of the largest expense line items on an income statement for organizations. In a world where employee benefits consistently become both more important and more expensive, businesses of all types are looking for an affordable mechanism to finance these risks.  One solution that has become central to discussions about employee benefits has been captive insurance.

To provide some background, a captive is an insurance or reinsurance company – which can help insure or reinsure the risks of its owners, the parent company (or companies).

Employee Benefits & Captives

Over the past decade as healthcare and benefit costs have been rising, captives have become the go-to solution for organizations looking to bend the healthcare cost curve as well as create a more efficient employee benefits program.  More recently, however, organizations are recognizing the many qualitative advantages of a captive that can help attract and retain employees- a company’s most import asset. As we enter a new decade, these qualitative advantages or “soft costs” of human capital will drive the next iteration of captive insurance.  

Traditionally, captives have been viewed as purely a funding mechanism for employee benefits that provides the following advantages:

Cost savings can be yielded through: better control of premium costs, reduced frictional costs (commissions, taxes, insurer profit, administration), captured underwriting savings, earned investment returns, and improved cash flow for the parent organization.

In our view, the next generation of captive insurance will have a sharper focus on the soft costs of human capital, such as:

While employee benefits account for large costs for employers, they are running a significant risk by not providing the right benefits. By establishing a captive, employers can open doors to focus on human capital and the more qualitative aspects of a program. Further, a captive allows for customized benefits programs to meet the needs of your unique demographic. Employees a technology company will have different priorities and expectations than, for example, those that work in manufacturing. With a captive you can understand and meet those unique needs better than you could with a commercial carrier, in a cost-effective manner. This will go a long way with retention and engagement, and will make your employees feel their voices are heard.

Another intangible result of a captive program is the parent organization’s ability to capture enhanced data analytics. This data comes in months sooner than it would with a commercial carrier, meaning you can analyze your programs and make real-time decisions to yield better claims results. For example, if you know one of your biggest population health issues is diabetes, you can establish programs to address diabetes before your renewal is up. With commercial carriers, the information comes in too late to make changes for that plan year.

Which Benefits Can I Fund Through a Captive?

A wide range of employee benefits may be funded through a captive – the most common coverages are Medical, Life, Disability, Retiree Medical and Voluntary Benefits.

Captives can be used to fund Employee Retirement Income Security Act (ERISA), or non-ERISA benefits. ERISA benefits are primarily the benefit plans sponsored by and contributed to by employers. Life and Disability plans are usually ERISA in nature. These plans are subject to federal oversight, under the auspices of the Department of Labor (DOL) and require express approval from the DOL to fund them in a captive. Approval from the DOL is subject to meeting certain criteria – using an A rated fronting carrier, not paying any more than market rates for the coverages, no direct commissions as part of the contract, requirement for an indemnity contract, to name a few.

Medical stop-loss is usually not considered to be subject to ERISA and has become an extremely popular benefit to add to a captive. The reason for this has been two-fold. Firstly, the rising cost of catastrophic claims. Self-insured organizations are increasingly concerned about the financial impact of high-cost claims – unfortunately seeing $1M or $2M claims is becoming commonplace. One such large claim could have a material impact on the financial sustainability of the program. Second, the hardening insurance market is driving employers of all sizes towards a captive based stop-loss solution, as it reduces the opaqueness of the pricing process and helps employers get a much clearer understanding of their premiums and cost drivers. Usually a captive stop-loss program involves the employer creating an annual aggregate limit, and purchasing excess coverage from the commercial markets above the captive’s aggregate retention. Thereby, protecting the captive from most catastrophic claims.

Long-tail benefits such as group universal life insurance and long-term disability are ideal captive candidates. Benefits that pay out over multiple years (e.g. long-term disability and retiree medical), provide cash flow stability and loss predictability.

Using a captive for voluntary benefits has recently risen in popularity. This is a cost-efficient way of offering benefits that your employees can choose to participate in, or not. More and more employers are turning to this strategy as healthcare becomes more expensive, as a way to supplement benefits and lessen both their financial burden and the financial burden faced by their employees. One of the most attracting elements of writing voluntary benefits into your captive is that voluntary benefits typically have a very low loss ratio, which means they can generate a lot of savings within a captive. Those savings can then be leveraged to reduce premiums for employees or expand the coverage offered. An example of a prime voluntary benefit often offered in a captive structure is hospital indemnity, which can be critically helpful coverage, but one that is often otherwise too expensive to fund.

How it Works

Unlike property and casualty lines of coverage, employee benefit lines have a unique value proposition. They allow organizations to recapture dollars that would have otherwise gone to an insurance carrier. Both life and disability coverages use a fronted carrier, i.e. a commercial carrier stands in front of the captive so that from an employee perspective there is no change in the way they interact with the insurance company. On the back end, the carrier cedes risk and premiums to the captive.

The following illustrates how a typical fronted captive program works.

Captive insurance structure
Fronted captive program structure

Under such an arrangement the fronting insurer to continue to administer the program. The employer pays the fronting insurer an annual fee for its services, allowing the captive to retain underwriting profit (if any) from the program. Depending on the risk appetite of the organization and the results of the actuarial modeling – the employer may choose to buy reinsurance for the program.

In Closing

The typical steps involved in adding benefits to an existing captive or forming a new captive are a feasibility study which outlines qualitative and quantitative factors for consideration, such as potential savings, program structures, design alternatives, insurance considerations, and implementation requirements.

Today those in the insurance industry are facing difficult circumstances on a variety of fronts. The recent pandemic has led to hardening of markets. We are seeing substantial rate increases for clients. Captives offer a solution to mitigate these increasing costs in a sustainable manner. In addition, captives provide access to additional data and insights that can help organizations get a clearer understanding of claims drivers and therefore allow for implementation of solutions and tools that reduce claim costs. Further, captives provide organizations the ability to impact the soft costs of human capital by identifying and crafting unique solutions to meet their employees’ needs, more important now as the pandemic shed light on gaps in coverage many did not realize existed.

Captives are useful and versatile risk financing tools, especially for employee benefits. They provide significantly better cash management than can be provided through a trust and can produce impressive cost savings as compared to fully insured guaranteed cost plans.

We hope we’ve piqued your interest and we’re here for you.  Over the next months, we will dive further into employee benefits captives to cover things like types of captives, moving to a self-insured program, medical stop-loss, feasibility studies, solutions for small and mid-sized businesses and more. We hope you’ll keep reading.

Our Chief P&C Actuary, Peter Johnson was spotlighted in Captive International’s Captives Rising: Hard market brings new opportunities report. In which Peter how the pandemic has changed the risk management practices and what businesses should look out for. Check out the digital report here.

As Seen in the Captive Review Group Captive Report

Medical stop-loss coverage protects self-insured groups from catastrophic medical claims. Medical stop-loss has long been used as risk management tool by small- and medium-sized organizations to limit their exposure to medical claims above their desired retention levels. This strategy has been used by single parent programs as well as group captive programs.

The reason this strategy has been more popular in the mid-market is because of two primary reasons. First, businesses have wanted to insulate themselves from catastrophic claims risk, as one large claim could have a material impact on the financial sustainability of the program. Second, the relatively small size of the groups means greater variability from an actuarial perspective. In comparison, large companies have stronger balance sheets allowing them to take on a more aggressive risk management strategy and reduce third party spend with insurers.

As I write this in April of 2020, there are a myriad of unprecedented challenges facing both small and large employers and medical stop-loss can help mitigate some of these concerns. Recently, we have seen a shift in the market where large employers are increasingly becoming interested in reviewing the possibility of leveraging a captive to provide medical stop-loss coverage. I anticipate this trend to continue. Below are four points as to why.

As we stare towards the possibility of a recession and reduced economic output, poor investment income will have an adverse impact on insurance company financials.

Prabal Lakhanpal

This past renewal season, we saw that markets are starting to harden, and given the current Covid-19 pandemic and the financial and economic climate, this is bound to continue. A variety of factors have contributed to this including regulatory changes (ACA and healthcare reform) and many recent natural disasters (Hurricane Harvey, California wildfires, etc.). Insurers for a large part of the past decade have benefitted from the favorable financial markets world over, thereby reducing their need to increase rates to continue to make their target earnings per share (EPS).

As we stare towards the possibility of a recession and reduced economic output, poor investment income will have an adverse impact on insurance company financials. Further, as markets tighten, access to inexpensive cash is becoming harder. Since most insurance companies are public, the increased pressure to keep their share prices buoyant is going to result in them wanting to beat their expected EPS – which requires higher profit margins. Finally, as reserves balances diminish due to market conditions, principles of conservatism are going to require them to shore up financials, and the easiest way to do this is by increasing premiums.

These factors coupled with the ongoing pandemic, which will likely result in an increase in aggregate claims, led me to believe hardening insurance markets are upon us. This is likely to result in an increase to reinsurance costs for employers who are currently self-insured. A well-structured medical stop-loss solution can help employers navigate these market conditions by providing them greater control over the program and creating an alternate avenue for reinsurance.

Hardening markets make captives more favorable, as they allow for customized coverage otherwise unavailable in the commercial market. Employers currently using captives have been provided an opportunity to leverage the captive program to fund for Covid-19-related expenses. For non-captive employers, this impact is felt directly on their financial statements.  

Claims costs have been increasing at an aggressive pace. The US has long been criticized for poor population health management, with rising chronic conditions like diabetes that are expensive to treat. In addition, the pricey cost of medication has made extremely high cost claims a reality of healthcare. Claims in excess of $1m are becoming commonplace. For large employers, who are traditionally self-insured, such claims cause volatility from a cashflow perspective, making it harder for finance teams to budget and build expected proformas. Using a medical stop-loss program eliminates this volatility as claims above the self-insured retention level are funded in the captive, creating a level funded premium plan.

According to studies by PwC, while medical cost trend has been flat for a couple years, it is expected to increase from 5.7% to 6% in 2020. This rise in healthcare costs is attributable to an increase in the utilization rates. Medical trend increases are outpacing those of inflation, which was 2.07% in 2018 and 1.55% in 2019.

As a result, employers have had to leverage solutions such as high deductible health plans and other forms of cost sharing to bend the healthcare cost curve. The crux of the issue is that now organizations are having to combat both rising medical trends as well as increasing claims costs, while still needing to retain talent and provide competitive benefits.

A well-crafted medical stop-loss solution can help ease the burden for employers and provide them a sustainable way to bend the healthcare cost curve. Development of a formal reserve mechanism is an efficient way for employers to set aside dollars to mitigate large cost increases in the future. While an employer cannot control what happens in the insurance and healthcare markets, they can make the decision to put themselves in a position to be able to navigate the landscape more efficiently. We are seeing an increasing number of CFOs drive conversations around better managing employee benefits spend as it is becoming one of the largest expense items for organizations.

By writing stop-loss into a captive, an employer can leverage captive savings to focus on initiatives most useful for its employee demographic. We have seen employers use the captive savings for wellbeing initiatives as well as cost control programs focused on disease management for conditions like diabetes or musculoskeletal problems. This kind of structure can then be tied with programs dedicated to population health management, wellness and health advocacy for a robust, employee-first package aimed at gradually reducing claims costs.

Using a captive provides employers access to data in a timely manner, allowing them to better analyze and review drivers of claims, in turn providing them an opportunity to implement measures that would focus on addressing those drivers. While this is possible without a captive, we have seen employers are more engaged when using a captive — meaning they are more likely to create a structured approach to claims and cost management leveraging the captive. In my view, this is because of lack of funds for such initiatives and the lack of a structured risk framework in some cases. Using a captive to underwrite medical stop-loss addresses both of these aspects.

Transparency is one of the core benefits of a captive. Once organizations begin to use a captive funding solution for its medical spend, they usually begin to expand their horizons for other cost reduction initiatives. One such initiative has been carving out drugs (Rx). Using a pharmacy benefit management (PBM) solution can generate additional savings ranging between 15% to 30% of Rx spend. These savings are in addition to those that an employer may recognize by restructuring their funding approach. Further, these savings have a multi layered benefit, reducing the overall medical trend and generating additional reserves for the program to offset possible cost increases in the future. 

In general, large employers are more accustomed to customization and retaining control, so a captive program for medical stop-loss aligns with their needs and enhances their ability to control their healthcare programs. Better data analytics and understanding of claims also provides employers the ability to be more reactive and make necessary changes quickly, in a much more agile setup. A captive provides monthly and quarterly reports which are usually much more detailed and timelier than those provided by a commercial insurer. Finally, adding additional risk to the captive also helps the risk managers develop a more comprehensive understanding of enterprise risk at large.

Conclusion

Medical stop-loss coverage in a captive continues to be a prudent business strategy for companies of all types and sizes. It creates multi-layered protection. Large employers are beginning to realize the attractiveness of such a program, whose advantages have been especially highlighted lately due to market and global economic shifts and conditions.