Captive claims management
Success of a captive depends largely on its approach to the claims process
By Michael J. Moody, ARM, MBA
The decision by a corporation(s) to form a captive insurance company is typically dependent on a number of factors. Many times it is helped along by current insurance market conditions, and/or by a desire to reduce overall insurance costs. Increasingly, however, one of the primary goals noted by many prospective owners is to control their own destiny. And nowhere is this control issue stronger than in the claims management process. This only stands to reason, since claims are the largest portion of the cost of any risk transfer mechanism, and they are typically the most visible aspect as well.
As a result, many corporations embrace the captive concept in large part to gain an enhanced level of control over the claims process. Fortunately, this is one area that can provide significant improvement over an insured program. When claims professionals are employed directly by the captive, as opposed to the insurance company, it avoids the typical conflict of interest that can occur in a traditional insurance program.
First things first
When looking at the claims management issue in total, a key issue is whether the captive will use the services of an outside third-party administrator (TPA) or look to an internal claims program to manage its claims. An important factor is the name used to identify the third-party administrator. While it is part of the culture for these professionals to refer to themselves as TPAs, the days when these people only administered claims are long gone. Today, outside claims service providers need to actively manage each and every claim to gain maximum benefit for the captive. Accordingly, it is suggested that a new name be established that better reflects this broader, more active view of their work product.
In most situations, start-up captives will generally benefit from using an outside service provider for their claims management needs. Whether it is a group captive or a single-parent captive, it is difficult to establish in-house claims expertise during the early stages of the captive’s development. There are typically many other issues that will need to be addressed, and having the additional pressure of implementing an in-house “best practices” claims operation can be overwhelming for new captive owners. That being said, this is an issue that should be revisited by the captive board periodically. While the decision to move this function in-house is predicated to some extent on the size of the captive and the number of claims, it is much easier to embark on this approach as a mature captive, rather than as a start-up company.
Another issue that must be addressed is the captive’s parent(s) position with regard to claims. Obviously, this depends heavily on the line of coverage involved. If the captive is providing medical professional coverage, the captive may view claims settlement quite differently from workers compensation. So, to some extent this will be a moving target that is dependent on the line of coverage. But the captive owner(s) still must decide on its overall claims philosophy. It will need to determine how it wants to control and manage its claims. Regardless of how the captive owner(s) views the issue, it must realize that it still must take active ownership of the claims and resist the temptation to abandon them to the claims manager.
Claims management 101
The specific tasks that come under the general heading of claims management vary from captive to captive; however, there are some basic services that would be included in any package of services. First is claims adjusting. This starts with the initial determination of coverage (Is the event covered by the policy?), liability (Is the insured responsible?), and damages (cost of compensation) that are incurred as the result of a loss. This keystone of claims management typically leads to the setting of case reserves. The establishment of appropriate case reserves is essential to determining the ultimate financial impact of all claims on the captive.
While the actual claims payments will typically account for the majority of claims costs, allocated and unallocated claims expenses will also have an effect on the captive’s bottom line. Therefore it is important to make certain that the loss adjustment expenses are appropriate and directed at resolving the claims. In the financial world, time means money, and that is certainly true with claims management as well. Generally speaking, the longer a claim remains open, the more costly it will become. As a result, there is little doubt about the long-term value of early resolution.
Another important task that is typically found in the captive’s claims management agreement is the timely reporting of excess losses, (i.e., those that exceed the captive’s retention). The claims manger must be able to identify these excess cases early and appropriately advise any reinsurers involved in the captive’s reinsurance program. Most reinsurance agreements require complete and timely notification of any claims that may penetrate their coverage limits.
A task that has taken on considerable importance in recent years is cash flow management. Effective claims fund management typically requires maintaining a balance of cash to pay the bills and putting the remaining amounts to work for the benefit of the captive. Today there are many types of escrow accounts that can be used to better match actual claims payments with available funding requirements.
Other basic services
Control of critical claims data has long been viewed as an important benefit that flows to captive owners. To obtain that benefit, captives need access to a detailed review of the current status of all claims on an interactive basis. This usually necessitates a state-of-the-art management information system. The captive needs to ensure that claims data is available to the captive 24/7, that it contains recent and relevant information, and that it is compatible with the operating systems of both the captive and the captive manager.
When documenting the relationship between the captive and the outside claims service provider, a contract should state the goals, expectations, and objectives that must be met by the service provider. The contract should outline in detail the specific, measurable results that the service provider will be “graded” on. While it may be difficult to measure these factors in the early days of the captive, they can serve as benchmarks going forward. A recent trend regarding compensation for the service provider is to incorporate performance or incentive provisions. It is always best to finalize this agreement in advance of the actual launch of the captive.
Bottom line, effective claims handling will be critical to the ongoing success of the captive. Unfortunately, because some captive owners are not familiar with appropriate claims management procedures, they frequently delegate their authority to either the captive manager or outside claims professionals. This typically is not the most effective way for the captive to achieve long-term success. Captive owners must be actively involved in all aspects of the claims management function. While micromanagement is not needed, active involvement and oversight will always be in the best interest of the captive.
Because claims account for the lion’s share of a captive’s expenses, best practice claims management is one tangible area where captives can quickly distinguish themselves from most traditional insurers. Simply having claims management personnel answer to the captive will avoid much of the traditional conflict of interest that is associated with normal insurance products. Most captive owners, captive managers, and third-party claims managers realize that making the captive a success takes more than just making claims payments, capturing data, and reporting claims appropriately. The ability to control the claims function is one of the major advantages that flows to a captive, so care must be taken to establish an appropriate claims function. *