2012 Voluntary Benefits Special Report

Captives and employee benefits

While concerns remain, employers need to be conversant with the options available

By Mike Moody

Employers of all sizes have been feeling the pressure of rapidly escalating benefit costs, particularly in the employee health arena. Year after year, medical cost inflation exceeds the traditional inflation rate, sometimes by significant amounts. As a result, self-funding medical benefits is nothing new; it has become a favored option for just about every U.S. employer with 50 or more employees. It has proven to be an excellent, cost-effective method of reducing, to some extent, the double-digit medical cost inflation factors that have plagued this line of coverage for the past 30 years.

In addition to cost reductions, self-funding requires a few actual plan changes to be implemented. These changes are, for the most part, transparent to employees. One of the few issues surrounding this approach has been the availability and affordability of stop-loss coverage. As a result, it was only natural that employers would be interested in gaining an element of control over this all-important coverage. For the past two to three years, this is a topic that has been on the to-do list of many human resources directors.

On a related note, captive owners, primarily risk managers and CFOs, have also been looking for ways to make better use of their captives. Since early 2000, a few captive owners have been using their captives to reinsure some of their parent's employee benefit programs. To date, these have been typically limited to term life, AD&D, and long-term disability coverages. It should be noted that using a captive for these types of coverages, which are considered ERISA-related coverages, can be an onerous task, since it requires the approval of the Department of Labor (DOL). As a result, there are only about two dozen corporations that have taken the time and expense required to qualify under the DOL regulations.

Concerns remain

It would really be great to think that there were legitimate ways for an employer to try to reduce his cost of providing employee benefits. It always appears that for every step forward, an employer is forced to take two or three steps back. Take, for example, the issue of stop-loss coverage for self-funded medical insurance plans.

As noted previously, self-funding has been utilized for years as a technique for employers to better control their cost of employee health care. What is new is the attempt to better manage the stop-loss coverage element of the self-funding option. This is a new development that has been gaining interest over the past several years.

It originally started with an attempt by a federally mandated, state-approved risk retention group (RRG) that was established to write group coverage for stop-loss insurance. The RRG had been licensed in Montana and wished to transact business in California, among other states. However, the State of California did not agree and issued a "cease and desist" order. To cut an extremely long story short, while many industry experts believed the RRG was correct, they did not have the funds to fight the order, so the RRG stopped writing the coverage.

But it did not end there because the California Insurance Department has now begun casting a critical eye on the whole stop-loss insurance industry. Apparently, the department became concerned about what it saw because, shortly after reviewing the situation, it introduced SB 1431, the primary purpose of which is to prohibit stop-loss insurance with specific attachment points lower than $95,000 for employers with 50 or fewer employees. The specific attachment point applies to individual claims, rather than those that apply to the account as a whole, which are known as aggregate limits. The fate of this state legislative effort remains unresolved at the time this article was written.

Additionally, now federal regulators also have recently shown a renewed interest in stop-loss coverage. To this end, the DOL has developed a "Request for Information" notice regarding stop-loss insurance. According to the DOL, the purpose of the request is to gain "a better understanding of the current and emerging market for stop-loss products."

Things can only get better with regard to using a captive for term life, AD&D, and long-term disability—correct? After all, while the DOL has not welcomed this concept with open arms, it has helped lessen the approval process. Several years ago, after two companies had been approved, the DOL instituted what they call their expedited approval process—EXPRO for short. Essentially, as long as an approval request is substantially similar to prior approvals, the DOL will complete the approval process within 90 days or less. This expedited procedure is certainly a major advantage over the non-EXPRO approval process.

Without question, this EXPRO feature has encouraged many of the companies that have recently applied to the DOL for approval. Clearly, interest is high among corporations that want to be able to utilize their captives to their fullest extent, while lowering the cost of their employee benefits. In fact, over 80% of the captive insurance company owners who participated in a recent Captive Insurance Companies Association's (CICA) annual survey reported placing "only" or "some" employee benefits in their captives. According to CICA, this is a significant increase over prior years. Previously, CICA notes, captive owners showed only minimal support for this concept. Many industry observers believe that including employee benefits within a captive is a win/win situation for the captive's parent, and will increase significantly in the next few years.

No discussion of the state of the market with regard to captives and employee benefits would be complete without mentioning the 800-pound. gorilla in the room. With the passage of the federal Patient Protection and Affordable Care Act (PPACA), the Administration has created many unknowns with regard to employee benefits in general and, more specifically, where captives fit in. Many of the provisions of PPACA are to be phased in over the next year or two, thus leaving many details of the final version of the Act unknown. As a result, long-term planning has suffered. Added to that is the fact that some of the Act's provisions have already ended up in the Supreme Court to determine their legality. This all leads to a number of unresolved issues. And if that were not enough unknowns, the national election being held later this year will also serve to intensify the unidentified issues that are left to be resolved.

Conclusion

A quick read of this article may lead one to the conclusion that employee benefits and captives are somewhat akin to oil and water. But that is not the correct conclusion. First of all, employee benefits are just too large an expense for any company to not fully explore every viable opportunity to control costs. At this point, captives remain one of the most effective opportunities for funding employee benefits.

More important, it is necessary and consistent with the whole idea of enterprise risk management that the captive utilization needs to be viewed from a holistic perspective. The employee benefits issue is not just a human resources problem or just a risk management problem. Rather, it is a classic enterprise problem which needs to be solved at the corporate level. Captives should routinely serve as the focal point for any ERM program and be used to cover as many lines as practicable.

Obviously, there are a number of unresolved issues with regard to employee benefits being included in a company's captive. However, most of these issues should be settled in a matter of months, and corporations will need to be in a position to move quickly to take maximum advantage of any resulting change. At the end of the day, there is little question that captives have played and will continue to play an important role with regard to funding employee benefits. This is one of the reasons why any captive option needs to be considered from a strategic viewpoint and its long-term effects fully analyzed.

Employers and their brokers who start this strategic planning process in a timely fashion will be in a much better competitive position than those firms that merely take a "wait and see" position.