Why the medTRANSCaptive Program is the Best Choice For a Medical Stop-Loss Captive Participant
Are you or your clients considering a medical stop-loss captive? While there are a plethora of options available, not all captive programs were created equal. To help youchoose the best program possible, here are a few distinctive differences which set our stop-loss captive program apart from the others.
Fronted v. direct writer: why direct is best
Within captive lingo, a “front” is a licensed, commercial stop-loss carrier who issues a stop-loss policy to the client (captive participant) and the captive reinsures the commercial carrier-issued policies.
While this model is the easiest captive program to start, it is debatable if the fronted medical stop-loss captive model is really the best, most cost-effective solution for all parties involved. Though many businesses investigate the feasibility of a captive with the desire to manage their risks better and more efficiently than a commercial carrier, evidence does not tend to support the theory that a fronted medical stop-loss captive will grant captive owners more control. And here’s why:
The stop-loss carrier issues the stop-loss policy on the carrier’s “paper,” which means that state regulations require that carrier to comply with various state mandates, tax and compliance costs. Additionally, the underwriting (pricing of the policy) is subject to the carrier’s underwriting manual. This raises an issue because it means that if the carrier has an underwhelming year in profits, it will result in a tightening of rates within their underwriting manual – therefore costing the captive more.
Additionally, the carrier charges a “fronting fee” for each policy, usually 3 to 6% of the policy’s premium. This fee is to “rent,” or access, the carrier’s paper; in other words, if the captive becomes insolvent, the carrier simply assumes the stop-loss policy and premiums as if it were a directly written policy. This means that the captive participant will quickly see these costs reflected should they receive a direct quote from the fronting carrier.
The direct model, on the other hand, is more efficient both in terms of cost and delivery. By carving out the commercial fronting carrier, the direct model frees the captive from misaligned interests between the stakeholders (captive members) and the commercial carrier. Thus, the direct writing captive does not have the weight of the shareholder’s profits impacting the price of their policy. While the principles of underwriting remain largely intact, they are simply more aligned with the captive’s organizational culture. Policy underwriting is generally supported by lower operation costs, which allows more stop-loss dollars to go toward the actual claims.
To sum up, fronted captive models may be easier to start than direct models, but they typically lead to higher administrative costs and a general lack of underwriting (or pricing) control for the captive owner. While a typical fronted-stop loss captive has an embedded expense ratio of 50%, our expense ratio is less than 38%, not including our excess profit-sharing agreement with our excess carrier or our risk pool charge, which is 100% owned by the pool’s members. If you subtract these profit-sharing opportunities, or expense ratio is well less than 35%. With a lower embedded fee, our program costs members 15% less than traditional fronted captives and typically over 10% less than commercial stop-loss carriers.
A safer risk pool to “swim in”
Risk pools are the core of insurance – all policyholders pay a monthly premium to the insurance company so that when there are claims, the carrier reimburses the insured. This is what creates the risk pool – everyone shares the cost of risk. When you buy insurance from a commercial carrier, they own the risk pool and protect it by underwriting each of the businesses participating in the risk pool.
Unfortunately, every bushel has a bad apple – every risk pool has the potential for a business who joins the pool seeking a lower cost opportunity without fully understanding the importance of risk mitigation. A company that is not actively controlling risk puts every participant in the pool at greater risk – making them the proverbial bad apple.
Fronted captive models increase the effects of a bad apple on the rest of the bunch more than a direct model does – when a member of a fronted captive does not effectively manage their risk, they are costing every member of the pool a percentage of profits. For instance, think of a group captive within the fronted model as a fleet of vehicles. None of these vehicles have their own gas tank; rather, they are all sharing a single tank of gasoline. Some of these vehicles are electric cars, which use up no gasoline – these are the equivalent of companies that actively mitigate their risks and avoid making claims. Other cars are SUVs and mid-size vehicles that take up a moderate amount of gas. Then, there are cars who drive at a faster speed than all of the vehicles, causing them to take up a disproportionate amount of gas from the other vehicles. Because of these cars’ reckless driving, every other vehicle in the fleet is able to use less gas.
Our approach is different. With the direct model, each vehicle (or member) has their own gas tank. Even if they drive fast and use up a lot of gas, they are using up their own gas, not the entire group’s. Each member of our captive program can choose how much gas they want to spend – they are in direct control of the speed at which they want their business to operate. However, like with any group structure, they will have access to the shared gas tank if they ever get a flat tire. This means that if and only if an individual member’s stop-loss claims exceed their individual budget, they can dip into the shared profits – and the other members will absorb what remains.
In other words, our model is essentially a multitude of individuals that make up a group, rather than one big unit like a traditional group captive. Each individual in the program has their own budget for stop-loss claims. With the exception of certain cases, when a claim is filed, only that particular individual’s budget is affected.
Lower fees & more ownership
Fronted group captives are fee-intensive. With fronting fees, admin and bordereaux fees, taxes (federal income, state premium, domicile premium taxes& federal excise tax if offshore) and captive management fees, a fronted captive is the most costly stop-loss captive model.
As a direct writer, you are no longer responsible for all of these additional fees added by the fronting carrier. As captives are designed to 1) lower frictional cost of stop-loss placement and 2) create underwriting profits for the captive/insured.
Not only is our direct writer program more cost-efficient, with less tax burdens than a fronted captive, we are 100% owned by the members. While it is not necessarily bad for a captive to be owned by someone other than its members, aligning the motivations of all stakeholders, including service providers, with that of the members is always a positive. We conduct Board meetings twice annually, and all of our members are welcomed to participate in the discussion. That way, we ensure that our shareholders are fully invested in the captive’s mission, and that every member’s voice is heard.
No policy term shenanigans
Joining a captive for the first time can be difficult for anyone used to fully insured policies. With non-captive insurance programs, the terms are typically simple and straightforward; for instance, a common policy term is 12 months. Medical stop-loss policy terms, on the other hand, are more complex – the various terms include 12/12, 12/15, 18/12, terminal liability and so on.
First time captive buyers are often attracted to 12/12 policies because they are the least expensive to purchase. However, a 12/12 policy can end up costing you far more later on, due to what is called a “claims lag.” If a covered employee incurs medical expenses on the last day of your policy term – say December 31st – the medical provider or facility will most likely take 15 to 45 or even 60+ days to submit the claims. With a 12/12 policy, the claims incurred on December 31st will not be covered by your policy because it is not considered to be within your policy term.
When this occurs, the buyer will usually go on to purchase an 18/12 policy at renewal, which is referred to as a “run in” policy term. This puts the buyer at a disadvantage because the stop-loss carrier (even a captive) knows that a new stop-loss carrier will not want to inherit claims risk from the prior carrier; therefore, the carrier is likely to price the new policy higher to protect itself from claims risk. Think of it this way: you’re not likely to be able to purchase cost effective homeowner’s insurance while your home is on fire.
This is why the best investment is a 12/15 stop-loss policy, as this allows the buyer to shop for the best policy at the time of renewal. It also enables the renewing carrier (or captive) to issue a policy premium which best reflects the incumbent risk. In the long-term, a 12/15 policy term affords the buyer the greatest flexibility at renewal and grants the issuer (carrier or captive) straightforward pricing.
We want to make joining a captive as easy as possible, so we never offer a 12/12 policy term or a terminal liability policy to our buyers unless they specifically request it. If a prospective buyer is coming off of a 12/12 policy, we recommend a 15/15 policy, which is both a “run in” and “run out” policy term – 3 months of run in coverage, 12 months of coverage, and 3 months of run out. While this option is more expensive, it puts the buyer in a better position upon future renewals and, with our risk pool model, it is more advantageous for the member than a traditional fronted captive. For instance, even though the 15/15 policy may cost $100 or more than an 18/12 policy, our model ensures that the extra amount goes into that individual member’s claim silo, not to the group.
While it is ultimately up to the buyer to fully understand their policy terms, we act as advocate for our members to help make purchasing an initial stop-loss policy as smooth as possible, as well as enabling them to make an informed decision at policy renewal time.
Being big is not a bad thing; in the Direct Writer model
In a traditional group captive, being the biggest is not always the best. Think of the fleet of vehicles sharing a single tank of gas. The largest member would be contributing the most amount of gasoline to the tank of a monthly basis; however, the largest vehicle is not necessarily the one using up the most fuel – this would be the reckless car that is driving faster than all of the other vehicles. So, you are essentially paying disproportionately more than other members to fund their losses simply because of your size. To put it in real world terms, if the average monthly stop loss premium paid to the captive is $25,000 and you, as the largest member, are paying a $40,000 premium, you are contributing 2/3rds to the pool to fund the claims made by all members of the captive.
However, our model is much more friendly to larger members. As you recall, each member of our captive has their own “gas tank,” or stop-loss claims budget – each member must first deplete their stop-loss claims budget first, and only then will other members of the group pitch in to fund their claims. Most importantly, members who have not exhausted their claims budget assist only on a quota share of their contribution of the overall underwriting profits of the group. For example, if there are 100 members with a total of $1,000 overall underwriting profits and one member contributed 5% of the $1,000, they also contribute only 5% toward the total losses of members who have exhausted their stop-loss claims budget. Therefore, our model is not designed to make larger members pay a disproportionate amount; whether you have 20 employees or 20,000, the amount you pay is driven by how much you’ve contributed to the group’s overall profits, not by your size.
In conclusion, our unique model eliminates many of the cons that come with the typical stop-loss captive program by allowing each member to be largely in control of their own payments, their own claims and their own future, rather than burdened by every other member. Only in certain cases, when an individual members exhausts their claims fund, is risk shared among the entire pool. By participating in the medTRANS medical stop-loss captive program, you’ll have less fees, less risk, more ownership and more control. What’s more, you’ll have a group of individuals advocating for you every step of the way.