The Captive Option for Employee Benefits

Insuring employee benefits through a captive insurance organization can save companies as much as 25 percent of program costs.

Until a few years ago, businesses used their captive insurance com-pany primarily to provide coverage for property and casualty exposures such as workers' compensation, general liability and product liability. But recent actions by the U.S. Department of Labor (DOL) have enabled a handful of companies to add employee benefit programs to their captive's risk pool. That opens a promising opportunity -- and raises a host of questions -- for organizations that own a captive and those that are thinking about forming one.

In general, a captive is an insurance company that's owned by a corporation whose primary business is not insurance. The captive provides coverage only for its parent organization. Insuring employee benefits through a captive has been problematic because the Employee Retirement Income Security Act (ERISA) expressly forbids transactions between an employee benefit plan and the plan's sponsor. Any organization that wants to insure its employee benefits through a captive must obtain a prohibited transaction exemption (PTE) from the DOL. Applying for the exemption involves showing, for example, that the proposed arrangement will benefit employees.

The trailblazers in this relatively uncharted area of benefits strategy were Columbia Energy Group and Archer Daniels Midland, the first companies to receive a PTE. Columbia Energy, which has since merged with and become part of Merrillville, Ind.-based utility NiSource Inc., obtained a PTE in 2000 to insure its long-term disability programs through its captive. Archer Daniels Midland's PTE, granted in 2003, allows it to insure group life benefits through its captive.

Soon after Archer Daniels Midland obtained its PTE, the DOL instituted a fast-track approval process for applications that are substantially similar to those submitted by that company and by Columbia Energy. The expedited procedure takes about 45 to 90 days -- a big improvement on the years it took for the first PTEs to be approved.

As a result of the DOL's move, companies are starting to see the captive approach as an increasingly viable option for insuring certain employee benefit programs, such as post-retirement health-care coverage. "Some companies save 25 percent of the cost of [their] programs by insuring them through a captive," reports Karin Landry, managing partner with Spring Consulting Group, a Boston-based captives advisory company. An organization can realize savings in the short term if the premiums it pays to the captive are lower than those it was paying to a third-party insurer. And because long-term disability and group life insurance benefits are typically paid out over an extended period, the gains may mount over time as cash accumulates in the captive and earns investment returns.