Insurance: Optimism despite headwinds for healthcare captives

Despite increasing competition from both onshore and offshore jurisdictions, reinsurance overcapacity and a soft insurance market which typically mean a disadvantageous environment for captives and other forms of self-insurance, Cayman’s insurance industry is confident that a recent decline in the number of captives is just a development phase that will ultimately lead to a stronger local insurance market. 

Consolidation  

In the past 12 months, the number of captive insurers registered and managed in the Cayman Islands has fallen from 765 to 711.  

Kieran O’Mahony, the chairman of the Insurance Managers Association of Cayman, says the main reason captive numbers are down is because the U.S. Affordable Care Act has caused a consolidation in the U.S. healthcare industry, which translates into a consolidation of captive insurers. “We are seeing healthcare systems merge due to a drive for synergies and economies of scale, so where there were two or even three captives heretofore associated with the healthcare systems, now post-merger, only one remains, which reduces the overall number of captives.” 

He believes that this situation will continue for the immediate future, due to Cayman’s strong focus on American healthcare captives, which are now impacted by regulatory change and market shifts in the U.S. 

“Cayman can be viewed as being a victim of its own success, if only the absolute captive numbers are taken into account, but that is just one aspect,” he says. 

And the change in the absolute number of captives caused by consolidation is not all negative, he adds, as the enduring captives are larger, better capitalized and ready to write new lines of business.  

“There is an increase in the size, capitalization and usage of the remaining captives as they take on new and expanded areas of risk that would not have even been contemplated a mere five years ago – such as cyber, non-employed physicians and employee medical stop loss risk.” 

O’Mahony argues it is essentially a chance for captive owners “to revalue and reboot their captives.”  

Competition  

Meanwhile, there is no question that competition has increased in the market. There are about 65 captive domiciles worldwide, among them 38 U.S. states that have introduced some form of captive legislation, and they are pushing hard to win some market share from international domiciles.  

Adrian Lynch, managing director at Aon, says there is definitely “more noise” and existing clients who are quite comfortable in the Cayman Islands are now being asked by their stakeholders: “Have we examined the possibility of re-domiciling our captive into the U.S.?” 

“We at Aon are proactively bringing that topic up with our clients at board level,” Lynch says. 

Directors should be asking the question, he says, and it can be a “cathartic experience” to reaffirm with clients that they are satisfied to remain in Cayman because it has the necessary infrastructure, top-quality insurance management, underwriting, claims, auditors, actuaries and the appropriate regulatory environment. 

“Some of our clients are addressing that. Fortunately, we have no clients who have re-domiciled from Cayman to the U.S.”  

But there were a couple of cases in the industry, which received more attention than they deserved, he says, “because we are also still getting questions from clients who want to move offshore.”  

For Lynch, it is less a reputational issue than a regulatory one. U.S. regulators with a mandate to grow their jurisdiction will always first target the largest organizations in their home state, who have captives offshore or plan to set up a captive, with the promise of matching what Cayman is providing in terms of regulation. 

Yet, in some cases captive owners feel the representations made to them in terms of the architecture surrounding the captive were not fulfilled and they now look at moving offshore to a more established jurisdiction, Lynch says. 

O’Mahony agrees that there is significantly larger competition. The pie has increased as well, he notes, especially as a result of newer domiciles focusing on micro captives, which are driving much of the growth in the absolute number of captives particularly in the U.S.  

These captives are not comparable in scale and complexity to the traditional Cayman-type captive but it affords newer domiciles the ability to build experience in the captive business and perhaps establish a base to attract larger captives in the future. “So that is something that we are definitely competing with,” O’Mahony says. 

Tax  

As far as reputation is concerned, tax is by far less of a defining feature for captives today than it was in the distant past and, O’Mahony says, tax and offshore are largely misunderstood in this context. Most of Cayman’s healthcare captives are not for profit and thus tax is not a driver. Even among the for-profit captives, both healthcare and non-healthcare, that have U.S. shareholders, the vast majority voluntarily elects to be taxed as if they were based in the U.S. under the 953(d) Tax Election of the U.S. Tax Code. 

Aon’s Lynch adds that in a sales capacity he never made captives about taxes. “Ultimately, we knew the world was moving towards leveling the playing field for taxes.” 

Instead, captives are used to provide tailored coverage that is not readily available or adequately priced in the traditional insurance market. Captives are essentially a tool that allows the owners to manage risk and control losses in their own insurance company, with direct access to the reinsurance market and often at reduced costs and lower premiums that would otherwise have to be paid to a third-party insurer. 

“The captives that are here and that want to be here know that Cayman is the premier domicile for healthcare and for other specific types of captives, such as group captives (for SMEs) and SPCs, as well as commercial carriers international insurance, reinsurance and life and annuity companies,” says O’Mahony. 

The institutional knowledge that exists in Cayman among insurance manages, the regulator, auditors, bankers, lawyers and investment managers acts as a magnet for captive and commercial carrier formations, despite the competition, he adds. 

“So, yes, we are facing much increased competition, but we still have our assets and our skill sets that make us unique and we have to work smarter, harder and longer to keep what we have and to weather this headwind that we are facing mainly on the healthcare side.”  

The proliferation of captive domiciles also makes talent attraction and retention more of an issue. 

Compared to 20 years ago when all the insurance and reinsurance talent of the world was working in a handful of main centers – such as Bermuda, Dublin, London, Cayman and Vermont – now the talent pool is diluted and spread across several dozen states, says Lynch. 

“This is not necessarily good for a jurisdiction when you are trying to have the best minds driving forward change and innovation.”  

Regulation  

There is additional pressure on the industry, regulators and legislators to continuously keep up to date with market demands. Lynch, who returned to Cayman after having worked in Dublin, Bermuda and New York, says the industry in Cayman has perhaps not driven on as much as it could have. Case in point: New segments of the industry, such as insurance-linked securities and hedge fund reinsurance, started out in the Cayman Islands but only really got traction in Bermuda. 

“I think as an industry and as a regulator and as a jurisdiction we have to ask ourselves the hard questions: what should we have done better to attract that industry?” he says. 

Nevertheless, Lynch now sees a hunger among the insurance players in Cayman to drive the industry forward. “I have no problem with competition because I believe that a rising tide lifts all the boats and we all have to step up our game.”  

Finding and maintaining the right level of regulation is a difficult task for any jurisdiction. Cayman’s regulatory environment is measured, says Lynch, but it also needs to be proactive and forward thinking. “You need to have a regulatory environment that is not too onerous.” 

Captives do not need the same type of supervision as retail insurers where consumer protection is paramount. And it is a fine line between regulation that is not placing too much burden on the market participants and the undesirable perception of “light touch.”  

Another difficulty is to design regulation with an awareness of the effect it has on an operational level.  

Cayman, like all domiciles in the U.S., Europe and further afield, is also caught between international pressure to increase regulation and the commercial sensitivities of industry stakeholders.  

“Sometimes, international bodies will put out papers and pronouncements that have a bit of a broad brush one-size-fits-all approach,” says O’Mahony. “And then it is for us as a Cayman Islands insurance industry, regulator and government to liaise and shape and adapt those regulations to what we are doing here.”  

It is important to note, he says, that Cayman has been at the forefront of these developments and is punching above its weight on international bodies, such as the International Association of Insurance Supervisors, of which CIMA is a founding member and steering committee member. 

O’Mahony notes that Cayman has proportionate, risk-based regulation. In other words, a level of regulation for captive insurance companies that is in line with their size, complexity and scope and that differs significantly from regulation of large international retail insurers that write life, motor or property policies to the masses. “That is a completely different world and it is a completely different level of oversight, regulation and capitalization that is required of them and rightly so.” 

The fact that Cayman in over 40 years with a total number of around 3,750 captive licensees issued has only had a handful of captives enter into involuntary liquidation is evidence of a well-managed and well-regulated industry, he says. 

“What we are doing here works. But there is a new world out there for all domiciles vis-à-vis increased regulation. We have just got to make sure that there is no overkill for what we do here; and that we adopt the best and relevant aspects of [regulation].” 

Domestic regulatory matters  

CIMA has been without a full-time head of insurance supervision for nearly two years and efforts to find a replacement have been problematic. In response to questions from the Journal, CIMA said it is no secret that the regulator is not able to match the comprehensive salary and benefits packages offered in the private sector. “In addition, quality insurance regulators are scarce resources,” the Monetary Authority said.  

O’Mahony says it is not a calamitous issue, because there is an acting head of insurance supervision, Morag Nicol, who is “highly respected in the industry” and has “huge experience.” 

“The continuity is there. Yes, ideally we would have in place a [permanent] head of the insurance division but it is not just based on any one individual. There is a whole system there, there is a whole division there and they have been there for many years. The division functions as a whole and is not dependent upon any one or two individuals.” 

New types of coverage  

O’Mahony says Cayman is well positioned with its proportionate, risk-based regulatory environment and proven track record to partner with healthcare systems to provide innovative solutions to the new, larger and more integrated and complex healthcare systems.  

Cayman captives are already used to underwriting new risks, such as cyber risks, that are insufficiently covered in the traditional insurance market. 

“There is a large gap in cyber capacity at the moment,” Lynch notes. “The world is so hyper-connected where an argument can be made that a loss from a cyber perspective can infect every other insurance that you have. And until that fear dissipates and until people have more clarity around where those losses are going to occur, there is not going to be enough insurance capacity available in the market.” 

He also sees activity in directors and officers liability insurance. 

“D&O coverage is so specific and includes so many exclusions that directors and officers around the board table realize that their responsibility has increased so much in the last number of years. There is recognition that it is not a case of if but when a claim happens and many captives now are trying to build up a war chest.” 

There is ample evidence of Cayman captives taking on new risks by including non-employed physicians in healthcare cyber risk and medical stop loss for employees, O’Mahony concludes. 

“There are new lines of risk that captives in Cayman are looking at: different risk profiles that are constantly being reviewed,” he says. “If it makes sense and it is manageable and quantifiable, then Cayman is open and willing to consider captives writing these risks.” 

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Adrian Lynch

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Kieran O’Mahony

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