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By CYRIL TUOHY, managing editor of Risk & Insurance®

After years of discussion and lobbying by the Tennessee captive industry, the Volunteer State has finally updated its old captive law to make the domicile competitive with many of the industry's domiciles.

There's little doubt, however, that the Volunteer State has turned itself into a contender for U.S. companies looking for a Southeast domicile, or even for companies thinking of redomesticating from Bermuda or the Cayman Islands.

All of a sudden, Tennessee has cropped up as a serious alternative to South Carolina and Kentucky.

"All the captives in the Southeast that want to stay onshore are looking at Kentucky and South Carolina, and will now put Tennessee right alongside, and Tennessee will stack up pretty well," said Brady Young, president and CEO of Strategic Risk Solutions, a captive management company that manages captives in 13 domiciles.

For Tennessee-based companies, of which there are more than 300 each employing 500 employees or more, setting up a new captive in the state is a no brainer, so long as they want to stay close to home.

And there are some very big companies located in Tennessee. Nissan North America Inc., with employees in Smyrna, Franklin and Decherd, and Nissan Motor Acceptance Corp. in Nashville, together employed more than 11,000 people, according to a 2008 report issued by the Tennessee Department of Economic and Community Development.

FedEx, another of Tennessee's major employers, has more than 5,000 people working in Memphis and Collierville. Eastman Chemical Co. Inc., located in Kingsport, employs more than 10,000 people.

Many of these corporate giants already have captives, of course, so the new law will likely not affect the short-term plans of big companies with existing captives.

Companies looking to set up new captives, however, will examine Tennessee closely if they want to remain in the Southeast, industry experts said. Because large companies are already in the state, so are the professionals who know the details of managing captives, accountants, lawyers and captive managers.

Tennessee will be "first and foremost" attractive to companies headquartered there, "assuming the state does a good job regulating the captives," said Nancy Gray, regional managing director of Americas Aon Global Insurance Managers.

The new captive law, which went into effect July 1, updated a previous law that had been on the books since 1978.

Tennessee's original captive law allowed companies to set up pure captives, trade association captives, industrial insured captives and risk-retention groups.

The latest upgrades broaden the law. The law allows companies to set up segregated cell portfolio captives, branch captives and special purpose financial captives, said Kevin Doherty, president of the Tennessee Captive Insurance Association.

Branch captives can write any business they like under the new Tennessee legislation, compared with Vermont's law, which allows branch captives to cover only benefits risks, he said.

Tennessee Gov. Bill Haslam, who led the initiative to update the regulation, said a broadening of the law represented a more modern approach to this risk- transfer portion of the insurance industry.

Doherty also said that companies that qualify to be self-insured will be able to write workers' comp through the captive. "Companies that find it attractive will be ones with a large number of employees," Doherty said.

The first license under the updated captive law was issued in September and several more "are in the pipeline," sources said.

On Sept. 2, the state announced that Park View Insurance Company, a pure captive for HCA Inc., a Nashville-based operator of hospitals and health systems nationwide, received the state's first captive license since passage of the law, according to the Tennessee Department of Commerce and Insurance.

"The revision of the law to be on par with other states is significant," said Tennessee Department of Commerce and Insurance Commissioner Julie Mix McPeak, in a statement on the department's website announcing the Park View deal. "It modernizes our regulatory framework and helps Tennessee compete with other states."

"With the captive application being signed today and more modern regulation in place, Tennessee begins the process of again being a state sought by companies here and elsewhere to be the home for their captive insurers," Haslam said.

The bill was passed by the Tennessee Legislature in May with almost no opposition, Doherty said. Gov. Haslam signed the bill into law in June.

Park View Insurance Co. is the fourth captive licensed in the state, Doherty said. The law will help Tennessee, already a high-ranking destination for corporate relocations, compete more effectively with neighboring states, she said.

Several other captive licenses are under review by the state's insurance regulators, industry sources said, and the latest statistics on the rebirth of Tennessee-licensed captives are likely to be announced at the inaugural conference of the Tennessee Captive Insurance Association, December 6-7 in Nashville.

South Carolina, located southeast of Tennessee, has built a successful captive insurance industry over the past 10 years. As many as 160 licensed captives operated there at the end of last year.

To Tennessee's immediate north, Kentucky has specialized in attracting the "microcaptive," Brady said. At the end of last year, the Bluegrass State reported 127 captives.

"They are not going after the microcaptive market so there's no head to head with Kentucky and Utah," Brady said. "I give them a fighting chance."

Parent companies looking to set up captives consider geography a more important factor than in the past because of the weak economy and tighter budgets, Gray said.

"If you have a large company headquartered in Tennessee, then there may be a preference to domicile their captive in that state or with a domicile within their geographic region," Gray said.

It often takes two or three years before a domicile sees momentum in terms of new formations, Gray said. Tennessee should see several new formations in the next two or three years. "Tennessee will give South Carolina and Kentucky some competition, no doubt about it," Gray said.

Despite very soft rates in the traditional market, which tends to dampen new captive formation, health reform has many companies looking at using their captive to fund benefits.

Other companies have decided to bring their captive onshore to the United States from an offshore location as the U.S. Treasury Department looks to close tax loopholes to help fill budget shortfalls.

In a captive industry report released by A.M. Best & Co. in August, Assistant Vice President Steven Chirico said that while new captive domiciles are finding it difficult to establish a presence, well-established ones are updating their legislation to adapt to industry's needs.

Delaware is considering changes to its captive laws, and New Jersey earlier this year signed into law its first captive.

Top product lines insured by U.S. captives in 2010 were medical professional liability, followed by other liability risks, commercial multiperil risk, auto warranty and workers' compensation risks, according to A.M. Best.

The U.S. captive industry turned in a good year in 2010, a sign of recovery in underwriting and net investment income, the report said. Profitability jumped by 49 percent and policyholder dividends were up 73 percent compared with 2009, for the 194 U.S. captive insurance companies followed by A.M. Best.

"Captives' short-duration, high-quality asset portfolios have recovered substantially from the recent financial crisis, bringing most captives' investments back to pre-crisis levels," the A.M. Best report said.

Pure captives, which insure only the risks of their parent companies, are best able to withstand soft markets because of their financial flexibility, A.M. Best said.

Group captives, which insure risks belonging to a group of companies, have less financial flexibility. Some group captives have seen decreases in written premiums in 2010 compared with 2009, A.M. Best said.

November 1, 2011

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