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By CYRIL TUOHY, managing editor of Risk & Insurance®

BURLINGTON, VT. -- Corporate risk managers are using captive insurance companies to cover medical liability risks, as hospitals buy doctors groups and large physicians groups merge with smaller competitors under economic pressure from health care reform. That was the view of Vermont captive insurance officials at the mid-August conference of the Vermont Captive Insurance Association, which drew more than 1,100 attendees -- up about 10 percent from last year.

"We think the market is really heating up," said Dan Towle, director of financial services for the state of Vermont, which has registered 14 new captives so far this year.

Last year, The Community Hospital of the Monterey Peninsula formed its first captive, the Central Coast Community Mutual Insurance Co., in Vermont. It was one of six health care captives among the 41 newly licensed in Vermont last year. There were a total of 94 heath care captives active in Vermont in 2011, trailing only manufacturing with 103 captives.

Vermont leads the U.S. in onshore captive formations with 582 active captives writing $26.1 billion in premium. There were 94 health care captives active in the state at the end of last year, second only to the 103 manufacturing captives active there.

Captives serve as an in-house insurance company owned by a parent corporation. They are used to cover traditional property/casualty insurance risks such as general liability and workers' compensation. Third-party risk, or risk from the liability of someone other than the insurer or the insured, can also be covered by captives. In the context of medical institution, a third-party risk might include attending physicians with limited hospital privileges.

Despite lower profits generated by the U.S. captive insurance industry last year due to low interest rates and low insurance prices, net written premium in 2011 was up 9 percent to $8.35 billion over the previous year, A.M. Best & Co. Inc. reported in August. Higher premium levels are a sign that captives are doing more business.

Captive profits often fall when prices are soft and companies can find coverage in the standard insurance market to cover their exposures.

Beyond the increase in the use of captives to cover medical liability risks, it is hard to draw conclusions about the direction of the captive market overall, experts said.

In some states and for some lines, such as errors and omissions coverage in Pennsylvania, the market has clearly hardened, Towle said. Similarly, workers' comp around the country has also hardened, but price increases in many other lines remain spotty.

As a result, risk managers are toying with how much coverage and in what states they should use their captive to cover their exposures.

"There's talk about how much flow into the captive with regard to these risks," Towle said at the conference.

Vermont industry officials also said risk managers have talked about using captives to cover the liabilities associated with data breaches to computer networks, and the exposures connected with social media. But so far, it remains just that -- talk. "I've heard cyber being an issue for the captive. People are thinking about it," said VCIA President Richard S. Smith.

For the time being, prices charged by insurance companies to cover liabilities associated with data breaches remain competitive and the retentions are still not large enough to place cyber risks into a captive, Smith said.

The shrewdest companies set up their captives during a soft market, so as to be prepared when prices in the traditional market rise.

"When the hard market hits, everyone says, 'I need a captive,' but those that form for the long-term are the most successful," Towle said.

August 14, 2012

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