Medical stop loss for single parent captives

Accumulate and deploy surplus to reduce costs

Funding layers of medical stop loss coverage through a captive, as opposed to simply paying claims within the same layers from general assets, allows the employer to more easily recognise and deploy surplus attributable to underwriting profit and investment returns attributable to the funding of these layers.

Adding medical stop loss to a captive enables an employer to capture underwriting profit when losses are less than projected, accrue investment income on premium reserves, and stabilise rates and the cost of risk over time.

Surplus derived from the underwriting and investment return from the captive can be returned to the employer more efficiently in the form of dividend distributions or strategically deployed to offset future costs or expand benefits to employees or retained within the captive to smooth financial volatility associated with other lines of coverage.

Enhanced cash flow management

The disciplined funding and loss reserving required of a captive can help to smooth the impact of loss-sensitive programmes on cash flow and budgeted results. Rather than paying for claims out of general operating funds or expensing them as they arise, the insured instead funds a fixed annual amount to the captive, and the captive accrues for the expected claims costs; this serves to smooth annual budget impact through required reserving practices.

A frequently cited objective for captives is to build loss fund reserves over time to offset large ongoing medical claims that could otherwise be isolated (ie, “lasered”) for a higher specific deductible, relative to that of the rest of the insured population, by a stop loss carrier. The captive loss fund may be utilised to absorb large claim lasers and more effectively convert large, ongoing medical claims into a more budgeted expense.

Increased market responsiveness and expense efficiency

The medical stop loss market overall is highly competitive but renewals and rates at some retention levels can be subject to increased volatility depending on the prevailing medical environment and claims patterns associated with any specific employer. Annual medical losses can be unpredictable. A bad loss year is likely to be followed by premium increases dictated by the insurance carrier.

The flexibility afforded by accumulated captive surplus can help the employer manage its future insurance costs. As the captive loss fund builds, the employer can leverage surplus and more readily adjust how much risk it opts to retain in the future. This ability to adapt based upon changing market conditions will enable the employer to further decrease its dependence upon the commercial insurance market.

A single parent captive can also facilitate access to more efficient capacity by purchasing necessary coverage as reinsurance rather than insurance that is likely to have higher policy costs and more restrictive coverage terms. Since medical stop loss is not a statutorily mandated coverage, single parent captives do not usually need to be “fronted” by an insurance company.

The captive itself is recognised as an insurance company by its domicile and can issue a stop loss policy to its own parent, ie, the employer. As reinsurance, much of the expense associated with the issuance of an insurance policy (front fees, premium taxes, collateralisation, and so forth) has been stripped out, thus reducing the cost of coverage. Being able to purchase stop loss as reinsurance is usually the most efficient structure for single parent captives.

Medical risk management and cost control: critical to success

Just as self-insured casualty programmes utilise loss control techniques to improve employee safety and mitigate claims, it is essential for self-insured healthcare plans to employ effective cost-containment measures.

Initiatives such as large case oversight, centres of excellence for complex conditions, negotiated provider discounts, and free standing direct provider delivery arrangements, have proved effective for reducing the cost of claims. Referenced-based pricing schedules that target specific, high-margin cost drivers (such as infusion therapies, diagnostic imaging, durable medical supplies, etc) will also generate significant reductions.

Carving out prescriptions to specialised prescription benefit managers that practise full transparency and pass through all discounts, coupons and rebates to the client can also generate substantial savings within one of the highest cost components of a self-insured programme.

Newer initiatives, such as employee wellness programmes and predictive modelling, strive to preemptively reduce claim expenses by improving the overall health of the employee population. Increasing employee wellness will help significantly decrease the cost of providing employee healthcare coverage—not immediately, but over time as the effects of the wellness programme develop.

There will be some increased fixed costs associated with the implementation of risk management initiatives, but the savings generated by the corollary reduction in claims costs—a much larger expense—will more than offset the initial expenses.

In short, self-funded programmes and especially captives have increased latitude for implementing innovative risk and cost reduction initiatives.

Enhance enterprise risk management

Data analytics can be also utilised as a tool for the employer to track the financial performance of its decisions. Having the increased ability to identify specific cost drivers can enhance the employer’s ability to more effectively control the cost of risk and, more appropriately, to adjust risk management, claims and funding.

Incorporating medical stop loss within a captive can also enhance corporate enterprise risk management (ERM) objectives. By quantifying the probability outcome of adding unrelated risk to the captive, the employer can determine how or whether to effectively hedge those risks. The periodic financial review will provide another tool to track results and measure decisions. Adding stop loss to a captive that primarily writes “long-tail” coverage, such as worker’s compensation or general or professional liability, can provide a protective “short-tail” stability hedge by diversifying the captive’s risk portfolio.

It is also important to note that stop loss is not considered an “employee benefit coverage” and thus generally not considered to be “unrelated (third-party) business” by the IRS for tax purposes.