Insurance is big business, and most companies need to carry some type of policies. Two attractive options are self-insurance and captive insurance, which offer varying degrees of customization.
Self-Insurance Versus Captive Insurance
One big difference between the two is that self-insurance is primarily for larger companies that can generate a lot of capital and invest a portion of money into a fund just for insurance claims. Because of the substantial money investment required, few companies can achieve this stature. Companies that still want to be able to control their money and retain flexibility in using that money but don’t have a large enough wallet to self-fund can opt to join the captive insurance industry. In this arrangement, companies band together to form a captive to retain some control over the money.
Tax Advantages of a Captive
A correctly run captive can generate tax advantages for the businesses that invest because the premiums become tax deductions, which reduces the company’s tax burden. At the same time, the invested money can be put into high yield investments, increasing capital and creating wealth.
Tax Disadvantages of a Captive
However, the risks can also be substantial. The government looks very closely at captive insurance groups to ensure that the financial holders aren’t running some scam. For this reason, it’s particularly essential for businesses interested in captives to research and ensure that all the money is invested legally. Another disadvantage is that if something were to happen to one of the firms in the captive that required huge payouts, the other companies would have to pay more to make up the difference.
Both types of insurance industries fund their accounts and pay out on submitted claims from that money. Both have tax advantages but not all companies can self-insure independently. This is how captive insurance developed and why it is still a viable option today.