Magazine article Risk Management

MAKING THE TRIP: A Domicile Selection Primer

Magazine article Risk Management

MAKING THE TRIP: A Domicile Selection Primer

Article excerpt

In the highly competitive captive arena, with new domiciles sprouting up like daffodils after a rainstorm, there are inevitably winners and losers. Certain domiciles take the lead, others fall behind, and still others create for themselves some particular niche.

One of the benefits of high-stakes competition in the world of global alternative risk transfer is that captive domiciles are constantly seeking to refine and improve the statutes and regulations that impact the companies they license. If a domicile is at all serious about attracting new captive business, it must seek to differentiate itself from the competition by creating a pro-business environment. If it wishes to retain existing business, it must be watchful that its captive law keeps pace with changes that are going on elsewhere. Rest assured that when one domicile passes landmark legislation, many others will soon follow its lead.

For most prospective captive owners, domicile selection seems complex. There are almost twenty onshore (U.S.) states that allow the formation of a captive insurance company, and an equal number of foreign countries or territories describing themselves as captive domiciles. The Captive Insurance Company Directory published by A.M. Best lists approximately four thousand captives worldwide. In spite of the soft market conditions of the 1990s, about two hundred new captive licenses were issued each year. Roughly 60 percent of new formations came from U.S. sources, the majority of which went to Bermuda--historically, the leading captive domicile. Vermont remains the leading onshore domicile for U.S.-owned captives, and the Cayman Islands is the second-most preferred offshore, while Guernsey remains a preferred domicile for U.K. captives.

How should captive owners make the selection between onshore and offshore? Is it prudent to stay with the fastest growing onshore domicile (Vermont) or the largest offshore (Bermuda)? If all captive laws are pretty much the same these days, does it all become simply a matter of where the risk manager or his or her boss most wants to visit?

The selection process can, in fact, be reduced to a discussion of the domicile trip. But the TRIP that should influence domicile selection does not involve the dilemma of palm trees or ski lifts; it is composed of four elements that are key considerations for captive business:

Taxes

Regulations

Infrastructure

Perception

Each of the four TRIP components deserves serious consideration. They are the drivers behind all captive domicile selections and can have significant bearing on the future success of captive operations. No one domicile is better on all occasions or for all purposes. If a decision has been made that a captive is the best vehicle to achieve the insured's risk financing objectives, the next step must be an informed domicile choice.

Taxes

Taxes are almost always the single most important operating cost factor in a captive program. Thus the first investigation into a domicile examines three areas of taxation.

Premium Taxes. Onshore domiciles charge premium taxes. Offshore domiciles do not. For example, although in Vermont the captive premium tax rates are low (.4 percent for direct premium, .225 percent for assumed premium), there is the potential for a significant onshore/offshore cost differential, particularly for larger, direct-writing programs. (Smaller captives, however, may find little difference between the two shores, given the annual government fees of offshore domiciles.)

Excise Taxes. The excise tax differential depends upon the tax election taken by an offshore captive. If the captive is taxed as a foreign corporation, offshore operating costs will be higher. For direct-writing companies, there is a 4 percent excise tax on premiums paid to alien insurers not covered by tax treaty in the United States. For assumed premium the excise tax is 1 percent. …

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