Captive Insurance Glossary L-Q

The COVID-19 Pandemic: Opportunities and Implications for Captive Insurance

The COVID-19 Pandemic: Opportunities and Implications for Captive Insurance

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The COVID-19 Pandemic: Opportunities and Implications for Captive Insurance explores the challenges presented by today's business and economic upheaval, as well as the hardening insurance market, and what it means for the captive insurance industry.

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layer: A horizontal segment of the liability insured—e.g., the second $100,000 of a $500,000 liability, is the first layer if the cedent retains $100,000 but a higher layer if it retains a lesser amount.

lead reinsurer: The "lead" sets the rates, terms, and conditions that other reinsurers follow. Also known as lead underwriter.

letter of credit (LOC): Within the context of insurance, a promise by a financial institution to pay the losses of a self-insurer or a reinsurer. If issued on a noncancelable ("evergreen") by an acceptable financial institution and unconditional basis, an LOC is an acceptable form of collateral to secure recoverables from nonadmitted reinsurers and enables the ceding company to reduce the provision for unauthorized reinsurance in its statutory statement.

liability limits: The stipulated sum or sums beyond which an insurance company is not liable for payments due to a third party. The insured remains legally liable above the limits.

limit: The total amount of losses to be paid under an insurance policy or reinsurance agreement, expressed either on a per occurrence basis (e.g., per accident or event) or on an aggregate basis (e.g., all losses under a single policy, or for all policies during an underwriting period).

limitation of risk: The maximum amount an insurer or reinsurer must pay in any one loss event.

line: The retention limit (stated as a dollar amount) retained by the ceding company under a surplus share agreement. Limits of liability for the reinsurer may be stated as a multiple of the line reinsured. For example, a five-line treaty is five times the net retained.

line of business: Classes of insurance that are grouped into one line for statutory reporting purposes. Also, the types of business an insurer is licensed to underwrite, such as personal lines.

line slip: The net line and reinsured multiple—i.e., the capacity of a reinsurance treaty.

liquidity ratio: A measurement of key financial variables that impact an insurer's ability to pay claims. In the Insurance Regulatory Information System (IRIS), liabilities to liquid assets and agent's balances to surplus are monitored.

loan-backs: A loan of assets from a captive to a shareholder or affiliated entity.

long duration contract: A guaranteed renewable insurance policy, used most often in life, accident, and health insurance, and noncancelable by the insurer except for nonpayment of premium or fraud.

long-tail: In certain lines of insurance, the late reporting of claims or losses that pay out very slowly, with loss development.

long-term disability (LTD): Insurance to provide income to a person permanently unable to work because of accident or illness not work-related; usually terminated at age 65.

long-term insurance: In certain captive domiciles, long-duration contracts such as life insurance.

loss: The destruction, reduction, or disappearance of value of tangible or intangible property; bodily or emotional injury; or reduction in income.

loss adjustment expenses (LAE): All costs related to settling claims.

loss carry forward: A provision in the income tax code that allows a taxpayer to spread a loss over more than one tax year.

loss control: Reducing or eliminating preventable losses. Under property policies, loss control inspections may be performed by fire protection or boiler inspectors and are accounted for as engineering expense. In workers compensation, loss control is called safety expense.

loss development: The difference between the estimated amount of loss(es) as initially reported to the insurer and the amount of an evaluation of the same loss(es) at a later date or the amount paid in final settlement(s).

loss event: The total losses to the ceding company or to the reinsurer resulting from a single cause such as a windstorm.

loss loading or "multiplier": Also known as loss conversion factor. A factor applied to the incurred losses under workers compensation retrospectively rated policies to calculate the amount to be paid to the insurer to offset loss adjustment expense.

loss payout curve: A series of factors showing the percentage of an incurred loss paid in the year incurred and each year thereafter.

loss portfolio agreements: Retroactive reinsurance undertaken for "surplus relief" or "spread loss"—i.e., the intent is either to transfer premiums from the primary company to a reinsurer as a means to increase policyholders surplus or to improve cash flow and stabilize income, without actually transferring risk.

loss portfolio transfer (LPT): Sale of loss reserves by an insurer or reinsurer to another insurer.

loss rating: Developing premiums from the historical loss experience of an insured.

loss ratio: A percentage derived by dividing the dollar amount of losses experienced by an insured risk by the premium collected. (Also called loss and loss adjustment expense (LAE) ratio.)

loss reserve: An estimate of the value of a claim or group of claims not yet paid.

loss triangle: Loss history showing incurred losses in the year incurred and the incurred amount of the claim at periodic intervals thereafter until the claims are paid. The maturity of the losses is shown across the top of the table, and each new line is used for a new year's incurred loss figure. Triangles can be prepared on a paid claim basis also.


managing general agent (MGA): A licensed individual or company to whom the direct writing insurer has delegated underwriting authority, rating, premium collection, and policy issuance.

manual rates: Rates that have been developed and filed for an underwriting class rather than a specific insured (see rating).

marine insurance: Can be ocean, offshore, or inland; also available for aviation risks. Insures first-party risks (property insured is the hull or owned cargo), carrier liability (nonowned cargo), and third-party liability (damage caused by the vessel to property of others).

market conduct: The way an insurer operates in relation to its customers and suppliers. Regulated strictly, to ensure no rebating, for example.

market conduct exam: Investigation by insurance regulators to determine if an insurer has followed laws relating to the distribution of products to consumers and settlement of claims.

market cycles: Fluctuations in insurance and reinsurance rates and surplus capacity.

master policy: An insurance policy insuring a group of insureds, each of which receives a certificate evidencing their coverage under the master policy.

maturity: The age of a claim, expressed as the amount of time in months from the beginning of an occurrence year. Used to measure the development of a group of claims incurred in the occurrence year.

maximum foreseeable loss (MFL): Used in property insurance to identify the largest amount of loss likely to occur for an exposure, usually based on inspections and reports of exposure values by the insured.

mean reserve: The average of the initial and ending reserve, used in life insurance reserve estimating.

medical payments insurance: A coverage, available in various liability insurance policies, in which the insurer agrees to reimburse the insured and others, without regard for the insured's liability, for medical or funeral expenses incurred as the result of bodily injury or death by accident under specified conditions.

microcaptive: A small captive operating with annual written premium that qualifies it, in the United States, to be taxed under Internal Revenue Code § 831(b), which provides that a captive qualifying to be taxed as a U.S. insurance company and meeting all requirements of § 831(b) may pay tax only on investment income.

minimum and deposit (M&D): Feature of excess of loss reinsurance; it requires initial premium payment in advance, adjusted annually in arrears, based on exposure audits. See also deposit premium.

model act: Legislation drafted by the National Association of Insurance Commissioners (NAIC) to become a standard for adoption by states.

modification factor (the "mod"): The factor by which a standard workers compensation premium is multiplied to reflect an insured's actual loss experience.

monoline: An insurer licensed to write only one type of risk; common with surety or financial guarantee insurance.

mortgage insurance: Insurance to protect the bank from default by mortgagees.

mutual insurer: An insurance company that is not owned and controlled by shareholders but by its policyholders. See also stock captive.


named insured: The individual or legal entity that contracts to buy the insurance, the one responsible for premium payment.

named perils: A policy issued specifically listing the perils insured against. Compare to special risks.

National Association of Insurance Commissioners (NAIC): A trade association of state's insurance commissioners that issues model insurance acts that can be adopted by the states. The NAIC accredits states that have enacted specific insurance legislation and demonstrate adequate regulatory oversight over the insurers they license.

net loss: The amount of loss sustained by an insurer after deducting all applicable reinsurance, salvage, and subrogation recoveries.

net loss reserves: Reserves for losses within the risk limitation. Gross loss reserves net of reinsurance credits and offsets.

net present value: The discounted value or current cost of an amount to be paid in the future, taking into account anticipated investment income and the timing of tax deductions.

net retained liability: The amount of insurance that a ceding company keeps for its own account and does not reinsure in any way (except in some instances for catastrophe or clash reinsurance).

net risk (risk limitation): The per occurrence policy limit retained by the captive after purchase of reinsurance.

net written premium: Direct premiums written, plus premiums assumed, less premiums ceded.

nexus: The coming together of parties in a transaction. Used by insurance regulators to determine if an insurer is writing business in its state.

nonadmitted asset: An asset that may be accounted for in an insurance company's balance sheet, but not allowed to be counted for purposes of calculating statutory capital or compliance with solvency ratios.

nonadmitted balance: Reinsured liabilities on an insurer's balance sheet (loss reserves and unearned premium reserves) for which no credit is given in the ceding company's statutory statement. This creates a reduction in surplus, unless the reinsurer provides acceptable collateral in the amount of the unauthorized balance.

nonadmitted insurer: A company that is not licensed or authorized to transact business in the state or country where the insured risk is located. Under many state or country insurance laws, a large commercial buyer may purchase insurance from a nonadmitted insurer.

nonadmitted reinsurance: A company is "nonadmitted" when it has not been licensed and thereby recognized by appropriate insurance governmental authority of a state or country. Reinsurance is "nonadmitted" when placed in a nonadmitted company and therefore may not be treated as an asset against reinsured losses or unearned premium reserves for insurance company accounting and statement purposes.

noncontrolled foreign corporation (NCFC): A company that is owned in such a way that its financial results are not consolidated with any of its shareholders, and the shareholders are not allocated any portion of the company's income for tax purposes. If the NCFC is located in a jurisdiction that does not have an income tax, this creates income tax deferral, meaning no tax until such time as income is repatriated to its owners.

noncorrelated risks: Losses to an exposure caused by different perils and hazards.

nonfinancial foreign entity (NFFE): A defined term in Foreign Account Tax Compliance Act (FATCA) legislation, used to denote any foreign entity that is not a financial institution.

nonproportional reinsurance: Also known as excess of loss reinsurance. Losses excess of the ceding company's retention limit are paid by the reinsurer, up to a maximum limit. Reinsurance premium is calculated independently of the premium charged to the insured. The reinsurance is frequently placed in layers. Contracts may be continuous or for a specific term.

nonqualified benefits: Under Employee Retirement Income Security Act (ERISA) rules, employee benefits that are not part of a benefit plan and are, therefore, not under ERISA jurisdiction.

nonsubscriber workers compensation plan: A nonsubscriber is an employer that elects, by filing appropriate notices required by state insurance authorities, to pay work-related injury loss through some method other than statutory workers compensation. Three states—Texas, New Jersey, and Oklahoma—allow such an election. Note that the purchase of workers compensation insurance is elective in Texas. In New Jersey, employers are required to purchase either workers compensation coverage or employers liability coverage. In Oklahoma, employers must either purchase workers compensation coverage or become a qualified employer under the Oklahoma Employee Injury Benefit Act (OEIBA).

novation: An agreement to replace one party to an insurance policy or reinsurance agreement with another company from inception of the coverage period. The novated contract replaces the original policy or agreement. Also known as cancel and rewrite.


occurrence: An accident or incident, including continuous or repeated exposure to conditions that result in a loss neither expected nor intended from the standpoint of the insured, or an act or related series of acts that result in the same.

occurrence basis: For coverage to be provided, the act giving rise to a claim needs to occur within the policy period. The claim does not need to be reported during the policy period. Used with liability policies. Compare to claims-made basis.

offset (setoff): The reduction of the amount owed by one party to a second party by crediting the first party with amounts owed it by the second party. The existence and scope of offset rights may be determined by reinsurance contract language as well as statutory, regulatory, and judicial law.

offshore captive: A special purpose insurance company domiciled outside of the country where the insured risk is located. The motives for using an offshore captive may include tax planning. Regulatory differences between onshore and offshore have become significantly less as the offshore captive industry has matured. Offshore domiciles popularly used for North American source business include Barbados, Bermuda, British Virgin Islands, and Grand Caymans. Offshore domiciles for European source business include Dublin, Guernsey, Isle of Man, and Luxembourg. Asian source business may use Hong Kong, etc.

onshore captive: A special purpose insurance company domiciled in the country within which its insured risks are located. There are approximately 20 onshore domiciles actively competing for U.S. source business—e.g., Vermont, South Carolina, Hawaii, and Washington DC. British Columbia is an example of an onshore domicile for Canadian source risks. European countries (with the exception of Dublin and Luxembourg) do not actively promote themselves as captive domiciles—i.e., have not passed special purpose legislation to facilitate the formation of captives.

operating cash flow: Underwriting cash flow plus investment income, and plus or minus other income statement cash flows.

operational risk financing securities (ORFS): A debt or credit instrument designed to provide liquidity or income to offset changes in cash flows resulting from an occurrence relating to an entity's operations.

option instruments: A derivative such as a put, call, swap, or floor designed to manage basis risk by allowing the hedger to determine when to liquidate the contract. If an option expires, it has no further value.

organizational documents: The legal documents used to incorporate or form a company. In the United States they will include articles of incorporation and bylaws. In domiciles operating under English law, the same documents may be called "memorandum of association" and "articles of association," or, collectively, the "corporate charter."

organizational risk: The business, treasury, and pure risks of an organization—i.e., all exposures, hazards, and perils—whether traditionally the subject of insurance or not, which collectively create uncertainty as to the financial outcome of an enterprise. See also enterprise risk management.

original gross premium (OGP): Premium written for the entire risk. May include excess premium not subject to an excess of loss reinsurance agreement; therefore, is not necessarily the same as gross written premium (GWP).

original insurer: Insurer that issues the policy to the insured. May also be called "primary company," "direct company," or "front company."

other underwriting income: Ceding commissions or profit commissions earned from reinsurers.

overall operating ratio: A ratio to show the insurer's pre-income tax profitability, taking into account investment income. It includes total expenses as a percent of total income, before adjustments for federal taxes.

overriding commission: An allowance paid to the ceding company over and above the acquisition cost to allow for overhead expenses and often including a margin for profit.

owners and contractors protective liability (OCP) insurance: An endorsement, which covers contractors and subcontractors, to commercial general liability insurance purchased by the owner of a business with premium paid by the owner.


paid-in capital: Capital acquired by a corporation from sources other than its business operations. The most common source of paid-in capital is the sale of the corporation's own common and preferred stock. The amount of paid-in capital becomes part of the stockholders' equity shown in a balance sheet.

paid losses: Losses and allocated loss adjustment expenses (ALAE) paid to claimants during a financial reporting period.

participant: An insured that utilizes a captive insurance company through a participant contract specifying the terms of participation, rather than through a shareholder or member contract.

participating policy: An insurance policy that allows the insured to receive policyholder dividends, not taxable distributions—i.e., return of profits not treated as income by the Internal Revenue Service (IRS) but instead as return of premium.

participating reinsurance: Includes quota share, first surplus, second surplus, and all other sharing forms of reinsurance under which the reinsurer participates pro rata in all losses and in all premiums. See also pro rata reinsurance.

passive foreign investment company (PFIC): Under current U.S. tax code, defined as a company with more than 70 percent passive (investment) income or more than 50 percent of its assets generating passive income. Subject to payment of PFIC tax. Insurers are exempt from PFIC tax if their loss reserves and loss adjustment expenses are greater than 25 percent of assets.

pass-through entity: A corporation that is disregarded for purposes of calculating taxable income. The income earned in a pass-through entity is attributed to its shareholder or ultimate parent, and taxed at that level.

payout profile: The rate at which a reported claim is paid out, usually expressed as percentages paid each year. See also loss payout curve.

payroll audit: A yearly comparison of the estimated payroll reported for workers compensation purposes at the beginning of the policy year with the actual payroll for that period, determined at the close of the policy year.

performance bond: A bond to guarantee proper execution of job functions.

performance ratio: A test of an insurer's or reinsurer's financial strength—e.g., Standard & Poor's solvency ratios, which track net premium to adjusted shareholder funds, and liquidity ratio, which looks at technical reserves to liquid assets.

perils: The cause of loss—e.g., fire, accident, negligence.

per-risk excess: Also known as specific, working layer, or underlying excess of loss reinsurance. A method by which an insurer may recover losses on an individual risk in excess of a specific per-risk retention. Has both property and casualty applications.

personal injury: Damage to a person caused by the wrongful conduct of the insured; covers libel, slander, etc., as well as bodily injury. Insured under liability policies.

personal lines: Insurance purchased by an individual (as opposed to an organization) to protect against personal risks.

personal risks: Losses arising from ownership of personal property; also loss of health and income.

placement slips: A general understanding of the terms and conditions of a reinsurance transaction—not a binding contract. Terms and conditions should be confirmed in a reinsurance confirmation or cover note.

policy conditions: A section of a policy that identifies the duties of the insured to keep coverage in effect.

policyholder dividends: Return of premium, under the terms of the policy, resulting from income in excess of losses and expenses.

policyholder surplus: The net worth of the insurer as reported in the annual statement or statutory financial statements. The amount by which assets exceed liabilities.

policy registers: A historical listing of all policies issued by an insurer, showing reinsurance.

policy year experience: Incurred losses and loss adjustment expenses (LAE) for those claims incurred within a policy effective period, regardless of when the claim was reported, divided into the earned premiums for all policies issued during that same period. The loss amount is not final until all losses incurred (reported if claims-made) are settled. The premiums earned amount is derived from all policies incepting during the defined period, and may be earned over more than one financial reporting period.

pool: Any joint underwriting operation of insurance or reinsurance in which the participants assume a predetermined and fixed interest in all business written.

portfolio: The book of business of an insurer or reinsurer, including all policies in force and open reserves.

portfolio reinsurance: In transactions of reinsurance, it refers to all the risks of the reinsurance transaction. For example, if one company reinsures all of another’s outstanding automobile business, the reinsuring company is said to assume the "portfolio" of automobile business and it is paid the total of the unearned premium on all the risks so reinsured (less some agreed commission).

portfolio runoff: The opposite of return of portfolio—permitting premiums and losses in respect of in-force business to run to their normal expiration upon termination of a reinsurance treaty.

portfolio transfer: The cession of a book of business—e.g., for an insurer withdrawing from writing a certain class of risk. Since the business has already been written, it is retroactive insurance, so it is a balance sheet only transaction (transfer of assets and liabilities). See also commutation agreement; loss portfolio transfer (LPT); novation.

premium: The sum paid for an insurance policy or consideration in the insurance contract. As income to the insurer, it is therefore the basis for taxes on the insurer.

premium audit: A survey of the insured's payroll, sales, or vehicle count records to determine premium and premium taxes due.

premium, deposit: When the terms of a policy provide that the final earned premium be determined at some time after the policy itself has been written, companies may require tentative or "deposit" premiums at the beginning that are readjusted when the actual earned charge has been later determined.

premium, pure: The portion of the premium calculated to enable the insurer to pay losses and, in some cases, allocated claim expenses or the premium arrived at by dividing losses by exposure and in which no loading has been added for commission, taxes, and expenses.

premiums earned: The portion of the written premium allocable (usually pro rata) to the time already elapsed under the policy period.

premium tax: A tax, imposed by each state, on gross premium written by insurers allocable to risks located in that state. Gross written premium (GWP) means before reinsurance ceded but after salvage and subrogation.

premium, unearned: Premium for a future exposure period is said to be unearned premium for an individual policy; written premium minus unearned premium equals earned premium. Earned premium is income for the accounting period, while unearned premium will be income in a future accounting period.

principle of indemnification: A defining characteristic of insurance, providing that a loss payment will replace what is lost, putting the insured back to where it was financially prior to the loss without rewarding or penalizing the insured for its loss.

Private Letter Ruling: A ruling by the Internal Revenue Service (IRS) regarding how a specific transaction will be taxed.

producer-owned reinsurance company (PORC): A captive or a rent-a-captive cell owned or used by a broker or managing general agent (MGA) for reinsurance of selected risks that it produces for the purposes of retaining the underwriting income. May be set up by insurance companies to circumvent state laws regarding the amount of commissions that can be paid to their producing agents.

product liability insurance: Protection against financial loss arising out of the legal liability incurred by an insured because of injury or damage resulting from the use of a covered product or out of the liability incurred by a contractor after a job is completed (completed operations cover).

professional reinsurer: A term used to designate a company whose business is confined solely to reinsurance and the peripheral services offered by a reinsurer to its customers as opposed to primary insurers who exchange reinsurance or operate reinsurance departments as adjuncts to their basic business of primary insurance. The majority of professional reinsurers provide complete reinsurance and service at one source directly to the ceding company.

profit center captives: A captive that has the primary function of earning underwriting income by writing unrelated risk.

profit commission: A provision found in some reinsurance agreements that provides for profit sharing. Parties agree to a formula for calculating profit, an allowance for the reinsurer’s expenses, and the cedent's share of such profit after expenses.

program business captive: A captive that insures or reinsures a "program"—i.e., a group of homogenous risks, none of which is individually underwritten. It may or may not be owned by the program business agency or producer.

prohibited transaction exemption (PTE): A ruling by the Department of Labor (DOL), based on specific facts and circumstances, that a transaction is allowable under Employee Retirement Income Security Act (ERISA) regulations. Required by pure captives insuring shareholders' employee benefit risks.

proportional liability: Members of a group are held responsible for the financial results of the group in proportion to their participation. Compare to joint and several liability.

proportional reinsurance: The premium and losses are calculated on a pro rata basis. The reinsurer has a fixed percentage of premium and the same percentage of losses.

pro rata cancellation: Provides for the return of all unearned premium, without the penalty associated with short-rate cancellation.

pro rata reinsurance: The reinsurer receives a percentage of premium and pays a proportional share of losses, above the ceding company's retention.

prospective aggregates: Spread loss program giving accident year reinsurance for long-tail risks with premiums paid annually over the expected life of the policy. (Any adjustments in pricing resulting from adverse loss development occur prospectively.)

prospective rating: Adjustments to premium based on projections of future incurred losses. See also experience rating and retrospective rating.

protected cell captive (PCC): See cell captive and special purpose vehicle (SPV).

provisional notice of cancellation (PNOC): Notice is given to allow the option of withdrawing from the reinsurance treaty if renewal terms are unacceptable. Issued with continuous contracts.

punitive damages: Damages awarded to the plaintiff over and above what will compensate for the loss. Intended to solace the plaintiff for mental anguish or to punish and make an example of the defendant. Not included in policy limits.

pure captive: A captive insurance company that has as its primary business purpose the insurance of the risks of its shareholders and affiliates.

pure loss cost: The ratio of the retained losses incurred to the insurer's retained premium. Also known as burning cost ratio.

pure premium: The amount of premium calculated for the risk to be insured, net of policy expenses. The amount of premium available to pay losses and allocated loss adjustment expenses (ALAE).

pure risk: The possibility that a loss may or may not occur, but with no possibility of a gain.


qualified self-insurer: An employer meeting state financial and size criteria and approved to self-insure workers compensation. Each state has its own retention limits, filing, and security requirements.

quota share: A fixed percent of all written premiums are ceded. The reinsurer pays the same proportion of all losses and loss adjustment expenses (LAE).

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