The emergence of captive insurance has a certain historical inevitability: it arose from the traditional insurance market's inability to meet enterprises' needs for coverage of specific risks. It originated in the 1920s–1930s, a period when mutual insurance companies and reciprocal insurance companies were on the rise; however, it only grew rapidly in the early 1950s with the rise of offshore financial markets. Thanks to tax advantages, captive insurers continued to prosper from the 1960s to the early 1970s. In the late 1980s, insufficient underwriting capacity in the commercial liability insurance market sparked yet another wave of growth for captive insurers. Today, the number of captive insurers worldwide has reached 6,876—far exceeding the number of traditional commercial insurance companies—and their premium income accounts for 10% of global property insurance premiums. With the continuous improvement of alternative risk transfer techniques, captive insurers have become an important enterprise-wide risk management tool complementary to traditional commercial insurance.
The earliest captive insurer internationally can be traced back to the New England textile manufacturing companies in 1800: considering that fire insurance rates at the time were too high, they established a group captive insurance company in the form of a mutual insurance company to underwrite corporate risks through self-insurance. In the 1920s, the concept we now call captive insurance—combining the characteristics of mutual insurance and reciprocal insurance—already existed in Guernsey (a British Crown dependency) and Luxembourg. At that time, the market had already begun operating some very simple risk-retention models.
The world's first pure captive insurer bearing the characteristics of a modern captive appeared in the 1930s in Youngstown, United States. Youngstown is a heavy-industry city in northeastern Ohio and one of the four great steel cities of the United States. Beginning in 1802 it developed an iron-smelting industry using nearby iron ore and charcoal; later, with the development of the Allegheny coalfields, it built a large-scale steel industry using coke and Mesabi iron ore. In 1900, local industrialists George D. Wick and James A. Campbell organized the Youngstown Sheet & Tube Company, which grew into one of the largest steel groups in the United States and attempted in 1931 to acquire Bethlehem Steel to become the nation's second-largest steel company. The development of Youngstown's steel, coal, and iron mining industries attracted large numbers of immigrants from Wales, Germany, Ireland, Eastern Europe, Italy, Greece, Lebanon, Israel, and Syria, turning the area into a turbulent immigrant city; the local Mahoning Valley even became a center of Ku Klux Klan activity.
From its inception, the Youngstown Sheet & Tube Company was mired in struggles with labor unions. Because its management consistently took a hard line and refused to compromise with the unions, the conflict between the company and the unions lasted for decades. Strikes frequently organized by the unions affected the company's operations. Famous strike actions include the union-organized strike of 1916, during which arson incidents caused widespread fires in parts of the Youngstown area. In 1937, local unions jointly launched the famous 'Little Steel Strike', in which violent clashes left 2 dead and 42 injured; the 'Little Steel Strike' became a historic turning point in the American labor movement. In the early 1950s, during the Korean War, the unions again demanded wage increases and clashed with the company; the unions pressured then-President Truman, who signed an executive order for the state to take over the Youngstown Sheet & Tube Company. But the company appealed to the U.S. Supreme Court, which ultimately overturned the president's order.
The turbulent state of the Youngstown Sheet & Tube Company's operations made it difficult for it to obtain insurance from ordinary commercial insurers at a reasonable price. The company engaged Frederic Mylett Reiss, an insurance agent with extensive insurance experience, to design an insurance solution for it. In 1935, Reiss helped the Youngstown Sheet & Tube Company establish the Mahoning Insurance Company under a single-parent captive model, providing insurance solely to its parent company, the Youngstown Sheet & Tube Company, through a single all-lines policy, with Lloyd's of London providing reinsurance support to the Mahoning Insurance Company.
The Youngstown Sheet & Tube Company owned large numbers of coal and iron mines locally as sources of steel raw materials. Company executives habitually nicknamed these mines 'Captive Mines'; Reiss therefore added the word 'Captive' to the name of the insurance company he founded—the term later rendered into Chinese as 'zibao' (self-insurance).
Before the 1960s, the captive business had not developed on a large scale into a trend. Drawing on his own experience, Reiss believed this captive model was effective and hoped to promote it worldwide, but he did not win the support of the Youngstown Sheet & Tube Company's decision-makers or the recognition of the market at the time. It was not until 1960 that, by chance, he met Bill Kempe, a lawyer from the Bermuda Islands; through their exchanges he realized that locating a captive insurer in a tax-free environment such as Bermuda could effectively help enterprises reduce costs. In 1962, with the help of the Bermuda law firm Conyers Dill & Pearman, he began to establish the first captive management company in Bermuda—the International Risk Management Group—marking the formal start of the modern captive industry. By the end of the 1960s, the number of captive insurers exceeded 100.
In the decades that followed, although the captive industry remained inconspicuous in international capital markets, it had already begun to steadily accumulate ever more capital. Because profits were taxed only when repatriated to the home country, well-managed large captive insurers achieved sustained profitability under tax-exempt policies.
In the 1970s, the international insurance industry encountered a severe market environment, and the captive industry gradually became popular and achieved rapid development. This was due to the cyclical pattern inherent in the property insurance industry's own development: affected by catastrophe losses, the supply of insurance capital and product prices fluctuate cyclically. During this period, the supply of products such as product liability and medical malpractice liability insurance was severely inadequate, causing workers' compensation and liability insurance rates to rise sharply; as a result, hundreds of captive insurers were formed during this period. By 1980, the number of captive insurers worldwide had exceeded 1,000.
In the mid-1970s, large multinational enterprises began to actively accept and develop captive insurers in large numbers. In 1966, Guy Carpenter established an international reinsurance company with registered capital of US$23 million (equivalent to US$1 billion today), and much of the world's oil supply was traded through Bermuda captive insurers. In 1985, ACE and XL established captive insurers in the Cayman Islands respectively, with branches in Barbados and Bermuda; by 2011, their registered capital had increased from an initial US$750 million to US$35 billion.
In the late 1980s, the global liability insurance market experienced a shortage of underwriting capacity and supply, and the world once again saw a surge in the growth of captive insurers. More and more small and medium-sized enterprises began to consider the benefits of establishing captive insurers, and their numbers grew rapidly. During this period, to serve the needs of small and medium-sized captive enterprises, the captive intermediary services industry grew rapidly, and captive management experts, lawyers, accountants, and other related professions also developed in captive domiciles around the world.
With the prosperity of the international captive industry, captive domiciles also developed rapidly. Trading centers and markets gradually formed in London and New York; because of the insurance industry's need for continuous trading, some special risks were transferred to Bermuda for trading while London and New York were closed. Bermuda thus became the world's largest captive domicile, while other offshore financial centers—such as the Cayman Islands, the British Virgin Islands, Barbados, and Anguilla along the Caribbean rim, as well as Guernsey and Luxembourg in Europe—also gradually rose to compete and became the world's major gathering places for captive insurers. Since the 1990s, Singapore and Hong Kong in the Far East have also become captive domiciles.
The United States gradually developed into the world's largest captive market and the leader of the captive industry. In 1972, Colorado became the first U.S. state to accept the registration of captive insurers; in the mid-1980s, Vermont and Hawaii also became captive domiciles. To date, 34 states have become captive domiciles, including 4 newly added in 2015.
In the mid-1980s, the U.S. Internal Revenue Service (IRS) began to question whether captive insurers should have insurance company status and whether the premiums they received could be tax-deductible. Based on the 'economic family theory', the IRS argued that 'insurance' should include at least the following attributes: first, a risk-transfer function—that is, risk should be transferred from one company to another unrelated company; and second, a risk-distribution attribute—that is, risk should be distributed among a sufficient number of entities. Under this theory, because a captive insurer only underwrites enterprises within its own group, the risk remains within the group and does not meet the risk-transfer and risk-distribution attributes of insurance. After decades of court debates, U.S. courts ultimately ruled that a captive insurer may enjoy tax deductions when it underwrites sister companies within the group or when the proportion of third-party business underwritten exceeds 30%.
By the 1990s, the captive industry had become popular in the insurance industry and had developed into a global industry. In 1998, even the Committee of Lloyd's of London—a major opponent of captive insurers—approved the conduct of captive business at Lloyd's. The captive industry had become an important tool for corporate risk transfer.
Entering the 21st century—and especially after the collapse of Enron and the September 11 attacks in 2001—one-third of U.S. property insurers suffered enormous losses, which, while affecting the supply of property insurance, further stimulated the development of captive insurers. By 2001, the number of captive insurers worldwide had reached 4,560; premiums underwritten by captive insurers reached US$25 billion, of which US$8 billion was ceded to the global reinsurance market, and investment assets reached US$138 billion. By 2003, global captive premium income had reached US$30 billion; by 2007, the number of captive insurers worldwide exceeded 5,000. By 2010, global commercial non-life insurance premiums were about US$600 billion, while captive insurance premiums were about US$55 billion—captive insurers' premiums accounting for roughly 10% of the global commercial insurance business.
At present, the vast majority of large companies own their own captive insurers: 80% of the Fortune Global 500 companies have established captive insurers, and 70% of the captives established by large companies are single-parent captives. Small and medium-sized enterprises mainly adopt the organizational forms of group captives or protected cell captives.
Captive insurers mainly originate from companies in Europe and the United States, and the United States has become the main market for captive insurers. By ownership share, U.S. captive insurers account for 59%, European companies 25%, Canada 3%, and other countries 13%. Among them, 90% of the 500 largest U.S. companies own captive insurers; 90% of Sweden's 50 largest companies own captive insurers; 80% of the UK's 200 largest companies own captive insurers; 10% of France's 200 largest companies own captive insurers; 5% of Germany's 200 largest companies own captive insurers; and 5% of Italy's 100 largest companies own captive insurers.
Influenced by economic, insurance market, cultural, and regulatory factors, the Asian captive market has developed slowly. Although Singapore, Malaysia, and Hong Kong have developed into international captive domiciles, the companies registered there also mainly come from Western countries such as Australia. This is because most Asian countries have low wage levels, Asian insurance markets are highly competitive, and insurance rates are low—so cost factors have not become the main driver for enterprises to establish captives overseas. In addition, many countries' insurance markets are dominated by a few large companies that are unwilling to act as fronting companies for captive insurers; and relatively strict regulatory policies are also unfavorable to the development of captive insurers.
The captive market and the traditional commercial insurance market have a certain complementary effect. In the mid-1980s, high prices in the ordinary commercial insurance market stimulated a substantial increase in the number of captive insurers; in 1994, when the European insurance market substantially deregulated, the number of captive insurers began to decline; after 2000, the captive market developed rapidly while growth in the traditional commercial insurance market slowed markedly.
In the mid-1980s, the U.S. Internal Revenue Service (IRS) began to question whether captive insurers should have insurance company status and whether the premiums they received could be tax-deductible. Based on the 'economic family theory', the IRS argued that 'insurance' should include at least the following attributes: first, a risk-transfer function—that is, risk should be transferred from one company to another unrelated company; and second, a risk-distribution attribute—that is, risk should be distributed among a sufficient number of entities. Under this theory, because a captive insurer only underwrites enterprises within its own group, the risk remains within the group and does not meet the risk-transfer and risk-distribution attributes of insurance. After decades of court debates, U.S. courts ultimately ruled that a captive insurer may enjoy tax deductions when it underwrites sister companies within the group or when the proportion of third-party business underwritten exceeds 30%.
By the 1990s, the captive industry had become popular in the insurance industry and had developed into a global industry. In 1998, even the Committee of Lloyd's of London—a major opponent of captive insurers—approved the conduct of captive business at Lloyd's. The captive industry had become an important tool for corporate risk transfer.
Entering the 21st century—and especially after the collapse of Enron and the September 11 attacks in 2001—one-third of U.S. property insurers suffered enormous losses, which, while affecting the supply of property insurance, further stimulated the development of captive insurers. By 2001, the number of captive insurers worldwide had reached 4,560; premiums underwritten by captive insurers reached US$25 billion, of which US$8 billion was ceded to the global reinsurance market, and investment assets reached US$138 billion. By 2003, global captive premium income had reached US$30 billion; by 2007, the number of captive insurers worldwide exceeded 5,000. By 2010, global commercial non-life insurance premiums were about US$600 billion, while captive insurance premiums were about US$55 billion—captive insurers' premiums accounting for roughly 10% of the global commercial insurance business.
At present, the vast majority of large companies own their own captive insurers: 80% of the Fortune Global 500 companies have established captive insurers, and 70% of the captives established by large companies are single-parent captives. Small and medium-sized enterprises mainly adopt the organizational forms of group captives or protected cell captives.
Captive insurers mainly originate from companies in Europe and the United States, and the United States has become the main market for captive insurers. By ownership share, U.S. captive insurers account for 59%, European companies 25%, Canada 3%, and other countries 13%. Among them, 90% of the 500 largest U.S. companies own captive insurers; 90% of Sweden's 50 largest companies own captive insurers; 80% of the UK's 200 largest companies own captive insurers; 10% of France's 200 largest companies own captive insurers; 5% of Germany's 200 largest companies own captive insurers; and 5% of Italy's 100 largest companies own captive insurers.
Influenced by economic, insurance market, cultural, and regulatory factors, the Asian captive market has developed slowly. Although Singapore, Malaysia, and Hong Kong have developed into international captive domiciles, the companies registered there also mainly come from Western countries such as Australia. This is because most Asian countries have low wage levels, Asian insurance markets are highly competitive, and insurance rates are low—so cost factors have not become the main driver for enterprises to establish captives overseas. In addition, many countries' insurance markets are dominated by a few large companies that are unwilling to act as fronting companies for captive insurers; and relatively strict regulatory policies are also unfavorable to the development of captive insurers.
The captive market and the traditional commercial insurance market have a certain complementary effect. In the mid-1980s, high prices in the ordinary commercial insurance market stimulated a substantial increase in the number of captive insurers; in 1994, when the European insurance market substantially deregulated, the number of captive insurers began to decline; after 2000, the captive market developed rapidly while growth in the traditional commercial insurance market slowed markedly.
