By the Numbers: Accounting for Captive Insurance Companies

Captive insurance companies—those owned by a parent company with the purpose of underwriting the parent company’s subsidiaries insurance requirements—are becoming a popular business instrument. To me, the benefits are apparent and considerable: the foremost, of course, being the bottom line. By building a captive insurance company, the parent company distributes financial risk and realizes cost savings on premiums. Accordingly, more and more big corporations, such as CBS, AT&T, and Johnson & Johnson, have set up their own captive insurance companies.

But to realize its full benefit, the parent company must run the captive with the lowest overhead possible. This might mean out-sourcing mission critical functions such as accounting to professional service providers. Rather than paying the considerable cost of maintaining an accounting staff dedicated solely to insurance, the parent can offload this challenge to an outside vendor while simplifying their bottom line and their org chart.

There’s another reason: the IRS. The IRS watches captive insurance companies very closely. In fact, only recently UPS won a $600 million challenge lodged by the IRS over its captive insurance unit. The IRS has since made an uneasy peace with the concept of the captive insurance company, but prudence dictates that the business owner assume every financial operation associated with captives will be scrutinized heavily. On this assumption, I feel an independent accounting agency offers a certain aboveboard assurance.