Members of Bermuda’s captive industry talk to Rebecca Delaney about the island’s promising captive market bolstered by, among other factors, emerging structures and economic substance requirements
As the global insurance market observes an increase in captive formations owing to rising commercial rates, the archipelago of Bermuda — a cluster of islands connected by bridges to form one land mass — is no exception. From having formed the first modern captive in 1962, Bermuda shows no signs of slowing down as a leading captive domicile.
Annual licensing statistics from the Bermuda Monetary Authority (BMA) report that the jurisdiction registered 78 new insurance entities in 2021, 17 of which were newly-licensed captives, while 27 of the entities were special purpose insurers (SPIs). Six of the newly-licensed SPIs were registered through the BMA’s new three-day licensing and registration process, demonstrating that Bermuda’s insurance sector continues to update and enhance regulatory practices.
In addition, the BMA admitted more companies offering innovative products or operating under innovative, non-traditional structures to its insurtech regulatory regime in 2021. Four organisations were admitted to the Authority’s innovative hub, while a further four were registered under its insurance regulatory sandbox.
Matthew Carr, partner at Appleby Bermuda, points out that while these licensing statistics are an important bellwether for the island’s captive market conditions, it is also important to recognise the activity and growth within existing captive structures.
“Based on these two metrics, current captive market conditions are favourable — captive owners are finding additional uses for existing captives, harnessing economies of scale and generating greater efficiency, while new captive formations are steady, but not booming,” he says.
The BMA notes in its licensing analysis that the majority of Bermuda captive owners have a parent company based in North America. This is affirmed by David Gibbons, partner at PwC Bermuda, who observes: “We have seen growth and faster crystallisation of interest to formation over the last 18 months in Bermuda, both from traditional markets like North America, and other markets globally.”
Kim Willey, partner at ASW Law, notes that the firm has recently set up captives for Canadian and Asian clients, as well as traditional liability coverage by US corporate entities and associations. She adds that interest in captives is increasingly derived from a range of locations and industries, with interest in coverage for novel areas of risk, such as weather, cyber and cannabis.
For the latter line of business, there is a trend of Bermuda captives taking on directors’ and officers’ (D&O) coverage for cannabis companies in jurisdictions where production of the substance is federally legal. Willey notes that this began with D&O indemnity coverage, and has since expanded to include property and product liability risk coverage.
Gibbons explains: “As the nature of business continues to evolve so does the risk. This means that organisations are looking at more bespoke covers — and one of the ways to get cover for bespoke risks is through a captive.
“This positions the Bermuda captive industry as primed for growth.”
Echoing this optimism, Carr says: “Fortunately Bermuda has retained its attractiveness to captive owner clients who, after closely evaluating multiple jurisdictions, are satisfied that Bermuda has the most complete offering coupled with jurisdictional pedigree.”
Regulatory environment
Such jurisdictional pedigree is by virtue of the BMA, which Gibbons describes as a “well-established and respected global regulator of all insurance companies, including captives.” He highlights that the BMA’s regime is both recognised by the National Association of Insurance Commissioners and Solvency II-equivalent. This is very important for an offshore domicile because people forming captives want to work in a well-established and reputable location,” Gibbons explains. “Having an equivalence to Solvency II allows captive owners the option to apply if this is required. If Solvency II is not required, the captive owner can apply for a Class 1, 2 or 3 licence.”
This carving out of captive classes of insurers and reinsurers from the commercial prudential regime following Solvency II-equivalence is a demonstration of the BMA’s sensitivity to the needs of captive owners, according to Carr, as compliance would have otherwise been expensive and onerous.
Carr adds: “Bermuda, like many other highly-regulated jurisdictions, must attempt to strike the right balance between responsible and modern regulation, and operating efficiency for those under the remit of that regulation. For the most part, it seems this balance has been reasonably achieved. Bermuda’s captive industry groups have an open channel of communication with the BMA.”
The variety of insurance and reinsurance entities in Bermuda as a risk domicile of choice means that the regulatory framework must be routinely modernised to keep pace with the dynamic risk landscape.
Gibbons adds: “Bermuda is the largest captive domicile — an achievement that has been built up over decades. That knowledge is intrinsic in the regulatory environment. When a new captive owner presents a case to form a captive, our regulators are easily available to discuss it, which is really important and sets Bermuda apart.”
This interpersonal element is echoed by Carr, who notes the proximity within the city of Hamilton between the regulator, service providers, capacity providers, and other industry professionals, allows for ease of operations and business.
“As such, by and large, captive owners and those overseeing the captive business want to be on the ground in Bermuda routinely. For the most part, this makes economic substance requirements relatively easy to satisfy,” he adds.
Economic substance requirements are designed to protect the reputation of offshore jurisdictions by ensuring that revenue streams from business activities are based on actual local activity, in order to substantiate the use of low-tax jurisdictions. Discussing the necessity of economic substance regulations, Gibbons says: “As global regulation increases, the rationale behind substance requirements makes sense. It is important to have the people making decisions in the territories where the companies are based.
“In the insurance industry, it is usually easier to meet those requirements because underwriting decisions can be made by one underwriter, actuarial decisions can be made by one actuary, and so on. This allows organisations to drive fit-for-purpose, legitimate business while also understanding the requirements and being compliant.”
Captives must adhere to a deeming provision in Bermuda’s 2018 Economic Substance Regulations, according to which they must maintain a principal office in Bermuda and appoint a principal representative based in Bermuda, approved by the BMA.
Willey explains: “All Bermuda companies engaged in insurance activities, including captives, are required to comply with the economic substance requirements, which necessitate demonstrating that core income-generating activities are carried out in Bermuda.”
She adds that core income-generating activities for an insurance entity include prediction and calculation of risk, insuring and reinsuring of risk, providing client services, and preparing regulatory reports.
For an economic substance declaration, these activities include details of expenditures in Bermuda, full-time employee equivalents in Bermuda, and Bermuda-based board members and meetings.
Captives with more intensive administration, such as group captives with multiple policyholders, or captives writing third-party business, are more likely by nature to have palpable substance evidenced by dedicated employees and premises.
Willey affirms: “In practice, we do not find that it is particularly difficult for Bermuda captives to demonstrate compliance with economic substance requirements. Captives generally have a Bermuda-based insurance manager tasked with carrying out insurance activities, and a representative of such insurance manager on the captive board.”
Looking forward
Just as Bermuda reflects the promising risk landscape, it is not immune to the challenges of the industry. A significant concern felt throughout the global captive industry is around education and talent retention.
Gibbons notes that the transition of talent between industries as workers seek different challenges and opportunities, dubbed the Great Resignation, is potentially critical to the captive industry. As a bespoke sector, it risks losing a significant amount of intrinsic knowledge.
He says: “It is incumbent on the industry itself, both in Bermuda or globally, to recognise, invest in, and develop talent. It is important that the overall base of talent being developed is far greater than it was historically — and it is not just a talent base, it is a knowledge base to be utilised if key individuals exit the industry.”
Educating the market on the benefits of the captive model and supporting the business case for establishing a captive is crucial. Willey says: “Despite captive structures, which originated in Bermuda in the 1960s, being around for more than 50 years, captives remain an underutilised risk mitigation tool. With the risks to businesses ever-growing and the perpetually increasing cost of commercial insurance, captives continue to be a cost-effective risk mitigation strategy for many businesses.”
The evolving risks faced by organisations is outlined by Gibbons, particularly in the context of increasingly prevalent ESG agendas. For example, he highlights, on the environmental side, new insured lines of business include solar panels, wind farms and electric cards, while on the social side, company directors are responsible for more stringent diversity and inclusion (D&I) action and reporting.
As a hot topic on any conference agenda right now, the extensive reporting associated with ESG brings increased focus on insurers and, in turn, increasing dissection of claims risk. “It is important for companies to execute sustainability and inclusivity initiatives correctly, and to also understand the risks if they get them wrong,” Gibbons says.
“It is vital to understand the nature of the risks that are changing, as well as the evolution in what you are insuring, over time. Placing the right business into a captive is key because you want to keep the right level of capital.”
Carr adds that, as with many industries, there is a growing emphasis on efficiency of capital — as a small collection of islands, Bermuda must be conscious of the cost of transacting business. However, he notes that changes to work models from the COVID-19 pandemic and remote working options may provide efficiencies for captive operations going forward.
And what will Bermuda’s captive development agenda look like for the remainder of 2022? Willey states that the post-COVID landscape will focus on emerging structures and risks, citing Bermuda’s digital asset business regulation, adopted in 2018, as an area with considerable interest and a potential for a developing market.
She adds that Bermuda has also adopted incorporated segregated account company (ISAC) legislation, which builds on existing segregated account company legislation to allow a parent entity to incorporate multiple incorporated segregated accounts (ISAs).
“We have been involved in one of the first ISAC structures in Bermuda, which involved licensing a non-commercial insurer and each of its ISAs as a separate legal entity with its own insurance license. The ISAC model may be useful for non-commercial insurers looking to segregate areas of emerging risk from their traditional coverage,” Willey explains.
Another important element in the future of Bermuda’s captive landscape is the recent creation of the Bermuda Captive Network (BCN), a combination of the Bermuda Captive Owners Association, the Bermuda Insurance Management Association, and the Bermuda Captive Conference. Gibbons explains that BCN provides a one-stop-shop for service providers, owners and managers in the Bermuda captive industry.
Speaking optimistically of the impact the Network will have on the island, Carr says: “The newly-created BCN fuses an array of industry knowledge, information and expertise into a unified body which will have a very positive impact on the Bermuda captive market going forward.”
Both Carr and Gibbons emphasise the importance of the upcoming conference this September, which this year will involve more captive owners to drive the agenda and communicate with service companies. Gibbons adds that the conference will be instrumental in developing talent to address the industry-wide talent crisis outlined above.
“As an inexperienced captive professional, the ability to understand risk across an insurance company, rather than looking at individual pieces within a large insurance or reinsurance company, is great experience and can rapidly advance your career prospects. This is a solid foundation for a career in insurance beyond captives, and developing that talent will consolidate Bermuda’s existing strengths as a captive domicile,” he concludes.
