Ian-Edward Stafrace of Atlas Insurance PCC outlines what to consider beyond the typical captive and protected cell domicile comparisons
When comparing captive and cell domiciles, the academia, guides and articles often only scratch the surface of relevant features and characteristics. Although these can help shortlist options in the face of a wide choice, some crucial aspects are often missed in the initial shortlisting and considerations.
This article covers aspects and needs that can emerge in the set-up journey, or even years later. These aspects include the need for substance in the domicile, potential to write risks directly, flexibility to change and adapt, accounting standards and ease of group consolidation, and the changing expectations of stakeholders.
New pain points will inevitably emerge over time, driven by changes in stakeholder expectations, mergers and acquisitions, or the organisation’s strategy, direction or risk financing needs.
Protected cell companies (PCCs) should be considered as more than capital and cost-efficient solutions for organisations not large enough to have a standalone captive. Companies, even large corporations with established captives, should delve deeper into the solutions some cell hosts can offer to address the above needs and pain points.
It is important to move beyond legislation and regulation to determine whether the domicile hosts PCCs that:
- Have significant substance with premises and people in the domicile
- Can cover risks directly in the territories in which the organisation is or may be active in future
- Cover risks inside rather than just outside the captive domicile
- Are long-established contributors to the domicile’s local economy
- Are not restricted to hosting fully funded cells and take an underwriting approach to assess the cells they host
- Have experience with cells writing direct third-party consumer insurance products
- Have non-cellular cores well capitalised beyond regulatory requirements
- Can rapidly incubate or front risks through their non-cellular core
- Are independent of international brokers
More traditional considerations typical in domicile comparisons include capital requirements, regulatory fees, application timelines, legislation, reserving, supervision, reporting requirements and taxation.
Although these traditional considerations are undoubtedly relevant, focusing on these alone can cause organisations to miss out on the more financially and strategically impactful domicile features and service providers. The following considerations are equally as important when selecting a domicile for a captive or protected cell.
Changing stakeholder expectations
The choice of domicile, particularly onshore versus offshore, often depends on stakeholders’ expectations, whether regulators, tax authorities, investors, customers or employees.
With an increased focus on broader sustainability and ESG considerations, captives and cells should be helping the parent company enhance its reputation rather than cast doubts on its values and motivations.
Ireland, Luxembourg and Malta are key EU member states that have tailored themselves to improve understanding and proportionally facilitate captives while adhering to EU minimum standards and requirements, including Solvency II and the Insurance Distribution Directive. In addition, Malta is also the only EU member with protected cell legislation — cells can be capital efficient, with Solvency II recognising cells as ring-fenced funds.
Reinsurance cells do not need to be domiciled in the EU to cover EU risks. Offshore jurisdictions can offer lower capital and cost-base. However, growing stakeholder pressure has increased the interest in establishing reinsurance cells within the EU, including for organisations headquartered outside the EU, such as Switzerland.
Malta adopts the latest International Financial Reporting Standards (IFRS), including the new IFRS 17. While implementation may be challenging for standalone insurers and captives, PCCs help facilitate compliance as they implement it for their other cells, and in Atlas’ case, for its active core. Compliance with IFRS 17 can help owners consolidate the cells in their groups with increased transparency to stakeholders.
Need for substance in the domicile
Stakeholders are raising the bar for captive substance. With shared economies of scale, Maltese PCCs give confidence in being onshore in the EU, yet without the complexities, costs and time associated with a standalone company — potentially saving capital, too.
Insurers are increasingly expected to have adequate on-the-ground staff and employed key function holders. PCCs can help address substance requirements as cells form part of a broader single entity that provides shared board, governance and key functions in Malta.
Some PCCs also actively write business through their core. For example, Atlas’s core is a long-established contributor to the local economy as a traditional non-life domestic insurer with multiple branches and offices in Malta, naturally providing ample substance to the PCC. PCCs that actively cover risks in their domicile also address arbitrage objections from stakeholders on insurance companies that only cover risks outside their domicile.
Potential to write risks directly
As aforementioned, Malta is the only EU member state with cell legislation, meaning Maltese PCCs can provide cells with direct access to the European Economic Area single market. Following Brexit, some PCCs continue to provide access to the UK market. Atlas was one of the first PCCs to submit a branch application to the UK Prudential Regulation Authority. While the application is processed, new UK business continues to be written under the UK Temporary Permissions Regime.
Fronting partners can provide added value and simplify compliance requirements. However, they can be increasingly selective. Fronters also add costs to the programme, affecting feasibility, especially when premiums are below their rising minimums.
EU direct writing cells are slightly more costly than pure reinsurance cells. However, the saving of fronting fees can make them more cost-effective, notably where local compliance and outsourcing needs in the country of risk are limited or are handled by intermediary subsidiaries of the cell owner.
Maltese PCCs with an active core can also rapidly front and incubate risks, giving more time to assess and set up a cell. When licensing a cell before renewal, Atlas is able to underwrite the renewal through its core, providing it is already passported to all the countries where the risks are situated for the required classes of insurance.
Flexibility to change and adapt
Many offshore domiciles are well suited for reinsurance captives and cells, with typically lighter regulatory environments, lower taxation, and more rapid application and set-up timelines. Some have introduced fast-track schemes promoting the pre-authorisation of captive insurance cells to be licensed within 48 hours. For many organisations, this fits their present needs very well.
Other jurisdictions provide a more rounded and robust environment catering for the possibility of consumer distribution or potential third-party protection. Solvency II and equivalent jurisdictions also help reduce the capital cost for insurers fronting unrated captives, which can help fee, collateral and capacity negotiations.
Most PCCs are owned by intermediaries or investors who restrict the cells they host to fully funded programmes with no theoretical risk gap or potential secondary recourse to the non-cellular core. The cores of these PCCs tend to cover the absolute minimum capital needed for a core without any insurance activity.
There are then the exceptional PCCs with a broader appetite, experienced with writing consumer and third-party business across several countries. Their cores are inherently exposed to risk, so the extent of their resources and surplus capital beyond regulatory requirements becomes an essential factor to consider. These PCCs with active cores could be used to initially set up a reinsurance cell with the option to extend the cell’s licence to write third-party business eventually.
With the pace of change continuously increasing, organisations appreciate the ability to adopt an agile, iterative approach to setting up their insurance vehicles with real options to scale and evolve.
For example, Atlas hosts multiple insurtechs. Occasionally, startups with promising models do not have sufficient data or capital to set up a cell. They may have reinsurance lined up or they may wish to run a contained pilot to help them attract investors and better estimate projections.
Through its core, Atlas has assisted insurtech ventures in micro-testing parametric and other business models, for example, using blockchain smart contracts to automate underwriting and claims processes. The non-cellular core can provide a sandbox facility that improves time-to-market and the gaining of actual market data. Business plans and projections can then be revised based on experience. With these considerations, it should be clear that the organisation’s strategy and domicile choice can significantly be shaped not by the domiciles but by providers in those domiciles, particularly the well-resourced and experienced PCCs that foster sustainable innovation, delivering new solutions to emerging challenges.
