Barney Dixon speaks to Gulfstream Risk Advisors’ Bill Hodson on RRGs, their benefits and their future
For companies looking at alternative risk financing, risk retention groups (RRGs) can be a good choice for business sectors traditionally considered “non-standard” or “specialised.”
With the current hard market, RRGs are facing another natural uptick in formations, with growing industries, such as healthcare, increasing demand for this type of captive structure. But, in terms of new formations, RRGs remain behind other types of captive structures. Though RRGs provide myriad benefits and can be more cost-effective and flexible for some types of liability coverage, they may not be the right choice for every business.
Those looking to RRGs for risk financing should carefully consider the benefits and whether their line of business is the right fit before seeking such coverage.
Risky benefits
RRGs are member-owned entities that pool and spread the risk of similar companies within an industry by providing liability coverage to those operating in non-standard and specialised business sectors. RRGs are authorised under the Federal Liability Risk Retention Act (LRRA) of 1986, which allows group self-insurance plans and group captives to form an insurance company to cover their liability exposures on a multi-state basis, using a single domicile licence.
RRGs provide liability coverage that is either not available or is too expensive in the traditional insurance market. They allow members, who tend to have similar lines of business, to pool their risks, reducing the overall cost of the coverage. Members have more direct control of their insurance coverage and can tailor their policies to suit their needs.
According to Bill Hodson, managing member at Gulfstream Risk Advisors, historically, RRGs have “served the liability coverage needs of those operating in business sectors considered by the traditional insurance marketplace to be ‘non-standard.’”
But he argues that these are usually “classes which the traditional market has a class bias against, mainly because when they have tried to write them they’ve gotten it horribly wrong from the underwriting expertise, coverage provision and claims handling perspectives.”
This includes companies involved with “specialised classes of the medical, healthcare and long-term care, commercial automobile, property development and contracting, adventure and recreational sports, religious groups and education industries,” Hodson says.
He adds: “As these sectors continue to grow and have issues finding capacity, and experience increased demand for coverage solutions, I believe RRG formations will continue in these areas.”
There are many benefits to using an RRG, but Hodson notes that they aren’t for everyone. “Specialty insurance shouldn’t be looked at as a commodity,” he says. But for those with a “more holistic, longer-term view of their business and risk management programmes, insuring with an RRG makes sense.”
Hodson lists a wide-range of benefits for RRG member-insureds. Specifically, he notes that RRGs offer “policy and coverage terms that are tailored specifically for the needs of their industry.” RRGs also offer the “price stability that comes from RRG management and underwriters understanding the economic and exposure dynamics of a particular industry,” according to Hodson.
He also identifies the “self-policing aspect of RRG underwriting and risk selection personnel knowing the players in a specialised industry, and [having] the potential ability to benefit from their own good experience through dividend provisions.”
“Another advantage is that RRG member-insureds have the potential — depending on the RRG’s structure — to share in any positive trends in loss experience via a dividend or other sharing arrangement.”
RRGs also benefit from risk sharing, which, similar to any group captive, allows members to participate in levels of coverage they would be unable to reach on their own.
Hodson says that RRG-member-insureds have a “commonality of purpose, understanding, and on a fundamental level, the risk exposure that they’re both retaining net and insuring with the RRG.”
“In most cases, the businesses insured by RRGs are in a relatively small, specialised universe. The RRG’s underwriters are intimately familiar with the nuances of the risk exposures inherent in the business the RRG was formed to write.
“So, again, there is a certain amount of self-policing that occurs within the underwriting function of most RRGs that enhances the effectiveness of risk sharing,” he adds.
RRGs can face the same challenges as the commercial insurance marketplace, but their flexibility allows for more manoeuvring compared to other self-insurance structures.
RRGs can be rapidly formed to meet market needs and can also become operational quickly due to their unique regulatory provisions — they only need to inform regulatory authorities where they issue a policy, instead of going through a formal licensing and approval process before they can issue a policy.
Education, education, education
RRGs can be hamstrung by a lack of knowledge and education in the industries they service. Hodson says that education around what an RRG is and how it works is “critically important to everyone involved as a member-insured, employee, service provider, regulator or reinsurer of RRGs.”
Hodson notes: “Most regulators in captive domiciles are knowledgeable about RRGs and do a good job of regulating them, so there’s no real issue from that perspective.”
But he says that he has run into a lack of knowledge on the front side of RRGs, the primary producer and member-insured side, and the reinsurance side.
Hodson contends: “On the front end, an RRG’s stability is always potentially threatened by producers not knowing exactly what an RRG is and how it works. They are simply motivated to place the risk and collect a commission. There’s nothing wrong with that — that’s just how the mechanism works. But if the critical information of how an RRG differs from a traditional insurance company isn’t being properly conveyed to the insured(s), then problems can arise from coverage disputes, policy provision disputes, capital and subscription agreement disputes and so on.”
He adds: “On the back end, I find a surprising number of reinsurers active in writing reinsurance for RRGs do not completely understand some of the intricacies of RRG structures, regulation and operational dynamics. Most of the time, these knowledge gaps are clarified prior to the reinsurance programme’s inception. However, if they are not, the reinsurer’s lack of knowledge may lead to a coverage dispute or denial of coverage, which could completely destabilise the RRG and threaten its ongoing operation.”
There is also the issue of a lack of understanding of RRGs within the wider insurance industry, which leads to RRGs relying on the traditional broker network for businesses that do not receive many applications that fit their risk profile.
This isn’t just an issue facing RRGs, it is encompassing the entire captive insurance industry, where the wider insurance industry is not entirely aware of its niche counterparts. However, much work is being done to change this.
The hard market
RRG formations, along with other forms of alternative risk financing, tend to follow the ebb and flow of the soft and hard market. Hodson says that “every time capacity or coverage is restricted in a hardening or hard market, we see an uptick in captive and RRG formations. Hardening conditions in the insurance marketplace over the past couple of years have sparked an increase in RRG formations, and the trend is continuing.”
But while RRGs follow this curve, they typically sit behind other types of captive structures in terms of new formations.
Despite this, Hodson expects there will be “continued interest in not only supporting existing RRGs, but in new RRG formations” going forward.
He adds: “I think that the surge in RRGs will also be fuelled by the necessity of creative, bespoke coverages for emerging risks, and the speed-to-market advantages that RRG’s have over traditional insurers — think cyber, internet of things and artificial intelligence, utility infrastructure, supply chains and more.”
He also notes that, going into 2023 and 2024, the trend of formations focused on transportation, healthcare solutions, cyber liability and security and construction will continue.
Hodson says: “I’ve found that capital providers, when faced with options as to where and how to deploy their capital, are more focused on standing up new RRG, captive and insurtech projects than in previous years.
“I believe that most of the RRGs currently operational will remain stable, or perhaps manage modest growth given the current liability market conditions. Doing this in a period of rising monetary inflation, run-away deficits and unchecked social inflation will be challenging, but I remain positive about the RRG marketplace.”
Hodson concludes: “I’ve always firmly believed that the key to RRG stability and longevity is rock-solid corporate governance. An RRG is a licensed commercial insurance company, and it must be run as such. A strong understanding of and adherence to the RRG’s core mission, constant education of its member-insureds, and the cultivation of a network of committed service providers and other business contacts, is vitally important.”
