Captive Insurance – A Primer and Recent Developments

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What is captive insurance?

Captive insurance is generally defined as a form of self-insurance for which an insurer is established to meet the unique risk-management needs of its insureds.

Why form a captive insurance company?

Captive insurance companies are formed for a number of reasons including, among others:

• Reducing reliance on commercial insurance;
• Reducing costs in premiums and increasing price stabilization;
• Providing coverage not otherwise available for particular business risks;
• Taking advantage of tax benefits; and
• Directing investment options.

Types of Captives

There are several types of captive arrangements that businesses can use to optimize their risk management strategy, depending on their size and the risks they are looking to insure. The following are some of the more common types of captives:

Pure Captives. A pure captive insurance company is a captive that insures only the risks of its parent company, affiliated companies, and controlled unaffiliated business.

Group Captives. A group captive is a captive owned by multiple, non-related individuals or entities to insure the risks of the owners.

Protected Cell Captives. A protected cell captive is a captive with separate units (or cells) that allow for distinct financial and legal separation. Each cell has dedicated assets and liabilities ascribed to it, and the assets of an individual cell cannot be used to meet the liabilities of another cell.

Micro-Captives. A micro-captive is a captive insurance company that has an annual written premium of less than $2.8 million (for 2024) and qualifies for the alternative tax structure provided for under Internal Revenue Code § 831(b). Micro-captives can help smaller entities that would normally struggle to create a captive.

Recent Developments in Captive Insurance

1. On April 14, 2025, Arkansas HB1821 (Act 560)^[1] was signed into law, creating a state-owned captive insurance company that aims to stabilize property insurance for Arkansas public schools, state-supported institutions of higher education, and state-owned properties. The act also provides for a state captive insurance program trust fund that will consist of funds transferred from the state-owned captive and any other funds provided by law. The trust fund will manage capital, claims, reserves, and operating expenses. Funds in the trust fund may only be used for the benefit of the state-owned captive and to meet the captive’s expenses. All public schools, state agencies, and state-supported institutions of higher education that accept state funds for their facilities will be required to participate in the captive insurance program. The state-owned captive is designed to better manage risks and exposures specific to public institutions, potentially leading to cost savings and improved financial stability.

2. ClearPoint Health (“CPH”), which describes itself as a marketplace of alternative funding solutions, has released a new captive risk strategy designed to “solve for adverse risk retention and promote accountability among employer members.”^[2] CPH explains that small to midsize businesses are leaving fully insured health plans in favor of captive insurance programs, but the businesses often encounter “adverse risk retention,” which refers to “a pervasive issue in which captives continue to retain high-cost employer members by subsidizing their controlled costs onto low-cost employers.” In response, CPH purports to have designed a captive model that enables plan customization, provides insight and analytics on employer members’ behavior, and creates certain engagement incentives that reward employer members’ efforts to manage certain employee healthcare claims costs. CPH Chief Strategy Officer Gene Pompili sees the launch of this new model as a key moment in CPH’s insurance movement that aims to prioritize engagement and support.

3. On April 9, 2025, CIC Services, LLC (“CIC”) filed a lawsuit against the IRS seeking to invalidate an IRS rule targeting micro-captives.^[3] In the suit, CIC claims that the rule is a continued campaign of regulatory overreach by the IRS that harms legitimate business owners and mirrors a previous regulation that was struck down in court. In January 2025, the IRS issued the Final Rule, Micro-Captive Listed Transactions and Micro-Captive Transactions of Interest,^[4] which, as the title suggests, focuses on micro-captives and their associated federal tax benefits. CIC argues that this Final Rule imposes onerous and costly reporting requirements, creates reputational risk, reduces business opportunities, and threatens both participants and advisors with potential penalties and criminal liability, without supporting evidence or compliance with administrative law. The lawsuit seeks to vacate the Final Rule and permanently bar enforcement against CIC, its clients, and its affiliates. 

4. In Genie R. Jones, et al. v. Commissioner of Internal Revenue,^[5] the U.S. Tax Court emphasizes that in order for a captive to claim tax benefits under I.R.C. § 831(b), the captive must be in the business of insurance. The case involves a micro-captive (“CSI”), formed to manage the “unknown” risks of its affiliate (“STW”), that elected the tax regime available to micro-captives under I.R.C. § 831(b). In return for the coverage, STW paid yearly premiums to CSI in the amount of $813,000 despite already being covered under a general insurance contract with another insurer, with yearly premiums around $67,000. Under I.R.C. § 831(b), an eligible insurer does not have to count premiums received as income but need only pay taxes on investment income, so CSI did not report the $813,000 of premium payments as income. And because insurance premiums are generally tax deductible for businesses,^[6] STW claimed a tax deduction for the same amount. However, the benefits of the CSI arrangement did not stop with taxes: during its short existence, CSI also provided a large unsecured loan to its owners, of which the principal was paid back in full but without any interest payments.

Upon review, the Court found several issues with the captive arrangement, stating that CSI was not organized or run like a real insurance company, pointing out the lack of an initial underwriting analysis when creating CSI’s policies, the unsecured loan that was not commercially reasonable, and the very high premiums that bore no discernible relation to the purported coverage. The Court also determined that CSI did not properly distribute the risk of loss among its policyholders. The Court concluded by emphasizing that an entity cannot be a micro-captive insurance company unless it actually is an insurance company: the CSI Program did not constitute “insurance” for federal income tax purposes because (1) CSI did not achieve risk distribution; and (2) the captive arrangement did not resemble insurance in the commonly accepted sense.

_{[1] H.B. 1821 (Act 560), 95th Gen. Assemb., Reg. Sess. (Ark. 2025).}

_{[2] Emily Turek, ClearPoint Health Introduces Evolved Captive Risk Strategy, ClearPoint Health, EINPresswire.com (April 1, 2025, 16:00 GMT), https://www.einpresswire.com/article/798782248/clearpoint-health-introduces-evolved-captive-risk-strategy.}

_{[3] See Complaint, CIC Services, LLC, v. Internal Revenue Services, Case No. 3:25-cv-146 (E.D. Tenn. Apr. 9, 2025).}

_{[4] 90 FR 3534 (Jan. 14, 2025).}

_{[5] See Genie R. Jones, et al. v. Commissioner, T.C. Memo. 2025-25 (March 25, 2025).}

_{[6]   I.R.C. § 162 (Trade or Business Expenses).}