Famous for being one of the richest men in the world, billionaire investor Warren Buffett loves the business of insurance. Why? Because of two keywords he included in his letter to shareholders of Berkshire Hathaway 54 years go when he made his first entrance into the insurance business: “Investment Float.”
Insurance is essentially the business of prediction of future liability. The idea is that premium is paid to an insurance company and basically sits somewhere until it is paid out to those with claims. This money could sit in a vault or be crammed under a mattress, but then it’s not working for the holder of that money. Insurance companies instead take premium dollars and invest it. This it the “investment float” Mr. Buffett was talking about.
In the traditional insurance marketplace, the return on that investment goes directly to the insurance carriers. In Warren Buffett’s case this includes GEICO, Guard, National Indemnity, General Re, to name a few. They get to not only keep any of their clients’ unused premium dollars, but they also get to keep the money generated by investing those dollars in the first place.
In the alternative insurance marketplace, however, captive members are the insurance company. Just like a traditional insurance company, premium dollars are pre-funded for anticipated future losses. Just like a traditional insurance company, the money is invested while it’s not being used to fund claims. Unlike traditional insurance companies, though, captive members reap the rewards of both unused premium dollars and investment income.
Not often will expenses generate income, but insurance captive programs are structured exactly that way. Because of this, organizations are incentivized to prioritize safety and risk management to limit their losses since unused premium dollars are returned in the way of dividends. In addition, they enjoy the benefits of investment instead of some insurance company.
If you’re interested in joining a captive program, it’s important to partner with excellent investment advisors who understand exactly how captive insurance works.
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