Definition
Captive insurance is an arrangement in which a business creates its own insurance company to insure its risks, potentially with tax advantages.
How It Works
The operating business pays deductible premiums to a captive insurer it owns, which holds reserves to pay claims. Properly structured small captives can have favorable tax treatment, but the arrangement must reflect genuine insurance with real risk.
Example
A business with hard-to-insure risks forms a captive to cover them, deducting premiums while building reserves under its own control.
When It Works Best
It works best for profitable businesses with genuine, uninsured or underinsured risks and enough scale to justify the cost.
Who It Applies To
Established businesses with real risk-management needs.
Watch-Outs
Abusive micro-captives used mainly for tax benefits rather than real insurance are a top IRS enforcement target. Risk management must come first, tax planning second.
