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CAPTIVES 101 Charles Collis Conyers Dill Pearman Shelby Weldon Bermuda Monetary Authority, Deputy Director, Insuran

. The views expressed by the participants in this session are their own and not necessarily the views of their employers or any other organization with which they may be affiliated. If you decide to establish an insurance company in Bermuda you should seek legal and other necessary advice.. . SHOULD I HAVE A CAPTIVE?.

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CAPTIVES 101 Charles Collis Conyers Dill Pearman Shelby Weldon Bermuda Monetary Authority, Deputy Director, Insuran

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    1. CAPTIVES 101 Charles Collis – Conyers Dill & Pearman Shelby Weldon – Bermuda Monetary Authority, Deputy Director, Insurance Scott Bradley – Quanta Lorraine Mewett – Ernst & Young Jennifer Murkison – Marsh

    2. The views expressed by the participants in this session are their own and not necessarily the views of their employers or any other organization with which they may be affiliated. If you decide to establish an insurance company in Bermuda you should seek legal and other necessary advice.

    3. SHOULD I HAVE A CAPTIVE?

    4. Advantages Enhance Risk Management Program incentive for loss control and safety programs Flexibility in program design and structure Reduce insurance cost Capture underwriting profit Earn investment income Fronting opportunities in certain circumstances Access to the reinsurance market Potential tax benefits Provide evidence of insurance if required

    5. Potential Disadvantages Risk of adverse loss Capital commitment Unable to write admitted cover in most cases Restricted in some countries Operating costs Lack of risk pooling Requires long-term management commitment to see results

    6. Captive Utilization – Risk Funding Uninsured Exposures Deductible Buy-down – Hazard, Financial & Business Risk Investment Income Identified – Accrues to Risk Management Department Portfolio Transfers Visibility

    7. Captive Utilization – Profit Center Customer Coverages Joint Ventures Suppliers/Distributors Employee Benefits Employee Personal Lines – Homeowners, Automobile, Umbrella

    8. Captive Structures

    9. Topic BAD REASONS FOR ESTABLISHING A CAPTIVE I want a free trip to Bermuda each year Everyone else has one My experience is so much better than anyone else’s… Tax with no other business reasons Off balance sheet financing Best available terms

    10. REASONS OFF BALANCE SHEET FINANCING

    11. REASONS OFF BALANCE SHEET FINANCING

    12. BEST AVAILABLE TERMS

    13. THE FEASIBILITY STUDY

    14. Feasibility Study What is it? Provides you with relevant and objective analytics and discussion needed to asses the reasonable merits and anticipated cost / benefits of a captive.

    15. Feasibility Study The Process Data collection Retained loss projections Economic analyses Domicile comparison The Result Specific recommendations Captive implementation plan Written report with quantitative exhibits and schedules

    16. THE SERVICE PROVIDERS

    17. INSURANCE MANAGER/PRINCIPAL REPRESENTATIVE AUDITOR ACTUARY ATTORNEY/CORPORATE ADMINISTRATOR

    18. Role of Principal Representative Principal Representative: statutorily required to report certain ‘events’ to include: Failure of the captive insurer Insurer ceases to carry on insurance business Monitor compliance to Section 56 directives Advise of insurer is involved in any criminal proceedings Significant changes in the business plan Basically the eyes and ears of the regulators

    19. Role of Insurance Manager Accounting Insurance Treasury Investment Claims

    20. Role of the Auditor The role of the Approved Auditor is to express an opinion as to whether the statutory financial statements are free of material misstatement and whether the statutory financial returns comply with criteria established in the Act. Such opinion should be independent and objective. Every registered insurer must appoint an independent auditor based in Bermuda who reports annually to the Authority. The audit is conducted in accordance with generally accepted auditing standards and generally US, Canadian, UK or International standards would be followed.

    21. Role of the Auditor The auditor issues a report which is filed with the statutory financial return which is addressed specifically to the Authority. Auditor is required to qualify the report if: - Deficiencies in the audit - Disagreements re valuations - Statutory financial statements or certificate of solvency or declaration of statutory ratios do not comply with the Act and Regulations - Opinions in the solvency certificate are unreasonable - Going concern

    22. Role of the Actuary Original feasibility study: Actual cost of proposed coverage(s) Correct value for current self-insured reserves Cash flow analyses Required funding levels (nominal or discounted) Ongoing: Pricing Reserving “Special Projects”

    23. ROLE OF THE BERMUDA MONETARY AUTHORITY

    24. THE APPLICATION

    25. Application to Incorporate & Licence Bermuda Monetary Authority Authorization and Compliance Division Ownership Insurers Admission Committee Insurance Program Knowledge and Insurance Expertise

    26. Insurance Application Pre-Incorporation Form Business Plan 5 Year Pro Forma Financial Statements (Balance Sheet and Income Statement) Other Supporting Documentation (if necessary)

    27. Business Plan Description of Shareholder Description of Insurance Business Lines of business to be written Layers to be written Fronting arrangements Retention Levels Reinsurance Program Section 56 Directions Service Providers

    28. INSURERS ADMISSION COMMITTEE (“IAC”)

    29. IAC: What is it? A quasi governmental committee that reviews all applications to establish insurance and reinsurance companies, brokerage firms, and other insurance related entities. The deliberations of the IAC are subject to the Official Secrets Act.

    30. IAC: Who are the members? Industry representatives from a variety of Companies Actuaries (non-life and life) Accountants Capital Markets Specialists “Traditional” Underwriters Others Representatives of the BMA attend all meetings

    31. WHAT DOES THE IAC LOOK FOR? Business Plan: Who are the players? What do you want to do? Does the plan make sense? Is the plan adequately supported: Justification for the premium Pro-forma financial statements Do the various documents agree (cover letter, business plan, pro-forma’s, actuarial report, forms…) Section 56 directions

    32. Incorporation Organization Directors and Shareholders Meetings to: Issue shares Approve bye-laws Appoint insurance managers Other formalities Capitalization Registration File Formal Application (substantially identical to preincorporation application)

    33. Timing Submit application on a Monday Application consideration by Committee on the following Friday (4 days later) Incorporation early the following week Organization, capitalization and registration may all occur on the day of incorporation or at the shareholders convenience Commence business

    34. INSURANCE REGULATION

    35. Categories of Insurers Long Term Business Insurers Life and annuity Some accident and health General Business Insurers All insurance business other than Long Term Business

    36. Classes of General Business Insurers Class 1 Pure Captives Class 2 - Group / Association Captives - Captives writing less than 20% unrelated business Class 3 General commercial companies Class 4 Property catastrophe/ excess liability companies

    37. Minimum Capital and Surplus

    38. Margin of Solvency The amount by which the Assets must exceed the Liabilities Liquidity Ratio General Business Insurers Only

    39. Solvency Margins – General Business

    40. Liquidity Ratio The “Relevant Assets” of an insurer carrying on general business must not be less than 75% of “Relevant Liabilities” THERE ARE NO OTHER RESTRICTIONS ON THE INVESTMENTS OR BUSINESS OF A BERMUDA INSURANCE COMPANY

    41. Relevant Assets Include Cash and Time Deposits Quoted Investments (including Equities, Bonds & Debentures) Unquoted Bonds & Debentures Investments in first lien mortgage loans on real estate Accounts and premiums receivable Funds held by ceding reinsurers Plus any other assets approved by the Bermuda Monetary Authority NB: Investments in and advances to affiliates are not “Relevant Assets”

    42. Margin of Solvency Long-term Insurers $250,000

    43. Annual Filings Every insurance company must prepare annually: Statutory Financial Statements Statutory Financial Returns Section 56 Exemption

    44. NEW BMA GUIDELINES

    45. REVISED SUPERVISORY MODEL RISK BASE FRAMEWORK

    46. OPERATIONAL ISSUES

    47. What to Expect – Calendar of events Monthly/Quarterly Production of financial statements Monitor solvency/liquidity ratios Working meetings Annually (required) Audit completed 6 months after year end File Statutory Return Annual General Meeting (AGM) Payment of government fee and business fee

    48. Things to Consider Careful not to underfund captive Tax implications for the parent How will accounting for the captive be handled at the parent end? Is there a plan to infuse capital if it is needed? Management of service providers (attorney, auditor, manager, actuary). Whose responsibility will this be?

    49. Audit Concerns GAAP vs Statutory financial statements only Risk Transfer Actuarial Tax SOX 404 Investment strategy Reinsurance structure Claims Handling Capitalization & distributions

    50. CORPORATE GOVERNANCE

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