Martin Ellis, manager of Comerica Bank's Global and Captive Insurance Group, discusses how captive insurers must provide collateral to their insurers on fronted programs. The main types of collateral are letters of credit and reinsurance trusts.

A letter of credit (LOC) is a one-page document issued by the bank to the front for a fixed dollar amount. The front presents it to the bank at any time to settle the captive's unpaid claims. An LOC is more expensive than a reinsurance trust; however, the investments are more flexible and the higher investment income may offset the extra cost.

A reinsurance trust is a three-party agreement between the captive, the front, and the bank. It is governed by Regulation 114 of the Insurance Department of the State of New York. Investments are restricted to cash, US governments, and highly rated bonds. A trust is cheaper than an LOC, however, with less investment income.