Utah Captives Offer Solution to Homeowners Insurance Dilemma

The following comes to us from consulting actuary Gregory W. Fears Jr. and Robert J. Walling III of Pinnacle Actuarial Resources and is republished with permission. Mr. Fears can be reached at [email protected] and Mr. Walling can be reached at [email protected].

A fundamental change is coming to captive insurance. For the first time, a captive domicile, Utah, is allowing captives to provide personal lines of insurance. Given both the distressed conditions in many homeowners insurance markets and the fast-following behavior of captive domiciles, this looks to be one of the major captive trends of 2024.

Captive insurance regulation in the United States has long excluded captive insurance companies from providing personal lines of insurance, such as homeowners and personal auto. Personal lines are typically more stringently regulated than commercial lines of business for one simple reason—they directly involve individual citizens who need to be protected.

Traditional insurance companies have access to guarantee funds. This is a concern for policyholders, making sure their insurance company is solvent and able to pay claims and make them whole. Captive insurers, on the other hand, are typically less capitalized, have lower administrative expenses, are less regulated, and do not have access to guarantee funds. To date, the primary personal insurance coverage available through captives was tenant liability insurance, which is available to captives owned by landlords and uses fronted insurance policies and reinsurance to the captive.

So why offer limited access to captives for homeowners insurance now? Homeowners coverage has become increasingly unaffordable or even unavailable in some areas, with leading insurers reducing their books of business or withdrawing from states entirely. This is due to catastrophes and natural disasters becoming more common: floods, wildfires, earthquakes, windstorms, hail, hurricanes, tornadoes, and various other natural disasters. For homeowners in catastrophe-prone states, insurance options are few and dwindling.

Utah has heard these homeowners' struggles and recently passed captive legislation to attempt to provide some relief. Utah changed their captive legislation to allow homeowners associations (HOAs) to form a captive insurance company to provide homeowners insurance to their members. In other words, HOAs can form a captive insurance company, and the association members become the captive's policyholders. This is a monumental change in the captive insurance market, which previously prohibited writing almost all personal lines insurance.

But while this expansion is new and exciting, it's not that simple.

There are a number of potential positives. Forming a captive for one or more HOAs has some similarities to an association or group captive. The level of control of the insureds allows for consistent loss control. Consider being able to ensure that an entire neighborhood enforces the highest level of wildfire or hurricane loss controls. Consider loss prevention approaches like mandatory tree trimming or hurricane shutters coordinated across an entire book of business. An HOA-owned captive can also provide coverage for HOA community properties. Examples could include clubhouse, golf course, community park, community pool, directors and officers liability insurance for the HOA Board, and even workers compensation deductible reimbursement insurance for community staff.

An HOA is familiar with budgets, balance sheets, surplus, collecting dues, and managing or supervising the day-to-day operations of the association. Starting a captive and providing insurance to members would be a natural progression.

For homeowners, being part of an HOA requires a level of involvement and compliance with the HOA rules, regulations, and bylaws, along with monthly or annual dues. Participating in a captive would require additional commitments from the homeowner, and these additional commitments would come with added benefits. However, the additional financial commitment would be with other individuals who shared financial interests and were neighbors.

Without the protection of a state guarantee fund, what additional regulatory protections might be prudent for a captive insuring the members of an HOA? Considerations include the following.

• How much capitalization will be required for an HOA captive? One should consider the total insured values of each home, the per occurrence limits provided net of any reinsurance, and insured deductibles.
• How much reinsurance is needed? Given the concentration of total insured values, there will almost have to be some catastrophe excess of loss reinsurance. Questions would include: How much? Does it need to be "A" rated?
• What will be the adoption rate within the homeowners association be? The captive will need a substantial percentage of homeowners to purchase coverage to properly distribute the risk of the program and generate sufficient premium to support capitalization. A high participation rate will also assist in ensuring that risk assessment and loss prevention processes are adopted. A key question may be: Do all members of the HOA need to adopt the risk management protocols even if they don't participate in the captive?

The captive insurance industry has a long and respected history of developing innovative solutions to the availability and affordability problems that occasionally arise within the traditional insurance market. The change in Utah captive insurance legislation allowing HOAs to form association captives is yet another example. It comes at an opportune time for homeowners and HOAs in catastrophe-prone regions around the country who are struggling to find affordable coverage and, sometimes, any coverage at all. Utah captives are stepping up with a viable and important solution to fill that void.