Amid the ongoing hard market, domiciles located around the world are finding more and more demand for new captive formations. Yet in arguably the biggest international specialty insurance hub, the London market, there is still no regulation to enable businesses to take advantage of wealth of industry knowledge in the market and form a London-based captive. However, with Lloyd’s taking steps to support the creation of captive syndicates and the popularity of home-domiciled captives, could things be about to change? By Matt Scott.

The industry for insurance captives is thriving, with the latest figures from AM Best revealing that there are around 7,000 captives globally, up from just 1,000 in 1980. In the US, all but one of the top 10 largest US domiciles reported an increased number of licensed captives in 2022, according to Willis Towers Watson, fuelled by the difficulties in the property commercial market.

Meanwhile, the key Atlantic and Caribbean domiciles of Bermuda and the Cayman Islands continue to be a haven for new captives as the number of licences issued refuses to slow down. Indeed, the Bermuda Monetary Authority issued 18 new captive licences in 2022, up from just eight the previous year and six in 2020.

Cayman saw 33 new licences issued during 2022, compared to 37 in 2021 and 32 in 2020. New activity in these regions continues to focus on the North American market, but there is a growing global interest with these domiciles tending to be favoured by captives involved in large and complex global insurance programmes.

And the hard market we currently find ourselves in is only going to increase the popularity of captives with large corporates but, even with this impressive growth, there are no active captives domiciled in the UK at the moment.

This is despite the UK having the world’s second largest insurance market, and the fact that Lloyd’s of London has a long history of innovation in the insurance industry – along with an international reach. So, what is behind this reluctance for captives to domicile in the UK? And what could be done to entice them back?

Regulation unfit for purpose

One of the key factors limiting the appeal of the UK as a domicile for captives is the current regulatory regime, with many in the market seeing the PRA’s approach to regulation as disproportionate to the risk presented by captive carriers.

Indeed, unsuitable regulation was one of the reasons that AstraZeneca decided to exit its UK-based captives, relying instead on operations domiciled in Vermont and Cayman. Kevin Steed, head of group insurance for AstraZeneca, said that the issue really came to a head with the introduction of Solvency II regulations across the European Union – regulations that the UK are still currently aligned with.

“Pre-Solvency II, we found that the PRA was applying certain parameters and ways of working with us that didn’t really sit with a captive,” he says. “Yes, it sat with a big Allianz, Swiss Re, Munich Re, AIG, and so on, but not for a parental group.

“Then when you bring Solvency II into it, for us that was the tipping point because that brought in a whole new layer of processes we had to work with, and it just wasn’t proportional [for a captive].”

Sedgwick international business development director James Norman says that there is also a historical perception that is working against the UK when it comes to being a domicile for captives, particularly when it comes to tax arrangements.

“Historically, the UK has been seen as an unattractive destination for captives, which is paradoxical considering that you have all the expertise and specialisms of Lloyd’s and the fact that the UK is one of the global centres of insurance,” he says. “But the perception has been that going to Bermuda or Cayman has been easier from a tax perspective, and that probably was initially true back in the 1950s and 60s when it was easier and more cost-effective.”

Today, however, Norman says things have changed, but that doesn’t mean domiciles such as Bermuda or Cayman have become less attractive. If anything, they have cemented their positions as some of the leading domiciles for captives.

“It’s 2023 and things aren’t all about tax anymore,” he says. “But they’ve still got the expertise, they’ve got the experience, and they’ve got the reputation – it goes beyond just pure regulation.”

ESG and reputation growing factors

Beyond this regulation, however, the growing importance of the ESG agenda and public perception is starting to make home-based locals a more attractive proposition for domiciling a captive.

“There are greater sensitivities about the optics of having subsidiaries in offshore locations,” Willis Towers Watson global head of captive and insurance management solutions Peter Carter says. “Even if the primary purpose had nothing to do with tax planning for the outsiders looking in, they may suspect something untoward going on. And then, given the general OECD drive to ensure that there isn’t erosion of the taxable base, through manipulating some fine angles using offshore structures, that sort of competitive advantage is whittled away.”

The environmental pillar of ESG is also contributing to this trend, with Carter saying that many corporates are already looking at the carbon impact of overseas captive operations.

“If you’re based in the UK and you’ve got a subsidiary out in a far-flung location, because it has a perception that it’s got friendly insurance laws you want to take advantage of, you’ve got to fly halfway around the world [to manage it],” he says.

“These days, burning that sort of carbon is not a great optic. So that’s rising up the corporate agenda, in terms of the captive’s location and proximity to the main locus of where you’ve got key personnel that will be governing these things,” Carter adds.

And such trends are already seeing European captives redomiciling to locations closer to home.

“We’re certainly seeing in Europe a trend of renunciation of captives to be closer to home,” Carter says. “And so you may see certain UK-based multinationals looking at that and thinking, ‘let’s do it, let’s redomicile to the UK’.”

Regulatory flexibility key

To effectively compete with this European resurgence, however, the PRA needs to move away from its stance as being “captive neutral”, as Norman puts it, and to create a regulatory framework that is suitable for captives and is proportional to the risk being presented by these operations.

“At the moment, the UK treats captives like any other insurance company, but they are not and they can’t necessarily be managed in the same way,” Norman says. “So, the regulation has to be more flexible, which is what we’ve seen in Europe, particularly around the application of Solvency II and solvency requirements, and then also reporting requirements.”

Indeed, Steed cited the flexibility of Cayman as a reason why AstraZeneca continues to have a captive domiciled there, with the country allowing dual domiciliation – Cayman for the insurance operations and the UK for tax purposes.

One other such level of flexibility surrounds the idea of capacity, something that is particularly important in the tough economic times we find ourselves in today.

“The level of capital and liquidity you need to tie up in the vehicle is a key consideration for treasurers and chief financial officers,” Carter says. “That’s because the whole time they’re being questioned and challenged about having too many subsidiaries tying up capital and tying up liquidity.

“So, to that point, those jurisdictions that allow a certain amount of leniency towards lending spare capacity, excess capital and liquidity back to the parent company make it helpful, rather than not helpful, in the mind of the CFO and the treasurer.”

Growing opportunity

Despite these challenges, the opportunity that exists for the UK, should it make changes to entice captives back to its shores, is growing off the back of a hardening market that is seeing increasing numbers of large corporates using their capital as a strategic vehicle for more effective risk management.

“We’re seeing more appetite to set captives up or to expand captives and use the carrier more to respond to the rate rises being seen in the market,” Norman says. “So the timing is perfect, and it’s a big space to grow because 50% of captives are in the US, and then the rest are pretty much in Bermuda and Cayman. It’s not that Europe has a load of captives and the UK doesn’t – Europe has about 10% of the captive market, but more are being set up in Europe recently because regulation is more favourable there.”

France has already made changes to make it more appealing as a domicile for captives, with the French senate passing new measures at the end of 2022 that facilitated the creation of captive reinsurance companies by making them tax deductible.

Senator Jean-François Husson said that it was a question of “trying to find solutions for risks which are not currently covered, on which insurers do not want to be located,” such as those relating to pandemic or cyber risks.

He added the second objective was to “open up competition a little and to ‘boost’ the insurance companies”.

And while the French market has never been hostile to captives – five new reinsurance captives have been formed in the domicile by French corporates since 2020 – the new regulations are expected to accelerate growth, something that could have a significant impact on the neighbouring domicile of Luxembourg.

Norman, however, is not perturbed about what this means for the future of the UK captive market, and says the reputation of the London market could swing things in favour of the UK – if the necessary changes to the regulations are made, that is.

“Bermuda and places like that have that expertise and reputation when it comes to insurance, but London has the reputation too,” he says. “So it can catch up, and it’s the right time to be doing it. “Lloyd’s is probably the key to enticing captives into the UK, and they’ve been making moves to get the UK as a captive friendly area and to get the regulation aligned with that activity.”

Lloyd’s itself is also very keen to take advantage of the potential of the captive market, rekindling its interest in the sector after first offering captive hosting services in 1998.

Since then, the market has only launched one captive syndicate for pharmaceutical company SmithKline Beecham – now GlaxoSmithKline – but that syndicate was placed in run-off as long ago as 2001.

Just last year, however, Lloyd’s agreed a new framework that allows companies to create a captive syndicate within the world’s oldest specialty insurance market, giving them access to Lloyd’s licences across the globe.

And Carter says this presents a “fascinating prospect” for captive operators. “The fascinating prospect with Lloyd’s approach to providing a captive solution is the fact it has this global licence network in 200 territories and that it has the ability to directly write insurance in more than 70 jurisdictions,” he says. “That is hugely attractive because it means corporations can then look to reduce their reliance on fronting insurers in those jurisdictions where they can’t directly write business.”

This will, however, require a change of mindset for captive operators, particularly when it comes to the idea of fixed costs.

“We’ve looked at Lloyd’s as an option for clients interested in what they are proposing, and there is a scale beyond which you can get quite a useful benefit case going, but you have to accept that there are slightly higher fixed costs,” Carter says. “That’s because you have things like solvency and all the machinery of how Lloyd’s operates.

“But once you’ve got that scale, there are some big advantages, and we wouldn’t underestimate the challenge of a large company with a global programme having to work through multiple fronting insurers putting up letters of credit which only seems to get more demanding. In the current cycle, I think that’s a big plus,” he adds.

Lloyd’s itself, however, says that for a captive that writes “a significant volume of business in multiple territories where Lloyd’s has permission to underwrite”, the captive syndicate can be a “more cost-effective model”.

And Steed, for one, is hopeful these tailwinds can combine to add some momentum behind the UK’s hopes of becoming a captive domicile. “If there is a way to bring that economic value back into the UK, I think it would be worthwhile,” he says. “It’ll be interesting to see where it goes.”