Employee Benefits and Healthcare – Current Captive Impacts Presented by: Moderator: Anne Marie Towle, CPA, VP & Senior Consultant, Willis Troy Filipek, FSA, MAAA – Principal and Consulting Actuary, Milliman Mark Smidt – Director, EBMS Re Kyle Plath – Senior VP, Trean Re Wednesday, September 28 1:30 – 2:45 pm

Agenda Healthcare Captives – Why and how? Impact of Healthcare Reform (PPACA) Case Study – EBMS and Trean Re Discussion and Questions

Healthcare Captives Why Captives for Healthcare? Similar as for other lines of business . . . Reduced insurance expenses Possible tax efficiencies Cash flow management More efficient use of capital (i.e., float) Ability to develop custom insurance programs – more flexible than commercial market

Healthcare Captives But healthcare is also different . . . Short term vs long tail expenses Generally predictable claim patterns Uncorrelated exposures relative to traditional risks held in captives PPACA pressures

Healthcare Funding Three types of funding mechanisms traditionally Fully insured – All risk transferred through premiums Self insured – All risk retained; use health plan to access network and pay claims Hybrid – Self insure with stop loss (aggregate and/or specific) to transfer catastrophic risk Stop Loss Specific – Per person catastrophic Aggregate – Total employer costs

Option 1: Jumbo Employers Works for sponsors with > 10,000 ees Huge advantage to already have a captive in place that insures other uncorrelated risks Option 1a - Medical stop loss coverage only Generally includes steep risk margin in commercial market More later in case study Option 1b – Reinsure ERISA benefits (e.g., group life, disability, AD&D) Employer acts as reinsurer and needs Prohibited Transaction Exemption (PTE) Administrative and regulatory requirements big Results Lower costs for same protection More premium and spread of risk in captive

Option 1: Jumbo Employers Administrative and Regulatory Issues DOL must approve PTE under Option 1b since ERISA prohibits economic gains from providing benefits Need A-rated fronting insurer per DOL Need competitive rates and year 1 benefit enhancement Capital and surplus requirements Need competencies in running captive Beware NAIC tightening of stop loss model law – Forces employers of all sizes to retain larger portion of risk

Option 1: Jumbo Employers PTE Process (Option 1b) Conduct feasibility study (cost/benefit analysis) Get help fast Captive manager Attorneys Independent fiduciary – Opine on PTE compliance US branch approval – domiciled jurisdiction if not a US captive Negotiate contract with A rated fronting insurance company File for PTE with the DOL and implement plan

Option 2: Smaller Employers See some sponsors with < 100 ees push to self funding under PPACA Pool together risks across employers Hybrid funding noted earlier – stop loss through captive Historically, RRGs used to get around state licensure requirements, but state lawsuits slowed this trend Employer specific self funded plan, attachment point, pricing, etc. Results Lower costs than fully insured Lower costs than commercial stop loss

PPACA Influence PPACA – Health Insurance Reform Costs continue to rise and many fear PPACA makes it worse New issues and concerns No annual or lifetime benefit maximums New mandates (e.g., $0 preventive with expanding definition) New entities – Exchanges, Co-ops, Accountable Care Organization, etc. New regulations (e.g., no medical underwriting, minimum loss ratios) and fees (e.g., insurer fees)

PPACA Influence Employers - Much more interest in self-insuring to: Avoid community rating for groups with better than average risks Avoid fees imposed on fully insured plans Avoid benefit mandates Take advantage of new offerings from savvy brokers and carriers

PPACA Influence Other entities Provider groups / ACOs: Historical management of financial risk did not go well, consider other options with financial risk coming back Co-ops: Not for profits established to compete with insurers, likely will need help with risk management / transfer / funding

Using Captives to Smooth Out Medical Stop-Loss Insurance Expense Mark Smidt – Director of EBMS Re Kyle Plath – Senior VP of Trean Re

Time-Frame EBMS Entered the Stop-loss Arena – 1999-2000 Significant Cost Adjustments from Stop-loss Insurance Markets Stop-loss Carrier’s Actions to Correct Soft-Pricing Included: Lasers Steep Renewal Increases Non-Renewals

Objectives of EBMS’ Captive Program Stabilize Stop-loss Insurance cost through: Eliminating lasering and non-renewals Pooling the risk Renewals based on actuarial models, not individual experience rating = effectively eliminating spikes Profit sharing – achieved thru renewal discounts (Premium Discounts) Create efficiencies by eliminating duplications of efforts Specific Reimbursement turnaround times – reimbursement authority Renewals able to be “locked-in” based on 10 months of experience Create a “partnership” atmosphere for clients – Annual “Advisory Meeting” Access to underwriting staff

Captive’s Risk Layer “Leverage Trend” offset at the Captive’s risk layer 2002 = 150k multiplied by 10.5%(8) = 368k

Current Specific Risk Assignment Plan Sponsor's Risk Layer = Spec Deductible/SIR EBMS Re’s Risk Layer - First $300K above SIR XS Reinsurance Risk Layer - Up to $1million xs of EBMS Re’s Retention XS Reinsurance $1M xs $1M XS Reinsurance $3M xs $2M XS Reinsurance $5M xs $5M XS Reinsurance $10M xs $10M XS Reinsurance $Unlimited xs $20M

Gross Premium by Underwriting Year (Millions) ESTIMATED

Average Specific Deductible by UY (Weighted by Employee Lives)

Premium Credit Triangle – Block Calendar Year: 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Client’s % of Total Prem 100% UY 2002: Maturity Period 30% 15% 5% 20% Final Adjustment   UY 2003: UY 2004: UY 2005: UY 2006: UY 2007:  30%  UY 2008: UY 2009:

2002 to 2009 Combined Allocation of Income (Inception to Date)

Program Flow Chart Benefit Plan Net Results “Pooled” EBMS EBMS Re Stop-Loss Administrator EBMS Re EBMS Captive (Reinsurer) Issuing Carrier Stop-Loss Carrier Excess- Loss Reinsurer Net Results “Pooled” Stop Loss Policy Administration Agreement Quota Share Reinsurance Contract Premium Discounts Excess of Loss

Considerations in Forming a Captive Domicile EBMS originally selected Cayman Islands and redomesticated to Montana Captive Structure EBMS originally formed as a single cell captive and has transitioned to a segregated cell structure in Montana

Considerations in Forming a Captive Capitalization and Ownership EBMS chose to fund the start-up capital and maintain 100% ownership of the captive Risk Structure EBMS purchased Specific Excess Reinsurance from the inception of the program, increasing its retention as the premium volume has grown

EBMS Re’s Structure Issuing Carrier EBMS Captive Excess Loss Carrier (or Issuing Carrier) on the program Has given the Captive the authority to underwrite and issue stop-loss policies in their behalf Maintains the necessary ratings and licensures for the captive to operate. Contracting body for the program’s reinsurance carriers & ensures the financial integrity of the entire program EBMS Captive Quota Share reinsurance company on the program as well as the underwriting body Professional Reinsurer Provides Excess Loss reinsurance coverage for the program …cont.

EBMS Re’s Structure Trean Reinsurance Services EBMS Program’s Reinsurance Intermediary. Facilitates the “marriage” of all the carriers and reinsurers associated with the program EBMS Staffing support in: underwriting, policy issuance, administrative support, claim auditing, management, marketing Capital Investment

Questions???