By Joshua Miller & David Guerino
KeyState Captive Management, LLC
COVID-19 presents significant challenges for U.S. businesses across every industry, and community banks have had to respond to some unique circumstances.
As we focus on moving toward recovery, nearly everyone agrees some changes to operating environments will be permanent and this is the “new normal.”
When community banks adjust to these changes, it will be critical for each bank to evaluate their insurance and risk management programs to ensure they can respond in the future. Community banks have incurred significant expenses in responding to COVID-19, and nearly every major commercial insurer is asserting losses related to the pandemic are excluded under their policy language. Public health experts indicate the vaccine for COVID-19 may not be widely available until mid-2021, and that future, significant and severe pandemics are inevitable. All companies must have a plan to address the future challenges and considering a more holistic and comprehensive insurance program that identifies and addresses risks that commercial insurers will not.
This is where a captive comes in. A captive is a legally licensed, limited purpose, property and casualty insurance company owned by the bank holding company, which can provide customized policies for the bank (and any affiliated subsidiaries), where the bank’s commercial policies have limits and exclusions. The captive does not replace a bank’s commercial insurance program. It wraps around the commercial insurance, covering commercial deductible layers, providing some excess coverage and filling in gaps and exclusions. The current crisis demonstrated the significant financial benefit a captive can provide to a bank.
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How can a captive benefit a bank in the current environment?
Pandemic Insurance Coverage
Nearly all commercial property policies exclude coverage for a pandemic. The captive has comprehensive business interruption coverage that is providing its banks with needed relief, covering expenses such as:
A portion of expenses related to the purchase or lease of computers and equipment for employees to work from home.
Expenses related to deep clean branches or facilities that have had exposure to COVID-19.
Costs associated with installing plexiglass barriers for tellers in bank branches.
Expenses associated with the purchase of personal protective equipment to keep their employees and customers safe through the pandemic.
Increasing Commercial Insurance Rates
At a time when community banks are worried about the potential impact of a serious recession on their institutions, they are hearing from their commercial insurance brokers they can expect up to 30% increases in D&O coverage and an average of 12% increase for their FI Bond.
A captive insurance company has always been an excellent tool for companies to help manage the hardening commercial insurance market. Banks can evaluate higher commercial deductibles to offset these increased commercial premiums. They can then self-insure these larger deductibles through their captives.
Increased Potential for Cyber and Crime Losses
The remote, work-from-home environment has presented significant challenges for community banks and their commercial customer base. Banks are concerned about the increased risk related to cyber-crimes. The purchase of additional cyber coverage on the commercial market has sky-rocketed, but most do not fully understand what these coverages exclude. A captive can provide a solid backstop for a community bank, stepping in to provide coverage when a commercial coverage is denied because of an exclusion.
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The captives have begun to reimburse its owner/affiliated entities for reasonable expenses that are not covered by its commercial policy. Therefore, the extra expenses spent on laptops, software, extra IT work, cleaning due to infected employees and/or customers entering a branch, temporary barricades in teller lines, etc., are covered by a captive managed by KeyState under Extra Expense and Difference in Conditions policies.
Recently, KeyState hosted a virtual educational seminar with 60 community banks with captives from across the country. After the session, KeyState surveyed the banks (average asset size between $1-10 billion) and found on average, banks estimated $50,000-100,000 in extra expenses associated with COVID-19, with some of the larger institutions estimating expenses over $250,000.
Although the banks remain disappointed their commercial insurance does not respond to these losses, they have been thankful to have the captive structure in place to respond to these extra expenses related to the pandemic.
We expect to see continued growth in community banks forming captive insurance companies. As banks become more aware of their unfunded risks through ongoing enterprise risk management, a captive offers a unique and customized approach to help identify and fund for those risks on an annual basis.
Joshua Miller is CEO of KeyState Captive Management, LLC. David Guerino is SVP and managing director – Captive Insurance of KeyState Captive Management, LLC. Banks interested in exploring whether a captive insurance company is a good fit for their institution should contact Guerino at (802) 233-2624 or email@example.com or Travis Holdman at (260) 227 0265 or firstname.lastname@example.org.