Directors & Officers Liability Insurance Through Captives Covers Gaps in Commercial D&O Policies
All legal entities have one or more individuals who are responsible for “governing” the operations of the company. If the entity is a corporation, this group is referred to as the board of directors. Other types of entities have individuals that serve the same function but have different names such as managing member or managing partner. These same entities also have officers and employees that are appointed to implement the directives of the company’s governing group, which for the purposes of this article I’ll refer to as directors.
Directors have a very high level of responsibility to govern the company in the best interest of its owners and other stakeholders which could include bondholders or other parties involved in transactions regulated by the Securities and Exchange Commission (“SEC”). Financial institutions may also be considered stakeholders. To mitigate the risk should directors not meet the expected level of responsibility, and litigation might be pursued, Directors & Officers Liability Insurance (“D&O”) is frequently purchased by a company. Insurance of this type is widely available in the commercial insurance market and is purchased by virtually all public companies and a significant number of privately held companies. The level of premium depends on a variety of factors including the asset size of the entity to be insured and the extent of exposure to SEC governed transactions.
All commercially sold D&O insurance policies are subject to certain exclusions in the policy. One of the most common exclusions that impact privately held companies is the insured vs. insured exclusion, which precludes coverage for claims by one director or officer against another. A limitation of this kind can significantly reduce the utility of this type of policy for closely held companies. If the commercial D&O policy contains this limitation, the company may be stuck self-insuring this risk.
That’s where a captive comes in. A self-insured risk of this type is a good candidate for an insurance policy issued by a captive insurance company because the policy terms can be customized to meet the needs of the company. Doing so allows the business to create a reserve of funds held in the captive to be used should a claim of this type arise.
There is two ways D&O insurance coverage can be provided through a captive. First, the captive can directly write the policy for the business. Second, if the company had chosen to buy a D&O policy commercially, despite coverage being limited by exclusions, the captive could provide a supplemental policy called a Difference in Conditions (“DIC”) to insure just those aspects of coverage that were excluded by the commercial D&O policy. Premiums for either approach must be reasonably comparable to commercial insurer pricing, and the captive must have sufficient assets to handle those claims.
When making a decision to insure this type of risk through a captive, have your captive manager arrange a call with Artex Underwriting who can help identify whether utilizing a captive might meet the needs of various stakeholders.