AS PREMIUMS—AND DEDUCTIBLES—SOAR and policy limit caps plunge, many builders can't find or afford traditional insurance. What's more, subcontractors face the same problems. One excavation and foundation sub in California, for example, was recently refused renewal by the only insurer left in the entire state for his trade.

The current storm in the insurance market can cost big builders big bucks. But some who knew that bad weather was coming protected themselves by setting up their own captive insurance companies.

Builder experience with captives dates from at least 1972. Many builders are tight-lipped about their insurance practices because they see it as a competitive advantage, but more than half of the top 10 builders have captive insurers today.

Among them are Centex and Lennar. For Lennar, it's a matter of being captain of your own fate. Captive insurance is an all-weather strategy because it guarantees continuity of coverage, something traditional insurers can't offer because they tend to come and go, according to Waynewright Malcolm, Lennar's vice president and treasurer.

Captive insurance is a strategy for all seasons, even in easy insurance markets, says, Michael Murphy, president of RiskCap, a subsidiary of Beecher Carlson Holdings, the largest independent captive insurance management firm in the country. Murphy has been working with big builders since 1979. He has directed the formation of roughly a dozen captive insurers in the home building industry, including ones for three of the 10 largest builders.

“Captives smooth out the enormous commodity-like swings in insurance costs and availability and allow you to control your own destiny,” Murphy says. “You can avoid the vicissitudes of having 15 or 20 companies leave the market and finding that nobody will insure you.”

Captives' Audience Being in control of the claims process is the main reason Lennar formed a captive. “You know your own business better,” says Mike Thibodeaux, Lennar's director of risk management. “A captive gives you better claims management than you would get at a large insurance company that does not specialize in your company or industry.” The ability to control litigation is one aspect of better claims management. “You find out about the claim right away,” Thibodeaux says. “You can get it to the most knowledgeable person and possibly resolve it before it turns into a lawsuit.”

Murphy agrees. “With a captive, you control who gets paid and when,” he says, referring to complaints that insurance companies often settle builders' claims without consulting them. Moreover, in-house claims and litigation departments are able to specialize and develop the expertise to dispose of claims in the most efficient manner. “You don't want some kid just out of college who got a job at a big insurance company adjusting your losses,” he adds.

Another reason Lennar maintains a captive: Self-insurance reserves or set-asides cannot be immediately expensed under the tax laws. Self-insurance retentions are not expensed until claims are actually paid, which can be as long as 10 years later, while contributions to a captive are immediately deductible, reducing the corporation's tax bill. Such tax benefits and access to the all-important reinsurance market round out the major reasons builders form captives, Murphy says.

Captives, however, aren't for everyone, Malcolm points out. “Because we have a diverse geographical footprint and substantial product diversity, we can tolerate more risk and self-insure to a greater degree,” he says. “We would have less appetite for risk if we were only in one area.” Smaller builders may find it more cost-effective to buy traditional insurance, suggests Murphy. It takes a feasibility study to know which way to go.