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What Is a Captive? — How It Works, Costs and Prerequisites from a Japanese Company's Perspective

An overview of captives (insurance subsidiaries that take on their group's own risks): how the reinsurance captive common among Japanese companies works, the three elements it needs, structures, costs and results, which companies it suits, and how to decide, based on public material from the FSA, the General Insurance Association of Japan and domicile regulators.

A captive is an insurer or reinsurer set up by a parent company outside the insurance business to take on its own group's risks. Its key feature is that it lets the group manage its risks in insurance form while accessing the reinsurance market directly. On the other hand, setting one up and running it costs money and effort, and it does not suit every company. This article sets out how captives work and what to check when deciding, based on public material from government, industry bodies and domicile regulators.

Japanese companies' captives are usually reinsurance captives

Under Japanese law it is difficult to set up a captive subsidiary in Japan, and direct insurance contracts with overseas insurers are restricted. Captives are therefore usually structured as follows:

The company buys insurance from a Japanese insurer (the primary insurer) and pays the premium. This role is called fronting.
The primary insurer cedes the risk as reinsurance to the group's captive set up overseas.
The captive keeps only what it can retain and cedes the rest to the reinsurance market as retrocession.

A secretariat paper for the Financial System Council's insurance system working group at the Financial Services Agency (October 2026) also states that Japanese primary insurers have long ceded business to reinsurance captives set up overseas by Japanese companies. The same paper presents a proposal to create a domestic reinsurance captive regime, so developments in the system are worth watching.

Where captives fit in risk financing

Captives are sometimes described as a substitute for insurance, but more accurately they are a way for a group to retain risk. In a paper submitted in December 2025 to the Study Group on Advancing Corporate Risk Management, the General Insurance Association of Japan grouped risk financing tools as follows.

Category	Examples
Retention (internal funds)	Equity capital, captives
Retention (external funds)	Committed credit lines, contingent debt
Transfer	Traditional insurance, derivatives, catastrophe bonds

Captives sit on the retention side. If a loss hits the risk the captive retains, the group bears it. The starting point when considering a captive is to see it not as a way to save premium, but as a vehicle for deciding which risks to keep, to what level, and for managing them.

Three elements a captive needs

Setting up a company is not enough for a captive to work. It needs all three of the following.

Element	Description	What to check
Fronting	The primary insurer issues the policy and cedes to the captive	Is there an insurer willing to front? The level of the fronting fee. Collateral the primary insurer requires in case the captive cannot pay (such as a letter of credit)
Captive retention	The risk the captive bears with its own capital	Is there enough capital to pay even in a year with multiple losses? Capital and solvency required by the domicile's regulations
Retrocession	The part the captive cannot retain is ceded to the reinsurance market	Are reinsurers willing to write it? Terms and reinsurance premium. Alignment with the primary policy's terms

Projects often stall because no insurer will front, or the collateral required is heavier than expected. It is important to confirm the prospects for these three elements before preparing to set up the company.

Example of splitting retention and transfer

A captive program is designed in layers, with who bears a loss depending on its size.

Layer	Loss range (example)	Who bears it
Deductible	Up to JPY 10 million per loss	The operating company (not insured)
Captive retention	Above JPY 10 million up to JPY 100 million	The captive (group capital)
Retrocession	Above JPY 100 million	Reinsurers

* An illustration of the approach. Actual levels are designed according to loss history and capital.

The basic idea is that the operating company bears frequent small losses, the captive retains medium losses, and rare large losses are transferred to the reinsurance market. The captive's retention usually has an annual aggregate cap.

Captive structures

Structure	Description
Single-parent (pure) captive	Owned by one group solely for its own risks
Cell (PCC)	Independent "cells" within one company, each with assets and liabilities segregated from the others. You can rent a cell without setting up your own company
Rent-a-captive, etc.	Renting and using a captive run by another party

A single-parent captive offers more freedom but costs more to set up and run, and needs more capital. While premium volume is still modest, one approach is to use a cell to keep costs down and move to a single-parent captive as volume grows.

Example domiciles: the United States and Labuan

The United States is a common domicile for Japanese companies' captive subsidiaries. In Asia, Labuan (Labuan IBFC) in Malaysia is another, and a cell (PCC) scheme has been available there since 2010. A Labuan captive must be licensed by the Labuan Financial Services Authority (Labuan FSA), and may write third-party risks outside the group subject to the authority's approval.

Domiciles are chosen by comparing regulation, cost, tax, time zone and language, and access to the reinsurance market.

Costs and results

A captive's results are made up of the following:

Income: reinsurance premium received from the primary insurer, investment income
Expenses: claims paid on retained risk, retrocession premium, fronting fee, management company fees, and operating costs such as audit and legal
Funds tied up: share capital and funds posted as collateral

In a year with few losses, part of the premium previously paid to insurers stays within the group. Conversely, if losses pile up, the group bears the losses in the captive's retention. Decisions should therefore be based not only on an average year but on several scenarios, including years with multiple losses.

Which companies a captive suits

Easier to justify	Needs careful consideration
Annual premium is large enough to absorb set-up and running costs	Premium volume is small, so running costs are a high proportion
Loss history is stable and losses are reasonably predictable	Little loss data, so no basis for setting the retention
Some risks have become hard to place or much more expensive in the insurance market	Current insurance provides adequate cover at a reasonable cost
Funds are available for capital and collateral	It is hard to tie up funds for a long period
There is a set-up for managing group-wide risk centrally	No one in charge of risk management and no prospect of running it on an ongoing basis

The General Insurance Association of Japan's paper says that making risks visible and quantifying them is essential to corporate risk management. Considering a captive presupposes that this quantification has been done.

Points to note

Tax: an overseas captive may be subject to Japan's controlled foreign company (CFC) rules. Choosing a domicile and projecting results should be done with tax professionals.
Scale: first confirm that premium volume is large enough for the benefits to exceed set-up and running costs.
Risks covered: risks whose frequency and severity are reasonably predictable are suitable. Risks that have become hard to place or more expensive are often the starting point.
Management: a captive is an insurer and must report and be audited under the domicile's regulations. Operation is usually outsourced to a local captive manager.
Exit costs: winding up a captive requires settling outstanding claims on the risks written. For long-tail risks such as liability, where payment takes a long time, winding up also takes time.

Steps to decide

Organize current insurance policies and past loss history.
Decide candidate risks and the level the captive would retain.
Confirm the prospects for fronting and retrocession with insurers and the reinsurance market.
Project results, including costs and required capital, under several loss scenarios.
Decide by comparing with continuing the current insurance.

Frequently asked questions

Q. Will setting up a captive lower our premium?
A. Not necessarily. Fronting fees, retrocession premium and running costs are new costs, and the group bears losses in the captive's retention. Results depend on how losses develop.

Q. Will we no longer have a contract with a Japanese insurer?
A. You will still have one. Under a reinsurance captive, a Japanese primary insurer issues the policy and is the point of contact when a loss occurs.

Q. How long does it take to evaluate?
A. It requires organizing loss history, approaching fronting insurers and retrocession markets, projecting results, and licensing in the domicile, so it varies by case. If you want to align with your insurance renewal date, start early.

How Credit Hills can help

As an insurance broker, Credit Hills directly arranges fronting, reinsurance and retrocession. For formation and management, we work with specialist captive consultants. Our review may conclude that continuing your current insurance is the better choice.

See our captive services →　Corporate insurance capacity (insight) →

References

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