Unlocking the Power of 831(b) Captive Insurance Programs for Self-Storage Owners

Are you a self-storage owner looking for a more effective way to manage insurance costs? It can be daunting, but there's a solution that could be game-changing: an 831(b) captive insurance program. This specialized product allows you to self-fund and take control of your tenant-protection and deductible-reimbursement programs.

A a captive is an insurance-licensed company created specifically to cover the risks of its parent company or owners. In self-storage, it enables a facility operator to self-insure and customize coverage according to their unique risks and needs. This unique entity operates under Internal Revenue Code Section 831(b). To qualify, it must collect annual premiums of $2.3 million or less (adjusted for inflation).

In this article, I’ll walk you through the ins and outs of 831(b) captives, including the two types specifically suited for self-storage businesses, plus how they work and the benefits they offer.

Tenant Protection

A tenant-protection program covers costs associated with customers’ property damage, offering you control over claims. Imagine you own multiple self-storage facilities. A warranty protection advisor assists you in creating a subsidiary company, XYZ Insurance Co., to provide tenant-protection plans. By offering them at a reasonable price, this becomes a profit center and establishes a tax-efficient retirement-savings pool.

Here's how it works: When your managers lease a self-storage unit for $100 per month, each tenant must show proof of coverage or buy it at $15 per month from XYZ Warranty Protection Program. Over the course of 15 years, your self-storage business pays the premiums to XYZ Insurance, which is 100% owned by you and becomes part of your investment portfolio. (By the way, these premiums are corporate tax-deferred with deductions for claim expenses.) By year 16, when you sell your portfolio, you wind down XYZ Insurance and distribute the cash to yourself, taxed at capital-gains rates.

Deductible Reimbursement

A deductible-reimbursement program allows your insurance captive to combine your business' commercial property and casualty policies to cover the deductible. When a loss occurs, the captive reimburses your self-storage company, providing cost savings and reducing risk.

For example, consider Cameron, the owner of a plumbing company. His traditional insurance deductibles kept increasing despite minimal claims. Worried about the cost of insurance and its impact on cash flow, he contacted his property and casualty agent, who suggested an 831(b) plan managed by a warranty-protection advisor. Cameron used tax-deferred funds from his plan to meet high deductibles when two of his service trucks were involved in accidents, limiting the impact on his cash flow.

The Benefits

Now that you understand what 831(b) captives are, let's dive deeper into the benefits.

Customized coverage. One of the most significant advantages is the ability to tailor your insurance coverage to your exact needs. Have you ever found that commercial policies fall short in covering self-storage-specific risks, such as business interruption or staff loss? With an 831(b), you can fill those gaps.

Let's look at a success story. Dan owns Johnson Self Storage and RV Storage, with 30 locations and 500 units per site. To stay competitive and offer peace of mind to customers, he creates DJ Insurance Co., which only provides protection plans for his tenants. After adding $15 to every tenant lease to cover the plan, his annual revenue of $1.8 million results in $1.6 million in premiums (after claims) paid to the captive. Again, these are corporate tax-deferred with deductions for claim expenses.

Over 15 years, Johnson Storage pays DJ Insurance $24.3 million in premiums, now part of Dan’s investment portfolio. When he sells the storage business at the beginning of year 16, he winds down the insurance company and distributes the cash to himself, taxed at capital-gains rates. In doing so, he gives clients peace of mind, turns an expense into a profit center, reduces taxable income, and creates financial reserves for unexpected claims or even “rainy day” funds.

Greater claims control. How often have you felt frustrated with the insurance claims process? An 831(b) captive gives you more control, which means efficient claims management tailored to your business needs.

Tax advantages. One of the most appealing aspects of an 831(b) is it results in no corporate taxes collected on your protection-program profit. All premiums remain under your control and can be passed through your ceding insurance company (provided through your warranty protection-program provider) with corporate tax deferral. The captive only pays taxes on investment income, letting more premium dollars go toward covering risks than taxes.

Investment income. Premium funds aren't just sitting there. They can be invested to earn interest income. The investment creates an additional revenue stream for your self-storage business.

Secured loans. The surplus in your captive can serve as a source of funding to your operating business, secured against the captive's reserves.

Dividends. In profitable years, your captive can return dividends to your operating self-storage company, following 831(b) captive guidelines. These can be distributed efficiently after one year and one day of deposit aging.

Implementing a Program

Before you jump into the world of 831(b) captives, there are important considerations:

The 831(b) captive program empowers self-storage owners like you to self-insure, fill coverage gaps, and enjoy tax and cash-flow benefits. However, it requires considerable knowledge. Working with experienced advisors is crucial to successfully forming and operating an 831(b) captive. A feasibility analysis should determine if the benefits outweigh the costs for your business. When implemented strategically, this type of program can give you customized, self-funded insurance to better manage risk and protect your operation.

Terry D. Anderson is CEO and president of Arizona-based Tenant Property Protection, which partners with self-storage operators nationwide to provide protection of tenant goods while maximizing facility revenue. He has 38 years of experience in nonprofit, retail and professional services. For more information, call 877.575.7774; email [email protected].