`'Many people have the long term view to graduate from a rent-a-captive to their own captive in three to four years,'' Charles Collis, a partner at Conyers Dill & Pearman, told delegates at the ICAP conference at the Southampton Princess.

But he cautioned that in a rent-a-captive, premiums and capital are pooled in the company and are therefore available to pay creditors if needed.

`'This is not so in protected cell companies. Some deals with protected cells say that only individual cells cover their losses, such as when a reinsurer doesn't pay up. But some deals give access for an amount of core capital (from the whole company) to be available and at risk from any cell,'' he said.

The issue of rent-a-captives and protected cell companies created lively debate. Gail Fox, executive vice president of Aon Insurance Managers in Bermuda, described a rent-a-captive as being owned by investors rather than the insured and its structure allows it to insure or reinsure third party risks. A protected cell company is a subset of a rent-a-captive with each cell having legal segregation and protection of assets and liabilities.

`'If enough programmes go bad in a rent-a-captive company it will impact on the insured, so that is why protected cell legislation has been developed,'' she said. `'With a rent-a-captive you need a comfort level and have to be happy with the risks being written throughout. You also have to rely on the rent-a-captive company's representation that it is fully funded. Most rent-a-captive companies are only funded to the minimum.''

Ms Fox told delegates it is vital to complete a full feasibility study before embarking on formation of a captive. This will cost around $30,000, but will also serve as a useful benchmark if the project goes ahead.

She said the decision to create a captive should involve many elements. Main motivation comes from a wish to reduce premium costs. In the commercial market an insurer's overheads and profits are built into premium rates, whereas a captive is able to base premiums on actual potential losses.

Volatility of the insurance market can be controlled for a company by a captive's ability to move between and around markets and provide access to the reinsurance market. A captive also helps control cash flow by allowing choice in how premiums and losses are paid.

She said reasons for creating a captive include cost and more control over what insurance is written to actually assist a company's risk management programme. In particular a Bermuda domiciled captive can buy cover that a US insurance company is not allowed to. A captive also allows a company or group to coordinate its international insurance programme.

However she pointed out reasons why a captive may not be the appropriate way forward for a company's insurance programme. `'If catastrophic risk is involved this may not be right. It could blow the captive out of the water. Low frequency high volume claims are not appropriate for a captive.''

A company also may not wish to free up capital to capitalise a captive, preferring to use the money elsewhere. And she said a company must be aware that there will be increased regulatory requirements with owning an insurance company.

Patrick Hackenburg, a tax associate at KPMG's Bermuda office, addressed potential tax issues. He explained that the issue with the IRS is not straightforward. The IRS says premiums are not deductible, but is aware of various cases in the courts that have proved to the contrary. Courts have said premiums are deductible because the US tax statute allows insurance premiums to be deductible, but there is no US tax statutory definition of insurance.

He said the IRS is reluctant to view a captive as a separate entity, saying premiums are `'just moving from your right pocket to your left pocket''. They also look very closely to see if the captive is just a sham company when in fact its parent guarantees everything.