Fronting

In a fronting arrangement, a licensed, rated insurer puts its name on the policy and then cedes most or all of the risk to another risk-bearer, usually a captive or a reinsurer. The policyholder, its lender and its customers see the fronting carrier's paper. The economic risk sits elsewhere.

Buyers use fronting when the real risk-taker cannot issue the policy itself. A captive insurance company is rarely licensed in every state where the parent operates, and landlords, lenders, state workers' comp regulators and contract counterparties often want an admitted insurer with a financial strength rating. The fronting carrier issues the policy, files forms, produces certificates and often handles claims, then reinsures the captive and keeps a fronting fee, normally a percentage of premium.

The catch is credit risk. If the captive or reinsurer fails to pay, the fronting carrier is still liable to the insured, so it asks for collateral, commonly an irrevocable letter of credit or a trust account sized to the ceded reserves. Fronting fees and collateral are part of a captive program's true cost, and collateral demands can rise after a bad loss year. Regulators and rating agencies also watch how much risk a fronting carrier keeps for itself. The guide on fronting arrangements and fronting carriers: how they work explains fees, collateral and exit terms, and reinsurance defines the mechanism underneath.