When it comes to insurance, two terms that often come up are retention and deductible. While they may seem similar at first glance, there are subtle differences between the two. In this article, we will explore the concepts of retention and deductible in insurance policies, their significance, and how they affect premiums.
Retention vs. Deductible:
Both retention and deductible refer to the amount of loss an insured organization must bear before an insurance policy kicks in. However, the key distinction lies in how the money flows within these mechanisms.
Retention:
With a retention mechanism, also known as self-insurance or self-funding, the insured organization pays upfront costs until it reaches a specific predetermined amount called the "retention." Once this threshold is met, the insurance policy takes effect and starts covering any additional losses beyond that point.
In simpler terms, retention is essentially the level of risk retained by the insured organization itself. This means that organizations with higher retentions have greater financial responsibility for losses compared to those with lower retentions.
Deductible:
On the other hand, deductibles function differently from retentions. In this case, it is primarily an arrangement between insurers and policyholders where insurers pay all costs above a certain deductible amount set forth in their policies. The insurer deducts this agreed-upon sum from any claim payout made by them.
For example, Directors' and Officers’ liability (D&O) policies typically incorporate deductibles where policyholders cover a portion of potential claims before receiving reimbursement from their insurers.
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Effects on Premiums:
Increasing either retention or deductible usually results in reduced premium costs for organizations seeking coverage since they assume more risk themselves rather than relying solely on insurance providers.
Insurance companies take into account whether an insured organization has high or low retentions/deductibles when calculating premiums during underwriting processes. By taking on a larger share of potential losses, organizations demonstrate their commitment to risk management and become eligible for lower premiums as a result.
Side A Coverage:
It is essential to note that Side A coverage does not involve any retention or deductible. The purpose of this insurance type is to indemnify directors and officers when the organization cannot or will not do so itself. By doing this, it helps protect the assets of these individuals.
Including a retention or deductible in Side A coverage would counteract its intended purpose, as directors and officers would have to personally bear the expenses associated with it. Therefore, side A policies are typically devoid of retentions or deductibles.
Side B and Side C Coverage:
In contrast to Side A coverage, both Side B and C coverages involve retentions or deductibles paid by the organization seeking insurance protection.
Under Side B coverage (reimburses organizations when they indemnify directors/officers), any applicable retention/deductible amount must be met before insurers handle claims. Similarly, under Side C coverage (provides reimbursement directly to the company for securities claims against its employees), organizations also face financial responsibility until reaching their predetermined retention/deductible levels.
Conclusion:
Understanding the subtle differences between retention and deductible mechanisms in insurance policies can help organizations make informed decisions about managing risk effectively.
While both mechanisms require policyholders to assume some level of financial responsibility before an insurer intervenes, they differ in terms of money flow within an insurance arrangement. By adjusting either retention or deductible amounts upwardly, insured parties can potentially reduce premium costs while demonstrating their commitment to mitigating risks proactively. Remember that different types of insurance may have specific nuances regarding retentions and deductibles; hence thorough analysis based on individual policies is crucial.
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