An insurance retention is the portion of an insurance claim paid by the insured instead of the insurance company. A deductible is a common example of a retention although there are other types of retentions. Retentions allow the insured to reduce insurance premiums while assuming a portion of the risk being insured.
A self-insured retention (SIR) is a portion of each insurance claim that is not insured by the policy and requires the insured to pay before insurance becomes effective. For example, if there is a £6,500 self-insured retention on a £650,000 general liability policy, the insured must pay the first £6,500 of any claim before the insurer will respond.
A deductible on a liability policy is an amount that must be reimbursed by the insured to the insurer for each paid claim. Unlike a self-insured retention, insurers are obligated to immediately handle third party claims and seek reimbursement from their insureds. Insurers may not resist paying third-party claims even if their insureds do not reimburse deductible obligations.
Retrospective Rated Policies
Instead of a defined retention that applies on every claim, insureds may arrange for a retrospectively rated policy to share a proportion of all losses with the insurer. These retentions may vary by claim type and often have a maximum amount of aggregate retention thereby providing some cap on exposure to loss.
Insureds frequently choose to have retentions on their policies as insurers provide insurance premium discounts depending upon the amount retained. A company that properly manages its risk can save on upfront insurance premium dollars by retaining a portion of the risk. Even if the losses are expected from standpoint of the insured, there is a timing benefit to paying retentions after the claim instead of at the inception of the policy year.
Insurers benefit from retentions because their insureds have a financial stake in preventing or minimising the effect of claims. This eliminates the fear that insureds would act recklessly knowing they are fully insured with no financial impact other than potentially increased annual premiums. Some insurers require all policies to have some level of retention as a method of loss control.
Collateral and Pre-funding
Insureds that choose retentions must be prepared to pay in the event of claims. Other than SIR's, insurers require assurance from their insureds that retentions will be promptly reimbursed to the insurer upon claim payment. Insurers secure these reimbursement obligations either through some form of collateral such as cash deposits or letters of credit posted by the insured.