What Is Performance Based Insurance?
What is Performance Based Insurance? Let’s begin with some simple definitions. Subsidy Based Insurance (SBI) is traditional insurance, traditional insurance coverage where the carrier keeps about 35% of the premiums companies pay. Traditional insurance blends various types of businesses together into a risk pool. Companies with superior track records (popular loss histories), subsidize those companies with a problematic loss history. Insurance rates are influenced by external factors including highly variable loss histories, safety programs of the companies mixed into the loss pool, and industry market tendency to change (soft and hard market swings).
Performance Based insurance (PBI) provides greater control over these exogenous factors and guarantees that the participating companies will know the other companies included in their risk pool. It focuses on a long term strategy as opposed to short term, reactive approach. For example, a short term approach to insurance can consequence in thrashing, quoting insurance policies and changing carriers every year. A short term approach focuses on achieving the best rate obtainable at that moment in time. A long term strategy includes a comprehensive safety strategy and a plan for the return of premiums in the form of dividends for unused claims. In other words, companies using performance based programs will be rewarded with reduced premiums instead of subsidizing companies with ineffective loss histories and unsafe practices,. A simple way of thinking about his is as follows:
- Subsidy Based (SBI): Premium determined by market rates and other companies loss history.
- Performance Based (PBI): Premium determined by the participating company’s loss history – “Pay By Performance”.
What is guaranteed cost insurance? Subsidy based or traditional insurance can be described as “guaranteed cost insurance.” Companies pay a fixed premium in spite of of their claim levels. This method that companies also pay for carrier overhead and profit. Performance Based Insurance offers companies inventive alternatives, allowing businesses an opportunity to considerably reduce costs. Safe, well-managed companies can reasonably save 25% on average. Companies with superior loss histories can save over 50% of their typical premiums.
What happens in the event of a extreme loss? Performance Based Insurance plans include a extreme loss policy with a major carrier. This risk move is an important component in all performance based plans. This insures the participating companies against large and unpredictable losses.
Is Performance Based Insurance a captive insurance plan? Captives are one of the better known types of Performance Based Insurance, and they are becoming increasingly popular as an insurance means. Approximately 30 US states have passed laws allowing captives to be formed in their jurisdictions. Vermont, which allowed the first on shore captive to be formed, now boasts approximately 600 captives. A few of the other types of this plan include:
- Risk Retention Group
- Retention Plan
- Self-Insured Retention Plan
- Participating Dividend Plan
Is this kind of program appropriate for all types of companies? Typically companies with premiums of $125,000 or more are the best candidates for this kind of plan. Companies can and should estimate Performance Based Insurance plans as part of their overall insurance strategy.