Risk Retention

Definition

Risk retention is the practice of an organization or individual accepting the potential financial burden of a risk, rather than transferring that risk to an insurance provider or other third party. It involves consciously deciding to bear the consequences of a potential loss or negative event, rather than mitigating that risk through external means.

5 Must Know Facts For Your Next Test

1. Risk retention is a common risk management strategy, particularly for low-probability, high-impact risks where the cost of transferring the risk outweighs the potential loss.
2. Organizations may choose to retain certain risks as a way to reduce insurance premiums, maintain more control over risk management, or take advantage of potential upside benefits if the risk does not materialize.
3. Individuals often retain risks through high deductibles or co-payments in their insurance policies, or by self-insuring certain low-value assets.
4. Risk retention can be an appropriate strategy when the organization or individual has the financial capacity to absorb the potential loss, and the risk is well-understood and manageable.
5. Effective risk retention requires careful analysis of the risk, the organization's or individual's risk appetite, and the potential financial impact of the risk.

Review Questions

• Explain the key characteristics of risk retention as a risk management strategy.
  • Risk retention involves consciously deciding to bear the consequences of a potential loss or negative event, rather than transferring that risk to an insurance provider or other third party. It is a common risk management strategy, particularly for low-probability, high-impact risks where the cost of transferring the risk outweighs the potential loss. Risk retention allows organizations or individuals to maintain more control over risk management, potentially reduce insurance premiums, and take advantage of potential upside benefits if the risk does not materialize. However, effective risk retention requires careful analysis of the risk, the organization's or individual's risk appetite, and the potential financial impact of the risk.
• Compare and contrast risk retention with other risk management strategies, such as risk avoidance and risk transfer.
  • Risk retention differs from risk avoidance, which involves eliminating or avoiding a risk entirely, and risk transfer, which involves shifting the responsibility for a risk to another party, such as through insurance or contractual agreements. While risk avoidance eliminates the risk completely, and risk transfer shifts the risk to a third party, risk retention involves consciously accepting the potential financial burden of a risk. Risk retention can be an appropriate strategy when the organization or individual has the financial capacity to absorb the potential loss and the risk is well-understood and manageable. However, it requires careful analysis to ensure that the risk is within the organization's or individual's risk appetite and that the potential financial impact can be effectively managed.
• Evaluate the potential advantages and disadvantages of risk retention as a risk management strategy in the context of 13.7 Mitigating and Managing Risks.
  • In the context of 13.7 Mitigating and Managing Risks, risk retention can offer several advantages. It allows organizations or individuals to maintain more control over risk management, potentially reduce insurance premiums, and take advantage of potential upside benefits if the risk does not materialize. However, it also carries potential disadvantages. If the risk materializes, the organization or individual must bear the full financial burden, which could have significant financial consequences. Additionally, effective risk retention requires careful analysis of the risk, the organization's or individual's risk appetite, and the potential financial impact. Poorly managed risk retention can lead to unexpected losses and financial strain. Therefore, when considering risk retention as a strategy, it is crucial to thoroughly evaluate the specific risks, the organization's or individual's ability to absorb potential losses, and the overall risk management plan to ensure that the benefits outweigh the drawbacks.

Related terms

Risk Avoidance: The strategy of eliminating or avoiding a risk entirely, rather than accepting or transferring it.

Risk Transfer: The process of shifting the responsibility for a risk to another party, such as through insurance or contractual agreements.

Risk Mitigation: The implementation of actions or strategies to reduce the likelihood or impact of a risk, without completely avoiding or transferring it.