Commissions should evaluate their need for insurance within the context of a broader risk management strategy. Insurance is merely one option for managing risks. Before considering insurance, a commission should first have a clear understanding of all of the risks that it faces. Then it should consider the best ways to reduce all of its risks. If this approach is not taken, a commission may overlook important risks or may miss the opportunity to reduce insurance costs by managing risks in another way. A risk management approach uses a comprehensive set of tools to manage risk (e.g., preventing risk through safety programs, transferring risk through contracts, insurance, etc.) and matches the most appropriate tools to each risk based on its potential impact and likelihood. This is important so that the most cost-effective tools are used to reduce risk.
The risk management process has three basic steps:
The first step in the risk management process is to systematically identify all of the risks that the commission faces. A risk can be defined as any event that could have an impact on the commission’s mission and goals. Risks can come from inside or outside the organization. There are several different types of risk including:
In this step, the commission evaluates each risk in terms of its likelihood of occurrence and potential impact. A table like the one below may be used to estimate the likelihood that a risk will occur and the impact that it would have on the commission. The intersection of the risk’s likelihood and impact is the severity of the risk.
After identifying and assessing the commission's risks, the next step is to select the best tools to manage each risk. The appropriate tools will depend on the potential impact and likelihood of each risk. The goal is to select the most cost-effective tools for each risk. There are four primary ways of managing risks:
Avoiding Risk. In this option, a commission avoids risk by not performing the service or activity that creates the risk. This may not be a viable option if the service or activity is vital to the commission's mission and goals.
Preventing and Reducing Risk. An effective way of managing risks is to prevent and reduce risk by reducing the likelihood that the risk will occur and the impact of the risk if it does occur. Strategies to reduce the likelihood of a risk include:
Strategies to reduce the consequences of a risk include:
Transferring Risk to Other Organizations. Another option for managing risks is to transfer them to another organization. This may be done through several ways including: insurance, intergovernmental risk pools, and passing along the risk to another organization in a contract.
Using Contracts to Transfer Risk. Contracts are another tool that commissions can use to transfer risk to another organization. In a hold-harmless provision, a commission transfers risk under the terms of a contract. (This is a non-insurance risk transfer or contractual risk transfer.) One party agrees to indemnify and hold the other party harmless for all claims and legal expenses incurred under situations or scenarios anticipated in the contract. These agreements could impose different levels of responsibility, so that a contractor could indemnify a commission against:
However, indemnification and hold-harmless agreements are not the panacea to transferring risk. In some cases, the responsibility for a loss cannot be delegated and, therefore, the exposure to such a liability cannot be transferred through an agreement.
Insurance. There are three basic types of insurance coverage:
Examples of supplementary products offered by insurance carriers include earthquake insurance and fidelity. Fidelity bonds cover losses from embezzlement, fund misappropriation, and loss of money or property from dishonest acts committed by employees or volunteers. In addition, new insurance products are being developed to meet demand for new risk coverage, such as for technology-related risks.
Whereas property insurance protects an organization from a direct loss, liability insurance and worker's compensation protect organizations indirectly. In other words, the immediate “loser” in a liability or worker's compensation situation might be the employee and only indirectly would the organization be affected (when that employee subsequently files a claim against the organization). Similarly, liability insurance protects elected officials or employees from financial loss (e.g., costly litigation), but ordinarily these costs are borne by the organization. Consequently, the organization must protect itself against these indirect losses as well.
Accepting Risk. It is important for commissions to determine their risk tolerance by actually quantifying how much dollar risk they can accept. This is basic step in selecting a level of insurance coverage that will meet the organization's needs. In some cases, the potential costs of a risk may be insufficient to justify the cost of risk transfer.
Contractor compliance with HIPAA (Health Insurance Portability and Accountability Act of 1996) and insurance requirements should be evaluated. The following are steps for establishing requirements and assessing compliance:
Contractors may need to add endorsements to their insurance policies to meet commission insurance requirements. An endorsement is a written document attached to an insurance policy that changes the coverage of the policy. An endorsement can add coverage that is not included as part of the original policy. This additional coverage can be added when the policy begins or during the term of the policy.
Contracting for Insurance. When deciding which insurance product and carrier to select, considerations beyond cost must be examined. Other important considerations include quality of service (e.g., ability to expeditiously process claims); scope of service; lines or breadth of coverage; and financial stability.
Lines or breadth of coverage refers to two factors. First, will the commission select a single insurance carrier for liability, worker’s compensation, and property insurance, or will it select different companies that operate in each of those areas? Second, will the coverage from one carrier for a given line of coverage be as complete as another carrier’s standard coverage, or will it have important gaps or exclusions?
Finally, financial stability is critical: the commission needs to be confident that the insurance company or pool has the financial wherewithal to make the commission whole in the event of a loss. Can the insurer respond to a claim that reaches the upper limit of coverage? An important resource for answering this question is insurance company ratings. (Weiss Ratings, Inc. examines several financial indices, such as the level of capital in relation to the risks it insures. A.M. Best performs similar analyses.)
It is important to note that the same criteria above can be applied to an intergovernmental risk pool. When commissions evaluate whether to join or leave a risk pool, they should take into account similar criteria, such as financial strength and stability.
Intergovernmental Risk Pools. Initially, intergovernmental risk pools did exactly what their name implies: they provided a vehicle for local governments to pool their funds to provide for their insurance needs. Pools enabled governments to make a group purchase of insurance at a very affordable cost through economies of scale. Over the years, however, pools have evolved into entities that offer their members far more than just an affordable way to secure insurance. Most pools now incorporate the term risk into the name of their organization and are more often called risk management pools rather than simply insurance pools. Today, many pools function as a government’s comprehensive risk manager. These pools provide services that include training and workshops, loss control audits, risk assessments, and onsite safety inspections.
Pools can be classified according to several factors, according to the Association of Governmental Risk Pools (AGRIP). Aside from the type of services offered (e.g., risk control, risk finance), pools vary by: lines of insurance coverage offered (e.g., worker’s compensation); type of local government member (e.g., municipality, county, special district, region); “a la carte” options (allowing members to pick and choose services) versus a single package of services; degree of state regulation; financial resources available to the pool; extent of risk transference; and primary versus excess coverage.
Financial resources among pools differ for two reasons: (1) some pools can assess a mandatory charge upon members, and (2) some pools are well-capitalized and have a capital fund, whereas others follow a pay-as-you-go arrangement
Regarding risk transfer, it is important to know that when joining a pool a commission may or may not transfer risks in the same way that it would when buying insurance. Some pools self insure, meaning the pool must rely only on its own resources and those of its members to pay out claims. By contrast, other pools self fund – they pass part of their collective risk to a reinsurer or insurance company providing excess coverage (or some other risk financing technique).
Finally, some pools provide what is known as primary coverage, wherein they assume the obligation to pay an entire claim. By contrast, pools that provide excess coverage act only on claims over a certain threshold (e.g., $100,000).