Definition
Self-insured, in finance, refers to a situation where a company or individual sets aside funds to cover potential loss expenses instead of buying an insurance policy. On the other hand, fully insured means the company or individual pays regular premiums to an insurance provider for coverage against potential losses. The key difference lies in who assumes the risk, with self-insured entities bearing the risk themselves, while fully insured entities transfer the risk to an insurance company.
Key Takeaways
- Self-insured, also known as self-funded insurance, refers to when a company operates its own insurance plan, setting aside funds to cover potential losses instead of paying premiums to an insurance provider. This way, the company assumes the entire risk of providing health care benefits to its employees.
- Fully-insured refers to a traditional way of obtaining health coverage, where a company pays a premium to an insurance carrier. The insurance carrier assumes the risk of providing health care benefits to the company’s employees.
- The choice between Self-Insured and Fully Insured depends mostly on the size of the company and its financial capabilities. A large company may have the resources to self-insure, taking on the financial risk themselves. Smaller companies, however, may prefer the predictability of fixed insurance premiums that come with being fully-insured.
Importance
Understanding the difference between self-insured and fully insured is crucial in the finance and insurance sectors as it impacts how individuals or companies manage risks and expenses.
A fully insured plan means an individual or business pays a premium to an insurance company, which assumes the financial risk of providing health benefits to members.
The premiums are fixed for a year, based on the number of enrollees.
Contrarily, self-insured, or self-funded, plans involve the company or individual themselves bearing the risk and setting aside funds to cover potential claims, often contracting with insurance companies for administrative services only.
This distinction affects the level of fiscal and operational risks, potential cost savings, and regulatory obligations, hence understanding this dichotomy is critical for sound financial decision making.
Explanation
Self-insured and fully insured refers to two different methods through which companies manage risks and provide health benefits to their employees. When a company chooses to be self-insured, it essentially decides to take on the financial risk of providing health care benefits to its employees. Instead of paying fixed premiums to an insurance company, the company directly pays for the medical claims of the employees.
The purpose of self-insurance is to save on health benefit costs. Larger businesses typically opt for self-insurance as they have a higher number of employees and therefore can spread the inherent risk across a larger pool, and they have larger cash reserves at their disposal. On the other hand, fully insured plans are traditional insurance plans provided by insurance companies.
In this case, the employer pays a certain premium to the insurance company, which then assumes the financial risk associated with providing health care benefits to the employees. Any claims made by the employees are dealt with by the insurance company, not the employer. This is typically used by smaller businesses that might not have the required financial backing to self-insure.
The purpose of fully insured plans is to transfer the risk associated with employee health costs to another company, creating more predictability in terms of health care costs for an employer.
Examples of Self-Insured vs Fully Insured
Healthcare Coverage for Employees: In a self-insured health plan, a large company might choose to pay for its employees’ healthcare costs directly instead of buying a fully insured plan from an insurance company. The employer takes on the risk and is responsible for paying claims. This can save money if claims are lower than projected, but can lead to additional costs if claims are higher than anticipated. In a fully insured health plan, the company pays a premium to an insurance company who then assumes all the risk. Any costs beyond what the premiums cover are borne by the insurance company, not the employer. The premium rates are fixed for a year and will only change at the policy renewal.
Car Rental Companies: A car rental company, such as Hertz or Avis, might choose to self-insure their fleet of cars rather than buying collision and comprehensive coverage from an insurance company. This would mean they would pay out-of-pocket for any damage or loss to their vehicles. On the other hand, a smaller car rental business might opt to be fully insured due to the large financial risk involved with potential vehicle damage. They would pay premiums and the insurance company would handle any claims.
Homeowners Insurance: A wealthy homeowner with numerous properties might decide to self-insure some of their less valuable properties because they can afford to directly bear the cost of any damage or loss. In contrast, an average homeowner who relies on their house as a primary asset would likely choose to be fully insured to protect against damages from events like fires, floods, or theft. They would pay an insurance company regular premiums in return for the insurer bearing the risk of any large, unpredictable costs.
FAQ: Self-Insured vs Fully Insured
What does Self-Insured mean?
A self-insured (or self-funded) plan means the employer assumes the financial risk for providing health insurance benefits to its employees. These companies pay for out-of-pocket claims as they occur instead of paying a predetermined premium to an insurance carrier.
What does Fully Insured mean?
A fully insured plan is the traditional method to fund an employee health benefit plan. In a fully insured plan, an employer pays a specific premium to the insurance company. The premium rates are fixed for a year, based on the number of employees enrolled in the plan each month.
Is there a significant risk involved in self-insured plans?
Yes, there can be a significant risk involved in self-insured plans. In years when there are many claims or a few very large claims, a self-insured employer may have to pay out more in benefits than it would under a fully insured plan. However, this risk can be mitigated by purchasing stop-loss insurance.
Can small businesses consider self-insured plans?
While self-insurance is most common among larger firms due to the risk involved, a growing number of small to medium-sized businesses are considering this option when looking to keep their health care costs down. It’s advisable for such businesses to thoroughly weigh the pros and cons before making a decision.
What are the advantages of Fully Insured plans?
Fully insured plans provide an added level of predictability to businesses, as insurance carriers assume all risk. Furthermore, fully insured plans are not subject to quite as many federal laws as self-insured plans, which can make compliance easier.
Related Entrepreneurship Terms
- Deductible
- Premium
- Risk Management
- Claims Administration
- Risk Retention
Sources for More Information
- Investopedia: Offers comprehensive resources such as articles, tutorials, and definitions on a broad variety of financial terms and concepts, including Self-insured Vs Fully insured.
- The Balance: Offers detailed guides, reviews, and advice about various financial topics, including insurance.
- Business.com: Features articles, resources, and expert advice on various business topics, including different types of insurance.
- Insurance Information Institute: A trusted source of unique, data-driven insights on insurance to inform and empower consumers.
