It is no secret that insurance companies, like every other company, have operating expenses and the desire to earn a profit. Most insurance companies have “expense ratios” of around 30-35%, claim handling expenses of 10% or so, and would like to make a profit of 5-10%. This only leaves about 50% left for actual claim payments. To look at it another way the insurance company has to charge you about double what they expect to pay in claims. You will save approximately 50% in the long run by self-insuring the claims that you can comfortably afford to absorb yourself.
However bear a few things in mind.
First, the short run and the long run are two very different things and Murphy’s Law can throw a wrench into the best laid plans. Even if you expect to average 2 auto collision claims per year for a total of $20,000, it is certainly possible that you could have 4 or 5 claims for a total of $100,000 in any given year. Be sure that you can absorb not just the anticipated claims but also the worst case scenario. For example, before you drop your vehicle comprehensive and collision coverage consider the possibility of a tornado, earthquake, fire, flood, or hail loss that could damage many vehicles at once. If you can handle the worst case scenario without severely compromising the viability of the company then go ahead and drop the insurance; over the course of several years you should come out ahead. As a side benefit most companies take safety and loss control more seriously when their own money is at stake which should improve your odds of a positive outcome.
Second, be sure that you have done a thorough job of analyzing your exposures. It is one thing to self-insure known risks, but it is another to assume risks that you are unaware of. Self-insurance is not to be confused with non-insurance or lack of insurance. To continue with the example above, you should take into account the possible lack of earthquake or flood insurance on your buildings, inventory, or other property when considering self-insuring those perils on the vehicles. If they are all in the same area and subject to loss at the same time then be sure to consider the total amount at risk and set your self-insurance limit accordingly. This step is extremely important and if you do not have expertise in house then you should consider bringing in some help. Many brokers have enough experience to be helpful but if your situation is complex the services of an independent risk manager or consultant would be advisable. You may want to contact RIMS, the Risk and Insurance Management Society (www.rims.org) for assistance.
Third, make sure that your bank or lender is on board. Most loans require insurance and if you fail to carry it they will provide it for you and pass along the cost. This insurance is usually several time the cost of normal insurance, and is to be avoided at all costs. Discuss your proposed self-insurance program with them and have them waive the insurance requirements before you proceed.
Fourth, make sure your bank, stockholders, auditors, partners, etc. are OK with some earnings volatility. An advantage of insurance is that it evens out the costs and provides earnings stability. If stability is important or if your culture is not risk tolerant then perhaps you should start slowly and build up a reserve before becoming too adventurous. A good way to start is by increasing your deductibles and keeping track of the savings or losses.
Fifth, don’t self-insure high severity types of claims. Even if your new building has state of the art sprinklers, alarms, fire proof construction etc. and you think the chances of fire are almost zero I would not suggest self-insuring it. Large and even total losses do strike even the best of properties and to take that risk to save what is probably a very minimal premium does not make sense. Focus on the areas where the losses are more frequent and the severity is lower for your self-insurance program.