Transfer of Risk
What Is Transfer of Risk?
In insurance, transfer of risk is a management technique where the risk of a loss (e.g., bodily injury, property damage, etc.) is transferred to another party through a contract or to a professional risk bearer, like an insurance company.
How Does Transfer of Risk Work?
Picture this: Your in-laws ask you to install a beloved crystal chandelier that’s been passed down through their family for generations. You want to help, but you have shaky hands and a fear of climbing ladders, so you ask your spouse to do it for you.
If they accept, you’ve successfully transferred the risk of destroying the chandelier (and your in-laws’ faith in you) onto your spouse.
In the business world, this often involves using tools such as insurance, contracts, or waivers to shift the financial impact of a specific loss from themselves onto another party. This other party is typically an insurance company, vendor, or customer.
Transfer of risk is one of many risk mitigation strategies you/your business can practice to reduce the chances of an accident. However, it’s not a replacement for safety measures or good decisions.
Swipe →
| Risk Strategy | What It Means | Example |
|---|---|---|
|
Avoid risk |
Don’t do the risky activity at all |
Choose not to offer a service that’s too dangerous or complex |
|
Reduce (mitigate) |
Make the risk less likely or less severe |
Install security cameras, train staff, and use safety gear |
|
Accept (retain) |
Limit the risk to yourself and be ready to pay if it happens |
Decide not to insure small, manageable losses you’re comfortable paying out of pocket for |
|
Transfer |
Shift some financial responsibility to someone else |
Buy insurance or require vendors to compensate your business if an accident occurs |
TL;DR: Risk transfer works by shifting the financial consequences of a potential loss onto someone else using insurance, contracts, or waivers.
What Questions Should I Ask About Risk Transfer?
Any risk you transfer onto other parties or have transferred to you should be done so responsibly. Always ask yourself the following questions:
- What risks can seriously hurt my business financially?
- Which of those risks am I keeping, and which am I transferring through insurance?
- Do my contracts push extra risk onto me (e.g., broad indemnity, very high limits)?
- Have I asked vendors or subcontractors to carry their own insurance and name my business as an additional insured?
- Do my policies match the contract requirements I’ve agreed to?
- Am I getting paid enough (in either fees or pricing) for the risk I’m being asked to take on?
How Does Insurance Impact Transfer of Risk?
When you purchase an insurance policy, you transfer specific risks to your insurance company in exchange for paying a premium. Now, if a covered incident happens, your insurance company will pay for the claim up to your policy limits.
Insurance is one of many tools people and businesses use to transfer risk.
What Are Some Examples of Transfer of Risk?
You’ll encounter risk transfer situations quite often while doing business, whether you’re shifting your risk onto others or they’re shifting theirs onto you. For instance, contracts and insurance often work together to decide who pays first when something goes wrong.
Below are some of the most common risk transfer scenarios you might encounter.
| Situation | Who Is Transferring Risk? | How the Risk Is Transferred |
|---|---|---|
|
You buy a general liability policy |
You → your insurance company |
Premium in exchange for coverage of covered claims |
|
Landlord requires you to name them as additional insured |
Landlord → you (and your insurer) |
Your policy may respond first for certain claims involving the landlord |
|
You require a subcontractor to indemnify your business and add you as additional insured |
You → subcontractor (and their insurer) |
Subcontractor’s policy may respond first for claims from their work |
|
Client requires a waiver of subrogation from your insurer |
Client → your insurer |
Your insurer agrees not to pursue the client for reimbursement |
Additional Resources
Related Terms
- Indemnity
- Hold harmless
- Additional insured
- Waiver of subrogation
- General liability insurance
- Professional liability insurance
- Product liability insurance
- Workers compensation
- Coverage limits
- Exclusions
- Risk management
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