What Is Active Retention?
Active retention is the act of protecting against a loss by designating specific funds to pay for it. Active retention is the opposite practice of passive retention, in which no funds are set aside to cover an upcoming or estimated loss.
- Active retention is a form of self-insurance in which funds are set aside to account for an upcoming or estimated loss.
- It is used by those looking to avoid additional fees and costs associated in dealing with agencies or for activities or assets that are not covered by traditional insurance.
- Individuals and businesses can implement active retention by setting aside funds for critical business operations or assets.
Understanding Active Retention
Active retention, also sometimes known as planned retention, is used to ensure the ability to cover smaller or expected losses. It is viewed as a form of self-insurance—whereas the entity expected to experience the loss relies on its own funds to cover any occurrences. This practice can be used by those looking to avoid additional fees and costs associated with dealing with agencies, or for activities that may not qualify for traditional insurance.
Within a corporate environment, active retention can take the form of risk mitigation. Businesses will have to list their risks and plan their exposure to them accordingly. For example, an e-commerce business that uses the services of an outside vendor to facilitate the delivery of its products will have to plan for the risk that the vendor might go bankrupt or cease operations. To plan for such an eventuality, the e-commerce business might set aside funds for an alternate, more expensive delivery method—or to attempt delivery from their warehouse on their own. They can also take out an insurance plan but the time lag and paperwork associated with the payout might critically affect their business operations.
Example of Active Retention
For example, a son inherits a houseboat from his parents when they pass away. There are no liens on the houseboat, and the parents have included a hefty life insurance policy along with the estate. While pricing out insurance policies, the son discovers that insuring a houseboat is quite expensive and carries a much higher monthly premium than he feels he can afford living off his existing income. He decides to set aside an amount totaling the value of the houseboat, as well as an additional amount that would cover inflation on the value, miscellaneous damages, and the costs of parts and labor. This practice may be referred to as active retention.
Unlike with an insurance policy, he will not have to keep making monthly payments into the money set aside to cover potential losses. Nor will he be subjected to meeting specific requirements to file a claim or be told that a claim that he is making is invalid or not covered.
There are benefits to active retention if the funds remain untouched and available in the event the need for them arises. Assume now that the son decided to practice passive retention. Instead of setting aside a portion of the inheritance to cover any loss or liability, he instead decides to spend the money on a new car. While he does carry an auto insurance policy on the car, he neglects to cover the houseboat. A large storm comes in and sweeps the boat out to sea. Without the insurance coverage on the asset, he is now out the value of the boat.
If he would have carried insurance on the boat, he would have been able to file a claim for the loss. If he'd practiced active retention, he would have been able to dip into the savings from the estate to cover any losses or damages from the storm.