DEFINITION of ‘Blended Finite Risk’
Insurance that provides coverage against multiple types of risks through a combination of risk transfer and risk financing. Blended finite risk coverage is often used when a liability is spread out over a long period of time.
BREAKING DOWN ‘Blended Finite Risk’
A portion of the costs of a blended finite risk contract is dedicated to the transfer of risk, and the associated losses that the risk can cause, from the insured to another party. If no claims are made against the policy and the insurer or reinsurer does not experience any losses, the risk transfer portion of the insurance contract represents profit from the contract. Risk transfer is the backbone of traditional insurance contracts, and this transfer is typically paid for through premiums.
The other portion of the costs represents the discounted net present value of funding a future cost or obligation. This is the risk financing aspect of the contract. The risks are known, and carry a non-fortuitous future cost. Companies use finite risk insurance to fund liabilities that occur over a long period of time, and which may be too expensive to cover through a traditional insurance policy. The goal of this portion of the blended finite risk coverage is to match potential or current liabilities with assets over a finite period of time.
For example, a local government may purchase blended finite risk coverage for the clean-up of a brownfield site. The government deposits a significant portion of the costs that it expects the clean-up to incur at the onset of the policy, and the policy then doles out this money over time as clean-up costs are actually incurred. If the total amount of costs are less than expected, the insured party receives a partial refund at the end of the contract. If costs are higher than expected then the insurer pays the amount after the deductible is taken into account, up to the policy limit.