If you buy an umbrella when it is sunny, you probably are also a fan of insurance. However most people only buy an umbrella when it is raining and they see insurance as a necessary evil. The two approaches can be restated as: whether to prefund risk via insurance/savings or post fund losses via levies/borrowing? How risk/losses should or shouldn’t be shared is a separate question and is not addressed in this article but is addressed in this article.
So what’s the difference between prefunding and postfunding?
Prefunding obviously requires some estimating because when and how severe a loss will be is uncertain but less-obvious is that opportunity cost of investing in financial assets until monies are needed to pay for losses. Arguably prefunding is more forward looking, meaning there is a greater focus on risk management.
Postfunding is also a lot more transparent as the reason for the funding requirement is clear / there are less assumptions required. However, postfunding is less guaranteed because the source of liquidity may dry up when you need it following a loss. A liquidity shortage may be due to external events or the nature of the loss and the affect on you. One major benefit of postfunding is that there are less strings attached. Most insurance/savings scheme restrict payouts / how you can use the money.
Some examples
Many discretionary mutuals and government insurers use a 100% postfunding i.e. subscriptions/levies are used to fund losses in the year rather than future losses where the underlying event occurred in that year. Donation based crowdfunding fits in this category.
Insurers offers a number of postfunding options to complement their core prefunding model. Examples include deductibles, co-pays, burning cost ‘premium adjustments’ and health savings accounts.
Crowdfunding Cover is a genuine mix of both postfunding and prefunding. In return for regular risk-based subscriptions (prefunding), subscribers are entitled donation-matching of their life event crowdfund campaign (where donations are postfunded). An alternative name for this type of model is community coinsurance. What ever you want to call it – it is a entirely new way to finance risk.
Take-away
Postfunding is a legitimate form of financing risk and is perhaps an approach you may very well want to consider.
So what’s the difference between prefunding and postfunding?
Prefunding obviously requires some estimating because when and how severe a loss will be is uncertain but less-obvious is that opportunity cost of investing in financial assets until monies are needed to pay for losses. Arguably prefunding is more forward looking, meaning there is a greater focus on risk management.
Postfunding is also a lot more transparent as the reason for the funding requirement is clear / there are less assumptions required. However, postfunding is less guaranteed because the source of liquidity may dry up when you need it following a loss. A liquidity shortage may be due to external events or the nature of the loss and the affect on you. One major benefit of postfunding is that there are less strings attached. Most insurance/savings scheme restrict payouts / how you can use the money.
Some examples
Many discretionary mutuals and government insurers use a 100% postfunding i.e. subscriptions/levies are used to fund losses in the year rather than future losses where the underlying event occurred in that year. Donation based crowdfunding fits in this category.
Insurers offers a number of postfunding options to complement their core prefunding model. Examples include deductibles, co-pays, burning cost ‘premium adjustments’ and health savings accounts.
Crowdfunding Cover is a genuine mix of both postfunding and prefunding. In return for regular risk-based subscriptions (prefunding), subscribers are entitled donation-matching of their life event crowdfund campaign (where donations are postfunded). An alternative name for this type of model is community coinsurance. What ever you want to call it – it is a entirely new way to finance risk.
Take-away
Postfunding is a legitimate form of financing risk and is perhaps an approach you may very well want to consider.
