An individual pays premiums to an insurer that agrees to bear the financial burden of certain losses. This arrangement is an example of which risk management technique?

Why A is correct

Insurance is the classic risk-transfer technique: the insured transfers the financial consequences of a potential loss to the insurer in exchange for a premium. Transfer does not make the loss less likely — the risk is still present — but someone else now bears the financial impact when the loss occurs. Avoidance means not engaging in the loss-producing activity at all; retention means keeping the risk and paying losses out of pocket, often through deductibles or self-insurance; reduction, or loss control, means lowering the chance or severity of loss through measures such as sprinklers or safety training. Identifying which technique is in use helps an agent match the client's situation to the right product.

Why the other options are wrong

• B) Avoidance eliminates the risk by not engaging in the activity — for example, not owning a car at all. Buying insurance leaves the insured exposed to the peril, so it is not avoidance.
• C) Retention means the individual keeps the risk and absorbs any loss personally, often through deductibles or self-insurance; paying an insurer to bear the risk is the opposite of retention.
• D) Reduction (loss control) lowers the likelihood or severity of loss, such as installing alarms, but the insured still bears the remaining financial risk without an insurer involved.

Memory hook

Insurance hands the risk's bill to someone else — that is transfer. Avoid = do not play; retain = pay yourself; reduce = make it smaller.

Why C is correct

Transfer shifts the financial consequences of a risk to another party. When a family buys life insurance, the risk of premature death is transferred to the insurer in exchange for a premium, so the insurer pays the loss if it occurs. This is the same technique that underlies most insurance purchases and is one of the four principal risk management methods used in personal financial planning. Avoidance means refusing to accept the risk at all, retention means keeping the risk and funding losses yourself, and reduction lowers the chance or severity of a loss.

Why the other options are wrong

• A) Avoidance would mean eliminating the exposure entirely, such as deciding never to fly; buying life insurance does not avoid the risk of death and therefore is not avoidance.
• B) Retention is self-funding losses, as with a high deductible or a self-insurance fund; purchasing insurance is the opposite of retaining the risk.
• D) Reduction lowers loss frequency or severity through measures such as seat belts or smoke alarms; insurance does not reduce the chance of death, only its financial burden.

Memory hook

Transfer = hand the bill to the insurer. Avoid = dodge the risk. Retain = eat the loss yourself.