How Insurance Premiums are Priced.

The pricing factors of any insurance policy is made up of 5 main components:

• Risk Premium
• Expenses
• Return on Capital Employed (ROCE)
• Investment Income
• Tax

Risk Premium:

Risk premium is the expected ultimate cost in claims of the risk being accepted including allowance for the degree of uncertainty attaching to the claim cost.

Risk Premium involves: Frequency and Severity of expected claims - Large Claims - Reinsurance Cost - Claims Run Off - IBNR - Catastrophe Claims - Latent Claims - Claims Inflation - Exposure - and Fraud.

Expenses:

Made of Fixed and Variable Expenses. A fixed cost should be allocated to each policy and variable expenses are made up of Underwriting Costs - Commissions - Claims Handling Fees - and Other Expenses.

Return on Capital Employed (ROCE):

ROCE is a key financial concept and the risk capital requirement, calculated by actuaries, is the proportion of total account premiums which must be kept as free reserves to ensure that an insurer can meet its claims obligations.

Investment Income:

It is required by law to maintain certain levels of reserves based on the total premium income insurers receive. This is to pay for future claims. It is important to differentiate between underwriting results and investment income.

Tax:

Tax is a major player in pricing and should be considered.

Roy Keyrouz - Insurance Professional