Premium to Surplus Ratio
In insurance, the term surplus characterizes diverse meanings. A surplus account signifies an insurance company’s assets less its liabilities. The term surplus lines, in the regular insurance market, means an insurance coverage that is unavailable from a company that is admitted in the said market. In the reinsurance market, surplus lines imply a contract between the ceding company and the reinsurer that has an agreement based on the former’s line guide, in which case the reinsured amount is expressed in number lines. The number line is the retention amount’s terms of multiples.
Example, a ceding company issues an insurance policy for $50,000 and maintains $12,500, or one-fourth of the total amount. The outstanding $37,500 is then transferred to the reinsurer company. This illustrates the three line surplus as the insurer transfers an amount line to the reinsurer three times more than how much he retains.
Insurance companies measure its financial strength by way of surplus adequacy ratio, which is computed by dividing its adjusted surplus by the adjusted liabilities.
On the other hand, an insurance premium is the term used in insurance to indicate the price of the insurance protection intended for a particular risk in a given period. Likewise, the term premium balances represents premiums in the course of collecting them, agent’s balances, and booked installments deferred and outstanding, as well as bills receivables that are obtained for plain premiums in addition to retrospective premiums accrued.
Also, premiums earned denote premium sums paid in advance. These premiums are earned in view of the principle of the passage of time without even gaining resultant claims. For instance, a five-year policy paid in advance is considered a partly earned premium on the first year it subsisted. In contrast, premiums unearned are those portions of the premium that is applicable towards the unexpired section of the period of the policy.
Moreover, net premium is the amount obtained by deducting the agent’s commission from the premium amount. It is the premium sum required to cover the losses anticipated before considering to deal with other several expenses. Net premiums earned are the modification of new premiums written with the intention of increasing or decreasing the liability of the company for premiums unearned throughout the year.
An insurance company that increases its business each year will often have earned premiums that are lesser than the premiums written. Having this higher volume, premiums are then viewed as fully paid since the creation of the said policy. This is intended for the company to establish premiums that represent the unexpired provisions of the specified policies. However, net premiums written characterize gross premiums that are written, direct, and assumed in reinsurance, minus the reinsurance ceded.
A ratio to measure the insurer’s ability to take in losses that are above the average as well as his financial power is called the premium to surplus ratio. It can be computed through dividing the net premiums written by the surplus. For instance, a business having $6 of net premiums written for each $3 surplus has a premium to surplus ratio of 2-to-1. A lower ratio depicts greater financial strength for the company. As a rule, state regulators set up less than 3-to-1 premium surplus ratio to be adhered by insurance companies.