Insurance Accounting Terms & Definitions
Like many industries, insurance operates with its own particular language and terminology, which can be confusing to the layperson. Insurance accounting makes use of certain terminology used in the calculation of areas such as profits and losses. In particular, the terminology is frequently used when measuring the impact of claims in relation to premiums, as well as how premiums are classified.
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Earned Premium
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Earned premium is the amount of premium, which is the payment policyholders make to insurance companies in exchange for coverage, in relation to the amount of time the policy has been in force and the dollar value of claims paid out. For example, suppose a policyholder purchases a one-year policy and pays the entire $1,000 premium at the beginning of the term. If three months pass without any claims paid, the company would have an earned premium of $250, or 25 percent of $1,000.
Written Premium
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Written premium is the total amount of premium charged for the policy during a period, regardless of how much of the premium has been collected. If a policy contains an annual premium of $1,000, the written premium for the period is considered to be $1,000, even if the policyholder does not pay the entire premium during the particular accounting period, such as when he pays in quarterly or semi-annual installments.
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Incurred Losses
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Incurred loss is used as a means of tracking an insurance company's claim payments for a fiscal period. It is calculated by adding the amount of claims incurred during the period with outstanding losses still on the books at the end of the period and subtracting the amount of outstanding losses at the beginning of the period. If a company paid $100,000 in losses during the period, had $50,000 in losses still outstanding at the end of the period and had started the period with $25,000 in outstanding previous losses, its incurred losses for the period would be $125,000.
Incurred Loss Ratio
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Incurred loss ratio measures incurred losses in relation to earned premium to help determine a company's profitability. To calculate, divide incurred losses by earned premiums for a given period. A company that reported earned premiums of $100,000 and incurred losses of $75,000 would have an incurred loss ratio of 75 percent. In general, the lower a company's incurred loss ratio, the more profitable it should be.
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