TAC Actuarial Learning

Author: Mayank Goyal FIA

  • Incurred Claims

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    Incurred claims

    Incurred Claims is an estimate of the amount of outstanding liabilities for a policy over a given valuation period. It includes all paid claims during the period plus a reasonable estimate of unpaid liabilities. It is calculated by adding paid claims and unpaid claims minus the estimate of unpaid claims at the end of the prior valuation period.

    Components

    Benefits paid during the reporting period and Change in Outstanding reserves during the period

    Calculation

    Benefits paid during the reporting period + (Total reserves at the end of the reporting period – Total reserves at the beginning of the reporting period)

    Related Questions

    What is Incurred Claims?

    Incurred Claims is an estimate of the amount of outstanding liabilities for a policy over a given valuation period. It includes all paid claims during the period plus a reasonable estimate of unpaid liabilities. It is calculated by adding paid claims and unpaid claims minus the estimate of unpaid claims at the end of the prior valuation period.

    How Incurred Claims are calculated?


    Benefits paid during the reporting period + (Total reserves at the end of the reporting period – Total reserves at the beginning of the reporting period)

    What is change in outstanding claims?


    Total reserves at the beginning of the reporting period – Total reserves at the end of the reporting period

  • Loss Ratio

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    Loss ratio is the ratio of claims incurred by the insurance company to amount of premiums earned by it.

    Loss Ratio

    Loss ratio is the ratio that you will find in almost all the sheets and is the most amazing way to quantify the profitability.

    If someone said to you that the LR is 180%, it means that the LR is completely yikes and the company should close the business, but consider this that the company has LR of 20% (in another business, of almost same EP) and this satisfies the LR to 100%.

    Loss Ratio = Claims Incurred for the year (ultimate losses for the company)/ Earned Premium for the year

    We have already explained both of these components in our earlier exercise. You will generally see a LR of 75% – 92%. In India, the TP loss ration mostly remains above 100% for most of the companies, and it is one of the mandatory offering by the regulator i.e. IRDAI

    In simple language, a high loss ratio is an indicator of financial distress and indicates that for each dollar of premium earned, the company is shelling a high sum of money as claims paid to policyholders.

    Questions Related to Loss Ratio

    What is Loss Ratio in an insurance company?

    Loss ratio is the ratio of claims paid by the insurance company to amount of premiums earned by it.

    How Loss Ratio is calculated?

    Loss Ratio = Claims Incurrred (paid + change in o/s) / Earned Premium

  • Earned Premium

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    Earned Premium is important to the company and is of utmost use while calculation of Reserves

    Earned Premium

    Earned premium is the premium collected by an insurance company for the portion of a policy that has expired. In other words, the earned premium is what the insured party has paid for a portion of time in which the insurance policy was in effect, but has since expired.

    Earned Premium (EP) is that portion of a policy’s premium that applies to the expired portion of the policy. Although insurance premiums are often paid in advance, insurers typically “earn” the premium at an even rate throughout the policy term. The unearned portion of the premium that has been paid is kept in the “unearned premium reserve.”

    There are different types of methods from which Earned premium is calculated. The most common is 1/365 method while the others maybe 1/24, 1/8 or can be customized according to the policy but should be reasonable else as an actuary, you are answerable to all the regulator and auditors’ queries and this could be one.

    Questions Related to Earned Premium

    What is Earned premium?

    Earned premium is the premium collected by an insurance company for the portion of a policy that has expired. In other words, the earned premium is what the insured party has paid for a portion of time in which the insurance policy was in effect, but has since expired.

    How Earned premium is calculated?

    There are few methods that can be used but the most basic is 1/365 method for the calculation of Earned premium.

    EP is calculated hereby using 1/365 method.

  • Other Reserves

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    Other Reserves

    Insurers may also hold catastrophe reserves or other claims equalisation reserves.

    Catastrophe Reserves

    Catastrophe Reserves — reserves on a captive’s balance sheet that are for paying neither known nor incurred but not reported (IBNR) losses. The ideal would be to build up these catastrophe reserves for the rainy day when they will be needed.

    We are not learning how to calculate Cat Reserves here. The definitions are for knowledge purpose and you should be aware of all the reserves that you may come across later.

    Claim Equalisation Reserves

    Pending

    Questions Related to Other Reserves in a GI company

    What is Catastrophe Claim Reserves?


    How Catastrophe reserves are estimated?

  • Reserving methods in GI

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    There are different types of reserving methods for calculation of the liabilities of a General Insurance company. Some of the reserves are required to be stated directly like Unpaid reserves(due but not paid) while some are projected using Run off triangles using different methods.

    Reserving Methods in General Insurance

    There are different methods for loss reserving in general insurance.

    • Chain Ladder Method
    • Bornhuetter-Ferguson method
    • Expected loss ratio method
    • Average cost per claim or Frequency Severity method

    Estimates of the outstanding claims reserves can be made on a case by case basis, by using statistical methods which will learn in upcoming exercises, or by using exposure-based reserving.

    Statistical methods might be applied to various features of claims that appear stable (and are measurable), eg numbers or amounts.

    On a comic sense, this is not how a method is selected!

    Working for Reserving Methods

    We already have gone through these steps but let’s revise them once and where we stand at.

    1. Compile claims data in a development triangle
    2. Calculate age-to-age factors
    3. Calculate averages of the age-to-age factors
    4. Select claim development factors
    5. Select tail factor
    6. Calculate cumulative claim development factors
    7. Project ultimate claims

    Most of the statistical methods work from tabulations of claims that have been recently settled. Assumptions are made about the stability of claim development, and that past patterns will continue into the future.

    Questions Related to Reserving Methods

    What are the methods used in IBNR reserving?


    Chain Ladder Method
    Bornhuetter-Ferguson method
    Expected loss ratio method
    Average cost per claim or Frequency Severity method

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  • Outstanding Reserves

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    Outstanding Claim Reserves Definition

    Outstanding claim reserves provision for the estimated amount of claims that have not been settled. It can be interpreted to include only claims that have been reported, or to include all claims not yet settled.

    These are cash reserves held by insurance companies to cover unpaid claims

    This is a set aside amount for insurance benefits that have already been claimed by the policyholders but have not been settled yet. It can be said a reserve for Incurred/Reported but not settled liabilities.

    Questions Related to Outstanding Reserves

    What is Outstanding Claim Reserves?

    Outstanding claim reserves provision for the estimated amount of claims that have not been settled. It can be interpreted to include only claims that have been reported or to include all claims not yet settled.

    How Outstanding reserves are estimated?

    Estimates of the outstanding claims reserves can be made on a case by case basis, by using statistical methods, or by using exposure-based reserving.

  • IBNR Reserves

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    Estimates for outstanding claims reserves are carried out by estimates of individual outstanding claims or by using statistical methods for the totals.

    Incurred But not Reported (IBNR)

    Incurred But Not Reported (IBNR) is a type of reserve used as the provision for claims and/or events that have occurred, but claims related to which have not yet been reported to the insurance company.

    In IBNR calculations, an actuary will estimate potential damages, and the insurance company may decide to set up reserves to allocate funds for the expected losses.

    You need to keep yourself aware of, and we told you a bit about it in last exercise as well. Generally, it is Projected Ultimate Claims – Reported Claims

    The lesson is just to make you understand what are IBNR reserves. We cover the calculation and methodology to calculate projected ultimates using CLM and other methods in our next section, once you understand various terms required.

    Parts of IBNR

    1. Pure IBNR – The reserves related to incurred events that have not yet been reported

    2. IBNER (Incurred but not enough reported) – The reserves for claims that have been reported but may have additional development. The IBNER is closely related to the second type of Reserves described below as a good case reserving can minimize the need for IBNER.

    Questions Related to IBNR Reserves

    What is IBNR

    Incurred But Not Reported (IBNR) is a type of reserve used as the provision for claims and/or events that have occurred, but claims related to which have not yet been reported to the insurance company.


    Why a company keep IBNR?

    IBNR is needed to be kept because of claim reporting delays due to bureaucratic red tape (excessive adherence to official rules and formalities) and processing lag or settlement delays. Because IBNR claims represent latent liabilities, companies must calculate a proper estimate of funds to hold in reserve.


  • Long-tail classes

    A long-tail liability is a type of liability that carries a long settlement period. Long-tail liabilities are likely to result in high incurred but not reported (IBNR) claims, because it may take a long period of time for the claims to be settled.

    • A long-tail liability is a type of liability that carries a long settlement period.
    • Liability insurance claims often involve large sums of money and can result in a settlement as well as a lengthy court case.
    • Examples of long-tail liabilities include medical malpractice, employment discrimination, and cases of child abuse.

  • Claim Reporting Delay

    When a claim event occurs there will be some time before it is reported or notified to the insurer – this is known as a claim reporting delay. The insurer will incur numerous claims in a calendar year, and each of those claims will have a claim delay.

    The reporting delay is the time from the event occurrence through to the time that the insurance company is notified of the event. There may be delays due to:

    • the time between an event occurring and the condition emerging

      e.g. for industrial diseases such as asbestos or from environmental pollution.

    • the time taken for the policyholder to advise the insurer – possibly because
      • the amount involved is quite small.
      • they do not realise that there is cause for claiming

  • Claim Reserves types in GI

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    There are different types of claim reserves shown in the liabilities of the General Insurance company. Some of the reserves are required to be stated directly like Unpaid reserves(due but not paid) while some are projected using Run off triangles using different methods.

    Types of claim reserves in GI

    There are certain types of reserves on the liabilities side also called as Technical reserves (or insurance reserves) might be split into:

    • Incurred But Not Reported – IBNR &
    • Incurred but not enough Reported – IBNER
    • Outstanding Reported Claims Reserves – OS Reserves
    • Re-opened claims Reserves
    • Claims Handling Expenses Reserves
    • Catastrophe Reserves – Cat Reserves

    GI claim reserves reason

    Claims reserves occur due to the delays in Claim reporting, Claim settlement, or premature closure of claims files.

    Claims reserves are generally larger for long-tail classes of business.

    Claims reserves are estimates. Therefore any work which is based on claims reserves should recognize the uncertainty underlying the estimates. This uncertainty is generally greater for long-tail classes.

    When a claim event occurs there will be some time before it is reported or notified to the insurer – this is known as a claim delay. The insurer will incur numerous claims in a calendar year, and each of those claims will have a claim delay.

    To clear one thing, a Chartered Accountant CANNOT calculate Reserves. They can do finance, underwriters know about risk but Actuarial is something different and on that note, here you go.

    The below claim reserves example will give you an idea on what are the different terms used for these reserves. We will cover them in detail in upcoming sections.

    Questions Related to Claim Reserves

    What are the types of reserves in General Insurance?

    Incurred But Not Reported – IBNR
    Incurred but not enough Reported – IBNER
    Outstanding Reported Claims Reserves – OS Reserves
    Catastrophe Reserves – Cat Reserves

    Why Claim Reserves are created?

    Claims reserves are estimates of claims that have occurred on or before the financial statement report date but which have yet to be paid.

    This a current liability that has to be reported regularly on the insurer’s financial statements even though the actual final settlement cost of the claims may be unknown to the entity on that date.