Premium finance terms and definitions
Insurance and Premium Finance terms and definitions
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A B C D E F G H I J K L M N O P Q U R S T U V W X Y Z
General
No insurance and premium finance resource would be complete without a
comprehensive glossary of terms. Following is a list of terms and their
definitions to better help navigate the sometimes confusing world of insurance
and premium finance.
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Account
Current - The means by which an agent settles his accounts with the insurance
company each month, based upon a statement that includes all debits and
credits. Account current allows the agent to pay the net due, or request a
check if the net is a credit. Balances due are usually due at the end of the
month following the month in which the business was written.
Accounts
Receivable - In premium finance, accounts receivable is an asset account comprised
of the total of debit balances owed the premium finance company, whether
current or not. Due to the short-term nature of premium finance contracts (6 to
12 months), rapid pay-down of balances
holds accounts receivable to about one-third of production, assuming that most
contracts are the typical 9 month term. See Production.
Actuarial Earning
Actuarial earning is a means of earning interest on a financed contract.
It is much more complicated than the Rule of 78 and requires sophisticated
software to do it properly. In the premium finance context, it requires that
interest be determined on a daily rate basis, much like a mortgage, then earned
on the day that the next installment is paid.
Add-on Rate – In finance, it
is a means to determine the appropriate finance charge for a given amount
financed over a given term using rate tables. If the rate is known and the term
is known, a table (Regulation Z, Volume 1) can be used to determine the dollar
charge.
For example, using the loan data found in Negotiated Rates:
$10,000 Policy Premium $10,000.00 Total Premium
25% Down Payment ($2,500.00) Down Payment (paid to agent)
12% APR $7,500.00 Amount Financed
$380.22 Finance Charge
$7,880.22 Total of Payments
9 Installments @ $875.58 each.
Using 12% APR and 9 installments, Regulation Z can be used to determine
that the appropriate add-on rate is .0507 (the amount to be “added-on” to develop
a 12% APR). Applying this to the amount financed (.0507 x $7,500.00) = $380.2200. (It might be necessary to round the
pennies in the finance charge to work out even over 9 installments.) Since most interest calculations today are
done by computer, add-on rate calculations and Regulation Z are most useful for
quickly validating that rates or finance charges are correct. See Regulation Z.
Admitted Assets - Assets
permitted by state law to be included in an insurance company's annual
statement. These assets are an important factor when regulators measure
insurance company solvency. They include mortgages, stocks, bonds, and real
estate.
Agency Bill - A type of
billing system for insurance policies in which the policy is purchased from an
independent or captive agent, after which the bill appears on the agent’s
Account Current. The agent then contacts the insured and either collects the
premium in cash or obtains a down payment and a signed premium finance
agreement. The policy is subsequently paid on the following month’s Agent
Statement.
Agent - An individual appointed
by an insurance company who receives a commission on the policies sold and
serviced. Based upon compensation,
agents work for insurance companies in one of two classifications:
1. Independent agents represents at lease one insurance company and (at
least in theory) services clients by searching the market for the most advantageous
price for the most coverage. The agent's commission is a percentage of each
premium paid.
2. Captive agents represent only one company and sells only its
policies. This agent is paid on a commission basis in much the same manner as
the independent agent.
Agent Statement - A document sent each month by an insurance
company listing all debits and credits
for a given insurance agency. If the
business is agency billed, the agent will settle his account each month based
upon this statement. (See “Account Current”.) If the business is direct billed,
it informs the agent of debit and credit activity between his clients and the
company.
Aging – Or “Aging
Report”, in premium finance, a report that separates all contracts in a
portfolio of receivables into those that are “current”, “30 days past due”,
“31-60 days past due”, “61 to 90 days past due”, “91 to 120 days past due”,
“121 to 150 days past due” and “151 to 180 days past due”. Many states require
any balance 181 days or more past due to be marked-off. The report is used to determine the
effectiveness of the company’s collection efforts. See Past-Due
Balances.
Amount Financed - In premium
finance, the amount to be advanced by the premium finance company to the
insurance company after the down payment has been deducted from the total
premium.
Annual Percentage
Rate (APR) – The cost of credit as computed as a percentage at a yearly rate. The
APR can be used to compare the costs of different kinds of credit since it
reduces interest rates to a common yearly rate, regardless of term.
Assets - Assets refer to
"all the available properties of every kind or possession of an insurance
company that may be used to pay its debts." There are three
classifications of assets: invested assets, all other assets, and total
admitted assets. Invested Assets refer to things such as bonds, stocks, cash,
and income-producing real estate. All other assets refer to non-income
producing possessions such as the building the company is in, office furniture,
and debts owed (usually in the form of deferred and unpaid premiums.) Total
Admitted Assets refer to everything a company owns. All other + invested assets
= Total Admitted Assets. Some states by law do not permit insurance companies
to claim certain goods and possessions, such as deferred and unpaid premiums,
in the all other assets category, declaring them "nonadmissable."
Assigned Risk Plan - One name for state-sponsored “pools” of
insurance companies found in 41 states wherein drivers with poor driving
records can obtain minimum coverages in order to comply with state
statutes. These pools are generally
comprised of every insurance company licensed in the state; each is required to
accept a number of drivers based upon the amount of voluntary business written
in the state. Various states have various names, i.e. New York Automobile
Insurance Plan (NYAIP) or the California Automobile Assigned Risk Plan (CAARP).
See Joint Underwriting Authority (JUA),
Reinsurance Facilities, MAIF.
Authorized under
Federal Products Liability Risk Retention Act (Risk Retention Groups) - Indicates
companies operating under the Federal Products Liability Risk Retention Act of
1981 and the Liability Risk Retention Act of 1986.
Best’s Ratings – A.M. Best is a
benchmark financial service which rates the financial strength of both
property-casualty and life insurance companies. Criteria are proprietary and
delve into every aspect of company operations. Ratings range from A++ down to E. Other services also rate insurance
companies, including Standard & Poor, Duff & Phelps and others.
Broker - Insurance
salesperson who searches the marketplace in the interest of clients, not
insurance companies. Not appointed by an insurance company and thus cannot bind
coverage. Brokers are compensated through fees charged to the policyholder.
Broker-Agent - Independent
insurance salesperson who represents particular insurers but may also function
as a broker by searching the entire insurance market to place an applicant's
coverage to maximize protection and minimize cost. This person is licensed as
an agent and broker by different companies (but not the same company).
Cancellation - The process of
terminating coverage under a policy of insurance. Cancellation may be requested
by the insurer (in certain circumstances), the insured or by a lender for
non-payment of premium if the policy is premium financed. See pro-rata and short rate for determination of earned and unearned premium.
Capital - 1.The equity of
shareholders of a stock insurance company. The company's capital and surplus
are measured by the difference between its assets minus its liabilities. This
value protects the interests of the company's policyholders in the event it
develops financial problems; the policyholders' benefits are thus protected by
the insurance company's capital. Shareholders' interest is second to that of
policyholders.
2. The amount of equity plus subordinated debt in a premium finance
company, used to determine how much leveraged funding would be available under
a line of credit.
Capitalization, or
Leverage - 1. Measures the exposure of a company's surplus to various operating
and financial practices. A highly
leveraged, or poorly capitalized, company can show a high return on surplus,
but may be exposed to a high risk of instability.
2. Leverage: the ratio of capital
plus subordinated debt to bank funds available under a line of credit.
Captive Agent - Representative
of a single insurer or fleet of insurers who is obliged to submit business only
to that company, or at the very minimum, give that company first refusal rights
on a sale. In exchange, that insurer usually provides its captive agents with
an allowance for office expenses as well as an extensive list of employee
benefits such as pensions, life insurance, health insurance, and credit unions.
Casualty - Liability or
loss resulting from an accident.
Casualty Insurance - That type of
insurance that is primarily concerned with losses caused by injuries to persons
and legal liability imposed upon the insured for such injury or for damage to
property of others. It also includes such diverse forms as Plate Glass,
insurance against crime, such as robbery, burglary and forgery, Boiler and
Machinery insurance and Aviation insurance. Many casualty companies also write
surety business.
Change in
Policyholders' Surplus - The annual change in a company's policyholders'
surplus derived from operating earnings, investment gains, net contributed
capital and other miscellaneous sources. Policyholders’ surplus is a good
indicator of the ability of the insurance company to continue to pay claims.
Claim - The demand for
benefits as provided by the policy.
Collateral – What a lender
accepts as security for a loan. In premium finance, it is the unearned portion
of the insurance policy.
Combined Ratio
after Policyholder Dividends - The sum of the Loss Ratio, Expense Ratio and the
Policyholder Dividend Ratio. This ratio measures the company's overall
underwriting profitability. This ratio does not reflect investment income or
income taxes. A combined ratio of less than 100 indicates the company has
reported an underwriting profit.
Commercial Lines – Insurance
coverages designed and marketed to business and professional customers. They can be written as monoline (one type of
coverage) or multiline policies that combine property, liability, inland marine
and other coverages into one package.
Contract – A legally
binding agreement between two or more parties. In premium finance it is commonly called a “premium finance agreement”
or PFA. See also Premium Finance
Agreement.
County Mutual
Insurance Company – One of a group of companies exclusive to
Coverage - Protection under
an insurance policy. In property insurance, coverage lists perils insured
against, properties covered, locations covered, individuals insured, and the
limits of indemnification. In life insurance, living and death benefits.
Direct Bill - A type of
billing system for insurance policies in which the policy is purchased from an
independent or captive agent, after which the insured receives monthly invoices
directly from the insurance company (hence the name), and all remittances are
made directly to the insurance company. Premiums are collected as they are earned. See Agency
Bill for the alternative.
Disbursement – Rendering
payment.
Disclosure
Statement – The section of the premium finance agreement which illustrates the
total premium, fees, amount financed, finance charge, annual percentage rate,
total of payments and amount of each payment. Federal regulations require minimum type face size, bold letters and
boxes to highlight this area for personal
lines contracts only.
Dividend - In a mutual or
participating company, it is the return to the policyholder out of the earnings
of the company. In a stock or nonparticipating insurance company it is the
division of the profits among the stockholders of the company. Also, a refund
of part of the premium on a participating life insurance policy. It is a share
of the surplus earned apportioned for distribution and reflects the difference
between the premium charged and the actual experience.
Down Payment - That portion of
a policy collected by the agent to bind coverage and create a premium finance
agreement. An adequate down payment will
collect sufficient premium to cover the earned portion from inception date to
the first payment due date plus enough time to cancel the policy.
Earned Premium - That portion of
a premium for which the policy protection has already been given during the
now-expired portion of the policy term. Premium is earned on a daily basis,
usually on a 12-month term except for automobile coverage which is typically
written for a 6-month term.
Effective Date – The date shown
on the policy or binder when insurance coverage begins. This is also the date that interest begins to
earn under the premium finance agreement, regardless of when funds are actually
disbursed to the insurance company.
Encumbrance - Any outside
interest in or right to property founded on legal grounds, such as a mortgage,
lien for work and materials, or a right of dower. it diminishes the interest of
the person owning the property.
Excess and Surplus
Lines - The excess and surplus lines market acts as an industry safety valve
when coverage is no longer available through standard insurance carriers.
E&S insurance companies are non-admitted, meaning that they are licensed in
their state or country of domicile but not in the state in which they are doing
business, and are not subject to restrictions on rates and forms. If a broker
or agent no longer has a standard market for a given risk, he can approach the
E&S market through a licensed E&S broker and request a quote. Since
rates and forms are not restricted, it allows the E&S insurance company to
determine a rate for the exposure and generate custom forms to cover it. A risk placed in the E&S market is
usually priced much higher than it was, or would have been, in the standard
market. Since E&S companies do not
participate in state guaranty funds, they are somewhat more risky than standard
companies. They are rated by Best’s Insurance Rating Guide, however, giving
premium finance companies and lenders some insight into their financial
condition.
Expense Ratio - The ratio of
underwriting expenses (including commissions) to net premiums written,
expressed as a percent. This ratio measures the company's operational
efficiency in underwriting its book of business.
Finance Charge - In premium
finance, the amount charged by the premium finance company for advancing the
amount financed to the insurance company on behalf of the insured.
Flat Cancellation – Cancellation of
an insurance policy as of the effective date without charge. Commonly used to refer to rescinded premium
finance agreements as well.
General Agent (GA) - The line between an agent and a General Agent
is becoming more blurred, but a General Agent usually “holds the pen” for an
insurance company, meaning the GA has underwriting and policy-writing
authority. After that, the agency may or may not collect premiums, service the
policy or settle claims.
Guaranty Funds - Pools of funds
organized in each state for the purpose of settling claims and debts of
insolvent insurance companies. Guaranty
funds are not paid for with appropriated funds, but rather by the insurance
companies licensed in each particular state.
Hard Market - A “hard market” occurs cyclically, seen from 1985-1990, and again from 1999-2005, is characterized by a decline in the availability of insurance combined with rising prices. The so-called “standard” insurance companies gradually pull away from portions of the market to be replaced by excess-surplus insurance companies. Premium finance companies will finance more policies at higher prices.
Hazard - Circumstance
that increases the likelihood or probable severity of a loss. For example, the
storing of explosives in a home basement is a hazard that increases the
probability of an explosion.
Impaired Insurance
Company – Refers to an insurance company operating in a financially hazardous
manner.
Insolvent
Insurance Company - The company’s assets are
insufficient to pay policy claims.
Insurance Policy – The contract
between insurer and insured containing information regarding the risk, policy
holder, contractual conditions and rate assessed.
Joint Underwriting
Associations (JUA) – State-sponsored pooling mechanism through which all companies doing
business in the state share premiums, profits, losses and expenses incurred for
high-risk drivers or companies. Generally, each agent is assigned to an insurance company which is one
of several that have agreed to issue and service JUA policies. Losses may be
recouped by surcharging policyholders. See Assigned Risk Plans,
Reinsurance Facility, MAIF.
Late Charge – Also known as a
Late Fee, it is an amount payable to the premium finance company, permitted by
state statute, for any installment received more than 5 or 10 days after the
due date (state statutes vary). Personal lines fees are usually limited to some
nominal amount such as $5.00. Commercial lines usually consist of 5% of the
installment amount. Late fees are posted
as debits to the balance due from insured but are not earned as income until
paid.
Late Notice – Usually the
same notice as the Notice of Intent to Cancel, but can be a separate notice
encouraging the policyholder to bring his premium finance agreement current.
See Notice of Intent to Cancel.
Lender – A financial
institution that loans money such as a bank, premium finance company or
insurance company.
Leverage, or
Capitalization - measures the exposure of a company's surplus to various operating and
financial practices. A highly leveraged, or poorly capitalized, company can
show a high return on surplus, but may be exposed to a high risk of
instability.
Liability - Broadly, any
legally enforceable obligation. The term is most commonly used in a pecuniary
sense.
Liability
Insurance - That insurance that pays and renders service on behalf of an insured
for loss arising out of his responsibility, due to negligence, to others
imposed by law or assumed by contract.
Licensed - Indicates the insurance
company is incorporated (or chartered) in another state but is a licensed
(admitted) insurer for this state to write specific lines of business for which
it qualifies. Premium finance companies
are required to be licensed in most states. Many states regulate the financing
of personal lines insurance policies but not commercial lines insurance
policies.
Liquidation – The process
through which an insolvent insurance company’s assets are used to pay
claims. All policyholders are notified
of the cancellation of policies on a stated date and given directions how to
make a claim against the estate. They are also informed that a guaranty
association may handle the processing of future claims.
Liquidity - Liquidity is
defined as "the ability of an individual or business to quickly convert
assets into cash without incurring a considerable loss." There are two
kinds of Liquidity: quick and current . Quick liquidity refers to funds, cash,
short-term investments, and government bonds - possessions which can
immediately be converted into cash in the case of an emergency. Current
liquidity refers to current liquidity plus possessions such as real estate
which cannot be immediately liquidated, but can be sold and converted into cash
eventually. Quick liquidity is a subset of Current Liquidity. Again, the
importance of Liquidity has to do with how fast and how much cash an insurance
company can get their hands on in case there is a disaster and they need to pay
off claims. This reflects the financial stability of a company and thus their
rating.
Lloyd's - Generally
refers to
Lloyds
Organizations – Organizations in the United States that are voluntary unincorporated
associations of individuals patterned after the well-known Lloyds of London. Each
individual assumes a specified portion of the liability under each policy
issued. The underwriters operate through a common attorney-in-fact appointed
for this purpose by the underwriters. The laws of most states contain some
provisions governing the formation and operation of such organizations, but
these laws do not generally provide supervision and control as strict as the
laws dealing with incorporated stock and mutual insurance companies. See Lloyds.
Loan – A sum of money
which is lent for a specific period of time, repayable with interest and fees.
Loss Control - All methods of
reducing the frequency and/or severity of losses including exposure avoidance,
loss prevention, loss reduction, segregation of exposure units and
non-insurance transfer of risk. A combination of risk control techniques with
risk financing techniques forms the nucleus of a risk management program. The
use of appropriate insurance, avoidance of risk, loss control, risk retention,
self-insuring, and other techniques that minimize the risks of a business,
individual, or organization.
Loss Ratio - The ratio of
incurred losses and loss adjustment expenses to net premiums earned, expressed
as a percent. This ratio measures the company's underlying profitability, or
loss experience, on its total book of business.
MAIF - Acronym for the Maryland Automobile Insurance Fund, a state agency created in 1972
for the purpose of providing automobile insurance to those
Managing General Agent (MGA)
– These are agents appointed by an insurance company who carry out all of the functions of an insurance company. They market the product, write the policies, collect the premium, service the policy and settle claims. Although not usually owned by the insurance company, they function as a de facto branch office of the insurance company or companies.
Multistate Guide
to Insurance Premium FinancingTM - Published by CCH Business and Finance Group, it is the only reference
book in publication that places the premium finance laws and regulations of all
50 states in one volume. In addition, it
provides analysis, side-by-side comparison of state statutes using charts,
full-text versions of key laws and regulations and contacts for all state
regulatory offices through the State Offices listing. Available online at http://onlinestore.cch.com or call
1-800-449-6435. Price is a little steep
at $315 (July, 2005) but worth the price for any premium finance company
operating in more than one state.
Mutual Insurance
Companies - Companies with no capital stock, owned by policyholders. The earnings
of the company over and above the payments of the losses and operating expenses
and reserves are the property of the policyholders. There are two types of
mutual insurance companies, the nonassessable companies charge a fixed premium
and the policyholders cannot be assessed. Legal reserves and surplus are
maintained to provide payment of all claims. Assessable mutual companies are
those companies that charge an initial fixed premium, and if that is not
sufficient may assess the policyholders to meet losses in excess of the
premiums that have been charged as well as provide statistical services.
Negotiated Rates – The premium
finance industry has one absolutely unique characteristic in that interest is charged on funds that usually have
not yet been disbursed. All state statutes specify that the interest clock
begins to run on the inception date of the policy, but the premium finance
agreement often arrives days or weeks later. In many cases, disbursement may
not occur for 30 to 60 days. If no agreement is in place, the premium finance
company gains an increased return because it is earning interest on money that
has not been disbursed. Quite often, the delay in funding is used by the agent
or general agent to negotiate a lower rate for the customer. It can be proven
mathematically that a 30 day delay results in a 3.15% increase in the yield (in
theory, at least) because the disbursement is made as the first installment is
received.
For example:
$10,000 Policy Premium $10,000.00 Total Premium
25% Down Payment ($2,500.00) Down Payment (paid to agent)
12% APR $7,500.00 Amount Financed
$380.22 Finance Charge
$7,880.22 Total of Payments
9 Installments @ $875.58 each.
If disbursement is not carried out until Day 30 and the first
installment is received, the same $380.22 is earned on $6,624.42 ($7500.00 -
$875.58). The add-on rate for
$380.22/$6,624.42 = .0574 over 8 remaining payments or 15.125% APR, a gain of
3.15%.
Net Income - The total
after-tax earnings generated from operations and realized capital gains as
reported in the company's NAIC annual statement page 4, line 16.
Net Investment
Income - This item represents Investment Income earned during the year less
investment expenses and depreciation on real estate. Investment expenses are
the expenses related to generating investment income and capital gains but
excluding income taxes.
Net Premium - is the portion
of the premium for which the insurance company is responsible. It does not
include the part of the premium that covers expenses, contingencies
(commissions paid to agents) or profits. Why not profit? Because net premium is
only potential profit at this point. The insurance company does not yet know
whether or not it will be paid with this money.
Net Premiums
Earned - This item represents the adjustment of the net premiums written for
the increase or decrease during the year of the liability of the company for
unearned premiums. When an insurance company's business is increasing in amount
from year to year, the earned premiums will usually be less than the written
premiums. With the increased volume, the premiums are considered fully paid at
the inception of the policy so that at the end of a calendar period, the
company must set up premiums representing the unexpired terms of the policies.
On a decreasing volume, the reverse is true.
Net Premiums
Written - This item represents gross premium written, direct and reinsurance
assumed, less reinsurance ceded.
Net Underwriting
Income - Net premiums earned less incurred losses, loss adjustment expenses,
underwriting expenses incurred, and dividends to policyholders.
Non-payment – In premium
finance, the failure to pay an installment or down payment when due. Either is
grounds for cancellation of the policy for non-payment.
Non-standard Auto – Also known as high risk auto or sub-standard
auto, it is Insurance for motorists who have poor driving records or have been
cancelled or refused insurance. The premium price is much higher than standard
auto due to the additional risks. See
also Preferred Auto and Standard Auto.
Notice of
Cancellation – A legal notice advising the policyholder that coverage is cancelled
as of a certain date. It must be
preceded by a Notice of Intent to Cancel for the cancellation to be legal. It
can be sent by the insurance company for underwriting reasons. It can be sent
by a premium finance company only for
non-payment.
Notice of Intent
to Cancel – A legal notice sent by a premium finance company (or insurance
company) alerting the policyholder that the coverage will cease in ten to
thirteen days (some states requires ten days plus mailing). Commonly called a
“Late Notice” because most premium finance companies will wait for five or ten
days (depending on state statutes) after the payment due date in order to
charge a late fee.
Notice of
Reinstatement – A form used when an insurance policy has been cancelled for
non-payment by a premium finance company then brought current by the
policyholder. This notice advises the policyholder that a request has been sent
to the insurance company to reinstate the insurance policy. Only the insurance
company can reinstate a cancelled insurance policy. The premium finance company
cannot do so.
Order of
Liquidation – A court order appointing a Regulator as Liquidator of an insurance
company. The Liquidator then appoints a Receiver to dissolve the company and
pay off all claims.
Order of
Rehabilitation – A court order issued against an insurance company wherein a Regulator
is empowered to manage the insurance company until the problems are
corrected. The Regulator will take
possession of the company’s books, records and assets and assumes all powers of
the company’s directors, officers and managers.
Order of
Supervision - A court order that empowers a Regulator to require an insurance
company to take specific corrective steps or obtain approval before it
undertakes certain transactions.
Order of
Suspension – A court order that empowers a Regulator to order an insurance company
to stop all or a portion of its business in the state.
Originator – As used in the premium finance industry, a
licensed Property & Casualty insurance agent who writes policies that are
then financed. In broad terms, it can
also be a premium finance company that has contracts with agents that guarantee a flow of premium finance agreements
that can be sold.
Payment Options
Disclosure Form – A written statement required of the agent or broker that informs the
insured of his right to be given information on all the options available for
the payment of the premium. The
statement must be signed by the insured indicating that the insured has been
given enough information to make an informed choice.
Past-Due Balances – In premium
finance, past-due balances are treated somewhat differently due to the
underlying security of the financed insurance policies. When a scheduled
installment is not paid, the premium finance company can, based upon the Power
of Attorney granted by the insured, send a Notice of Cancellation to the
insurance company and effectively cancel the insurance policy, once all
statutory, regulatory and policy conditions are satisfied. The insurance
company will eventually cancel the policy and return the unearned portion to
the finance company. This may take anywhere from 30 to 150 days depending on
the type of coverage and the state in which it was written. The critical difference is this: cancelled
receivables are good receivables until all of the money has been received from
the insurance company or companies. Being in a cancelled status does not impair the receivable unless and
until it has been determined that the unearned premium has been fully earned or
will not be returned for some other reason. Each day, premium finance software
will run an “Aging “ report to determine which account require Notices of
Intent to Cancel (Late Notices) or Notices of Cancellation.
Peril – The cause of a
possible loss.
Personal Lines - Insurance
coverages designed and marketed to individuals. Personal lines of coverage
include automobile, homeowner, dwelling fire, boat, inland marine and others.
Policy - The written
contract effecting insurance, or the certificate thereof, by whatever name
called, and including all clause, riders, endorsements, and papers attached
thereto and made a part thereof.
Policyholders'
Surplus - This item is the sum of paid in capital, paid in and contributed
surplus, and net earned surplus, including voluntary contingency reserves. It is
the difference between total admitted assets and total liabilities and is a key
denominator of many financial ratios measuring the financial strength of an
insurance company.
Preferred Auto - Also known as “family auto”, provides the
widest coverage for the least cost to drivers with good driving records. Depending on the company, accidents and
tickets can make drivers ineligible for preferred rates. See Standard Auto and Non-standard Auto.
Premium - Is the cost of
insurance coverage assessed by the insurer to the insured for coverage for a
specified period. Also, the payment or one of the regular periodical payments a
policyholder is required to make for an insurance policy.
Premium Finance
Agreement - The contract that establishes the relationship between an insured
(the purchaser), the agent intermediary) and the insurance company (insurer).
It pledges the unearned portion of the insurance policy to secure the money
advanced by the premium finance company on behalf of the purchaser, and grants
a limited power of attorney to the premium finance company to cancel the policy
in the event of non-payment of premium.
Premium Finance – A process
wherein a lender pays an insurance premium to an insurer on behalf of an
insured. The policyholder repays the
lender for the amount of the loan (amount financed) plus interest and any
assessable fees and charges. The process is initiated at the agent/broker’s
office when the coverage is originally applied for and the down payment is
made.
Premium, unearned - That part of
the premium applicable to the unexpired part of the policy period. See Unearned Premium.
Production - In premium
finance, the total of the amount financed of all contracts for a given time
period. Due to the short-term nature of
premium finance agreements (6 to 12 months), production is not equal to
accounts receivable. Because of the
rapid pay-down of the agreements, production is typically three times
receivables; the converse ratio is that accounts receivable are equal to
one-third of production. See Accounts
Receivable.
Private Passenger
Auto Insurance Policyholder Risk Profile - This refers to the risk profile of auto
insurance policyholders (you and I) and can be divided into three categories:
standard, non-standard, and preferred. In the eyes of an insurance company, it
is the type of business (or the quality of driver) that the company has chosen
to taken on. See also Preferred Auto, Standard Auto and Non-standard
Auto.
Pro-Rata - A means of
determining what portion of a policy has been earned (or unearned), usually for
the purpose of cancellation or computation of endorsements. Pro-rata is determined by dividing the number
of days the policy was in effect by the number of days in the policy period
(typically 365 days). Thus a $1,000
policy in effect for 163 days would have earned 163/365 (44.6%) or $446. The
insured would receive the reciprocal of that number, 55.4%, or $554 as unearned
premium. Pro rata is normally used when the insurance company has cancelled the
policy, or, in some states, when the premium finance company has cancelled the
policy for non-payment. These
calculations are simplified by the use of a circular slide rule called the Ronoco Six and Twelve Calculator (copyright
1970) or software written for this purpose. See Earned Premium and Unearned Premium.
Profit - A measure of
the competence and ability of management to provide viable insurance products
at competitive prices and maintain a financially strong company for both
policyholders and stockholders. Virtually the same definition for premium
finance except that the product is money and the revenue stream is made up of
earned finance charges and fees.
U
Reciprocal
Exchanges - These organizations are composed of a group of persons, firms or
corporations commonly termed "Subscribers" who exchange contracts of
insurance on the Reciprocal or Inter-Insurance plan through the medium of an
attorney-in-fact. Under this plan, each Subscriber executes an agreement
identical with that executed by every other Subscriber, empowering the
attorney-in-fact to assume on his behalf an underwriting liability on policies
issued by the Exchange covering the risks of the other Subscribers. The
attorney-in-fact assumes no liability as an underwriter. The Subscribers'
Liability is several and not joint and is limited by the terms of the
Subscribers' Agreement.
Regulation Z,
Volume 1 – Published by the Board of Governors of the Federal Reserve System,
this publication consists of Annual Percentage Rate Tables. Any finance charge can be converted to an
add-on rate by dividing the finance charge by the amount financed. The add-on
rate can then be converted to an APR by simply finding the number of
installments on the left and reading across until the add-on rate is found.
(Add-on rates that fall between published rates are easily interpolated.) The APR is then read at the top of the column.
Reinsurance - An agreement
between two or more insurance companies by which the risk of loss is
proportioned. Thus the risk of loss is spread and a disproportionately large
loss under a single policy does not fall on one company. Acceptance by an
insurer, called a reinsurer, of all or part of the risk of loss of another
insurer. A fire insurance company which issues a large policy generally
reinsures a portion of the risk with one or several other companies.
Reinsurance Ceded - Premiums ceded
to other affiliated and nonaffiliated insurance companies as payment for risk
assumed under a reinsurance contract.
Reinsurance
Facility - Found in
Rescind – Cancellation of
a contract as of the effective date. When a premium finance agreement is rescinded, the contract is cancelled
and all money returned. This may occur if the insurance company is unacceptable
to the premium finance company, or the insured changes his mind and pays cash
for the insurance policy. It is commonly called a “flat cancellation”
(cancelled with no charge) in both insurance and premium finance.
Risk – Risk is defined
as the possibility of loss. There are at least five types of risk: market risk,
currency risk, credit risk, interest rate risk and industry risk. Premium
finance is concerned mostly with the last three, since only a few premium
finance companies operate across international borders and the only markets
that the industry deals with are the funds markets. Credit risk concerns the
ability of the borrower to repay the loan. Interest rate risk is concerned with
the rapid rise or fall of interest rates and their effect on the company.
Industry risk includes the stability of insurance companies whose collateral is
accepted and the banks that generally provide funding.
Risk Management - Management of
the pure risks to which a company might be subject. It involves analyzing all
exposures to the possibility of loss and determining how to handle these
exposures through such practices as avoiding the risk, retaining the risk,
reducing the risk, or transferring the risk, usually by insurance.
Risk Retention
Groups - These entities, formed under the Liability Risk Retention Act of
1986, enable businesses or professionals with similar exposures to band
together to provide needed liability overages for each other. Under statute, Risk
Retention Groups are precluded from writing certain coverages; most notably
property lines. These Groups
predominately write medical malpractice, general liability, professional
liability, products liability and excess liability coverages within a
particular industry. They can be formed as a mutual or stock company, or a
reciprocal and are usually heavily reinsured.
Rule of 78
The “Rule of 78”, also known as the “Sum of the Digits” method of
earning interest and apportioning it according to how much of the balance due
remains unpaid. 78 is the sum of the digits 1 through 12. As an example, interest on a 12-month loan
would be apportioned as follows: in
Month One, 12/78 or .1538 of the finance charge becomes earned interest and is
taken into income. In Month Two, 11/78 or .1410 of the finance charge becomes
earned interest and is taken into income. In Month Three, 10/78 or .1282, and
so forth. In the premium finance context, most contracts are written on a
9-month basis, so this becomes the “Rule of 45” if you will, and the interest
is earned as follows on a $100 finance charge:
Month One 9/45 .2000 $20.00
Month Two 8/45 .1778 $17.78
Month Three 7/45 .1556 $15.56
Month Four 6/45 .1333 $13.33
Month Five 5/45 .1111 $11.11
Month Six 4/45 .0889 $8.89
Month Seven 3/45 .0667 $6.67
Month Eight 2/45 .0444 $4.44
Month Nine 1/45 .0222 $2.22
1.000 $100.00
Similar calculations will be made, usually by the software, for any
other term that might be written. Depending on the state, the software and the disposition of the manager
or owner, the software may or may not continue to earn interest once a policy
is cancelled and the premium finance contract is placed in a “cancelled”
status. Technically, all loans earn interest until paid, so the finance company
is within its rights to do one of two things: a) it can just continue to earn interest
under the Rule of 78 until funds are received to pay off the contract or (more
technically correct) b) it can stop earning under Rule of 78 and process a
credit for the unearned interest as of the cancellation date. Then, on the day
following, it can legally charge level interest at the contract rate on the
unpaid balance until the return premium is received.
Short Rate - Is a means of
determining what portion of a policy has been earned (or unearned), usually for
the purpose of cancellation or computation of endorsements. There are several
ways of determining a short rate calculation, but typically is determined by
dividing the number of days the policy was in effect by the number of days in
the policy period (typically 365 days) and
adding an additional 10% penalty. Thus a $1,000 policy in effect for 163 days would have earned 163/365
(44.6% plus 10% = 54.6%) or $546. The insured would receive the reciprocal of
that number, 45.4%, or $454. Short rate
is normally used when the insured has cancelled the policy, or in many states,
when the premium finance company has cancelled the policy for non-payment. Many states construe cancellation for
non-payment a voluntary cancellation by the insured and thus eligible for short
rate.
Standard Auto – Coverage for
drivers with one or two accidents or tickets. Most insurance companies would be willing to provide coverage but at
higher premiums than those of a preferred driver. See Preferred Auto and Non-standard
Auto.
State of
Stock insurance
company - A company owned and controlled by stockholders and conducted for
profit. It sets a premium charge for insurance, assuming all liabilities on a
corporate basis. The owners of the business are paid the profits.
Subrogation - The right of
the insurance company to recover the amount paid under the policy from a third
party. For example, if damage is done to your automobile, protected by a
collision insurance policy, the insurance company may collect the amount of damages
which were paid to you from the party whose automobile ran into your car, by
the process of subrogation.
Total Loss - A loss of
sufficient size so that it can be said there is nothing left of value, or the
complete destruction of the property. The term is also used to mean a loss
requiring the maximum amount a policy will pay. Many insurance policies specify that the premium is fully earned in case
of a total loss, especially in marine and aircraft hull coverage. If this is known to the premium finance
company, it can either refuse the financing or have itself named as a loss
payee on the policy. As such, the claim
payment check will be made out to the insured and the premium finance company,
gaining some leverage in obtaining the balance due on the account.
Total of Payments - In premium
finance, the total amount payable to the premium finance company by the
insured. It consists of the amount financed plus the finance charge.
Total Premium - In premium
finance, the total amount of all policies financed on one premium finance
agreement.
Underwriter - The individual
whose duty it is to determine the acceptability of insurance risks or premium
finance agreements. A person whose duty it is to select risks for insurance and
to determine in what amounts and on what terms the insurance company or premium
finance company will accept the risk or contract. Also, an insurer.
Underwriting - To determine
whether or not a particular risk is insurable under the policy for which it has
applied and at what premium rate. In premium finance, the selection of new
finance agreements at prices, terms and conditions acceptable to the finance
company.
Underwriting Guide – The underwriting
guide, also called the underwriting manual, underwriting guidelines, or manual
of underwriting policy. Regardless of its name, the guide details the
underwriting practices of the insurance company or premium finance company and
provides specific guidance as to how underwriters should analyze all of the
various types of applicants they might encounter.
Unearned Premium - For an
individual policy, that portion of the premium not yet earned by the insurance
company. If cancelled, that part of the premium that would be returned to the
insured. The unearned portion can be computed on a pro-rata or short-rate
basis. See Pro-Rata and Short-Rate.
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