How to Calculate Insurance Expense

In the calculation of the premium of any insurance come into play, as a minimum, the following elements:

  • Probability of the occurrence of the insurance event and its greater or lesser severity: the greater the probability that the risk will be transformed into a loss and the more serious its consequences, the higher the amount of the premium. This evaluation is based on statistics, which give us the theoretical probability of the accident rate. Therefore, the valuation of this cost is made “a priori”, based on all those statistical studies considered necessary and that allow to adequately quantify the probabilities and intensities of the risks that are to be covered.
  • Sum insured or insured capital.
  • Duration of the insurance.
  • Technical interest rate, which is used to update amounts at a specific time.
  • Insurance expenses:
    • Internal management expenses: companies have administrative expenses (salaries, rents, computers …) necessary to maintain their activity, so it will not be enough to charge the pure premium (this only covers the part corresponding to the losses). It will be necessary to add an additional amount that allows the insurer to maintain its activity. That is to say, it is necessary to cover all the necessary costs to be able to issue the policies and attend claims, plus a part of the expected profit for the business activity that is developed.
    • External management expenses: insurance requires a considerable marketing effort, for which it is necessary to train and give back to a group of people, both the entity and external.
  • Taxes and supplementary surcharges: the premium can be increased with a series of concepts, such as taxes, the surcharge in favour of the Insurance Compensation Consortium or the surcharge in favour of the Liquidating Commission of Insurance Entities.

Combining the above elements, any insurance premium is built. These elements will affect differently depending on the particular characteristics of each one of them.

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