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Premium
This document discusses key concepts related to life insurance premiums, including: - Premium components include interest, expenses, mortality, benefits, bonus loading, taxation, and inflation. - There are different types of premiums such as risk premium, net premium, and office premium. Premium calculation is complex and involves actuarial and statistical principles. - Insurers establish a life fund to hold all income from life insurance policies to exclusively meet liabilities and claims expenses. - Insurers conduct annual actuarial valuations to ensure assumptions about mortality, interest, and expenses are valid and the business remains financially sound. Bonus may be distributed if valuations show surplus funds.
Premium
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- 2. Learning outcomes After thisdiscussion, you shall be familiar with : • Definitions of premium & renewal premium • Components of premium • Types of premium • Premium calculation • Valuation • Bonus • Life fund
- 3. What is premium? • Premium – consideration against insurance contract • First premium – consideration for contract to COME into force • Subsequent premia - for contract to REMAIN in force • Insurance policies priced first, cost of production known later • Calculation is very complex involving statistical and actuarial principles.
- 4. Components of premium •Interest • Expenses • Mortality • Benefits under contract • Bonus loading • Taxation • Inflation
- 5. Types • Risk premium- covers risk of death • Net or pure - Risk premium plus interest • Office premium – Net premium plus management expenses
- 6. Risk Premium • Riskpremium adequate to pay claims if all policies were term policies for one year • Risk premium based on probability of death at various ages , using mortality tables containing data for such probabilities. • In Endowment cases, claims to be paid on survival after some years • Actual premium collected would have to be more than risk premium
- 7. Net premium • Premiumcollected are not utilised every year for payment of claims • Reasons - Real experience may not be exactly as per mortality tables Premiums collected in Endowment plans will be much higher initially than required since company has to cover risk & pay survival amount if policyholder survives term.
- 8. Contd…… • Hence premiumshould provide for the Pure Endowment part of the policy also. • Excess premium collected, in either case, is invested by insurer • This belongs to policyholders and will be passed on to them • Co assumes a certain rate of interest, based on its experience, while computing premium rates.
- 9. Contd….. • Since lifeinsurance contracts are very long-term contracts, investments made by company also will be long-term. • Higher the interest earned, lower will be premium • Premium based on combination of mortality rate and interest factor is Net Premium
- 10. Office Premium • Ifco was to charge only NP, then no provision for expenses, hence certain loadings to NP. • In life insurance, expenses of procuring business very high • Cost of maintaining a policy is low • Lesser RP goes towards expenses • Uneven distribution of expenses in FYP & RP
- 11. Contd….. • Expenses ofa life insurance company Salaries Commission Medical fee Stamp duty Printing & stationary Postage Advertisement/publicity
- 12. Contd…. • Establishment charges Legalfees Consultancy/training Taxation • When expenses are loaded, the premium arrived at is the office premium. This premium is now ready for use. Is printed in promotional literature/ brochures
- 13. Level premium • Insurersspread risk premium uniformly throughout term of policy • Premium remains same throughout term • This is level premium • Implies that premium collected in early years of policy would be more than necessary for risk and less than necessary towards latter part of policy • If premia were to increase with age, difficult for policyholders to continue.
- 14. Premium calculation • Calculateage ( less/more than 6 mos ) • Find correct tabular premium per Rs 1000 SA • Rebate/adjustment for mode ( subtract for Yly/Hly , no rebate for Qly/Mly ) • Arrive at balance • Allow high SA rebate • Multiply balance by SA & divide by 1000
- 15. Contd…. • Add riderpremiums by multiplying with SA/ ltd SA & divide by 1000 • Add extra premium like HE/OE • Add above to get annual premium • Calculate instalment premium (Yly/ Hly …..) • Round off to nearest rupee
- 16. Life fund • Insurancecontracts are long-term • Profit determined only after contract ends • Premiums are yet to be paid, liability continues & insurer has to keep aside funds • Practice of level premium implies that part of a premium collected in any year is meant to cover higher risks of future years & kept till such risks arise
- 17. Life fund • Hence,all income from life insurance business , including earnings from investments, are kept aside in a LIFE FUND to exclusively meet liabilities • IRDA stipulates this requirement • Life fund used only to pay claims & the expenses of running the business • It represents the RESERVE for life insurance policies
- 18. Valuation • Premium iscalculated considering likely future experiences in respect of mortality, interest & expenses • These are assumptions or expectations • Reality could be different from expectations • If expectations conform, business properly funded • If experience is worse ( mortality/expenses are more or interest earnings are less ), premium would be inadequate & problems for co.
- 19. Contd….. • All insurerscheck validity of these assumptions annually to ensure business is on sound footing . • Process called ACTUARIAL VALUATION • In any valuation actuary estimates liabilities of insurer in respect of business in it’s books & estimates amount of premia receivable • Difference between the two is the fund insurer must have to remain solvent.
- 20. • Data comparedto existing life fund. • If present fund more, insurer solvent. • Method of valuation very complex. • Each co to have full-time actuary.
- 21. Bonus /types • Ifvaluation shows fund is more than estimated liabilities, insurer has a SURPLUS • Valuation surplus is distributed to policyholders through BONUS • Participating policyholders pay extra premium due to “bonus loading” • Simple reversionary bonus – Bonus plus SA • Compound reversionary bonus – Bonus plus (SA plus bonus)
- 22. Types • Vesting bonus– payable only when claim arises, not if policy terminated for other reasons. • Terminal / final additional bonus – one-time bonus for policies in force for at least 15 years • Interim bonus - payable only to policies maturing between a declared valuation & valuation next year i.e mid-year
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