I am often asked by my clients, “How do I know when a loss is worth making an insurance claim?” To begin to answer this question, let’s look at how the commercial insurance industry reflects on property claims and your renewal rates. As a note, remember that there is a subjective nature to the renewal process, rates and, as well, market conditions can play a role.
Insurance Loss Ratio: Premium Dollars Earned Vs. Claims Dollars Paid
Insurance companies take a ‘bottom-line’ – or profit – approach to pricing renewal policies with claims. Brokers negotiate your rates with Underwriters who represent the insurance companies. These people use a ratio of premium dollars earned to claims dollars paid out called a Loss Ratio. A primordial part of the Underwriter’s job is to, over all, provide insurance for premium dollars greater than the dollars they pay out on claims. This helps them to remain profitable and to cover the insurance companies’ operating costs.
Loss Ratios are used to determine how total claims for a year will impact renewal premiums – if at all. Just because you have a claim (large or small), does NOT mean there is an automatic increase to your renewal pricing.
To pay their overhead and stay profitable, insurance companies like to see loss ratios around the 50-60% range. Typically, this means that for every premium dollar they take in, they are expecting to see insurance claim payouts of $0.50 to $0.60. While this might look like a $0.40 to $0.50 margin in profit, remember that the insurance companies still need to pay their staff and overhead costs.
The Hurt that Kills: Claims Frequency Vs. Severity
What can hurt renewal rates are the optics of your claims history. Insurance companies typically treat claim frequency – how often they happen – differently than claims severity – how big the claim really is. Insurers resign themselves to the fact that the ‘raison d’être’ of insurance is the pay out of the claims of a few funded by the premiums paid by the many. Of course, a high frequency of small claims leaves the insurance company with a bad taste in their mouth. Naturally, this is all relative to the size of the deductibles that you carry and the premium that you pay annually.
Clients with the best loss ratios have more leverage and opportunities in negotiating their cost of insurance. Though every case is different, as brokers, we counsel our clients to use their policies for ‘catastrophic’ claims that can financially impair their business. Often, we suggest that smaller claims (which might be considered maintenance items) be absorbed by insurance buyers, keeping their program clean and profitable.
We do not counsel clients to make or not make claims but, rather, attempt to make them aware of how claims will reflect on their business in the eyes of the Underwriters. At the end of the day, everyone has a different appetite for risk and you should be consciously aware of what yours is. Also, there are a myriad of ways that your insurance premium might be affected by the claims you make, and this is often subjective. Keep in mind that many other market and economic factors that can play a role in this debate as well.
Comments here are broad and may not provide all of the answers you are seeking. If you need help or have further questions, reach out to me.
Deciding whether or not you want to make an insurance claim is something we are always happy to help you with.
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