Chapter 15 Loss Reserving Methods

Comprehensive vocabulary flashcards covering loss reserving methods, NAIC expense categories, case and bulk reserving techniques, and factors affecting primary insurers and reinsurers.

Loss reserves

Estimates that represent future loss and expense payments for an insurer; they comprise a large portion of liabilities on an insurer’s balance sheet.

Defense and Cost Containment (DCC)

A National Association of Insurance Commissioners (NAIC) expense category that includes expenses related to the defense and litigation of claims.

Adjusting and Other (AO)

A National Association of Insurance Commissioners (NAIC) expense category that includes all expenses other than defense, such as adjusters’ salaries and other fees.

Allocated loss adjustment expense (ALAE)

Loss expenses that can be directly associated with or allocated to a specific claim file.

Unallocated loss adjustment expense (ULAE)

Loss adjustment expenses, such as general claims operation costs, that cannot be allocated to a specific claim file.

Incurred losses formula

$$\text{Incurred losses} = \text{Paid losses} + \text{Loss reserves} + \text{Loss adjustment expense reserves}$$

Incurred but not reported (IBNR) reserves

Bulk reserves that estimate growth in reported case reserves, losses that have happened but are not yet reported, and additional costs for reopened claims.

Accident-year method

A method of organizing ratemaking statistics that aggregates incurred losses for all insured events that occurred during a given period, typically twelve months.

Loss development

The increase or decrease of incurred losses over time as new information becomes available and reserves are adjusted.

Policyholders’ surplus

The difference between an insurer's assets and its liabilities, representing the insurer's net worth available to satisfy claims.

Case reserves

The estimated amount of a loss representative's ultimate loss for an individual claim file, minus any payments already made.

Judgment method

A case reserving method where a claims representative estimates the value of each claim based on professional experience without statistical analysis.

Average method (Factor method)

A case reserving method that sets a reserve for specific categories of claims as an average amount based on past claims data trended for factors like inflation.

Tabular method

A case reserving method that uses actuarial tables to calculate the present value of future loss payments based on claimant characteristics like age, health, and marital status.

Bulk reserves

A general provision for additional reserves made for identified types of insurance when specific claims with inadequate case reserves cannot be identified.

IBNR formula

$$\text{IBNR reserves} = \text{Ultimate losses} - \text{Reported incurred losses}$$

Loss ratio method

A method of estimating IBNR reserves that assumes the ultimate loss ratio will equal the loss ratio used when calculating premium rates.

Percentage method

A method for estimating IBNR reserves based on historical relationships between IBNR reserves and reported losses.

Loss triangle method

A reserving method (also known as the chain ladder method) that uses historical loss development patterns to estimate ultimate losses and IBNR reserves.

Twelve-month loss development factors

Also known as age-to-age loss development factors or link ratios, these are factors calculated from a loss triangle to show the change in losses between reporting intervals.

Ultimate loss development factor

A factor applied to the most recent estimate of incurred losses for a specific accident year to estimate the ultimate incurred loss for that year.

Bornhuetter-Ferguson method

A reserving method that estimates IBNR by using expected losses and an IBNR factor; it is often used for immature loss data.

Three-part combination method

A reserving technique that phases out the loss ratio method, phases in the loss triangle method, and eventually bases reserves entirely on case loss reserves.

Salvage

Property transferred to an insurer and then sold to partially offset the insurer’s loss exposure.

Subrogation

The insurer’s right to recover the amount of its loss payment from the third party who is legally responsible for the loss.

Social inflation

Trends in the United States legal system and legislative changes that result in higher costs for insurers and claimants.