# Basic Premium Factor Defined

## What Is the Basic Premium Factor?

The basic premium factor is the acquisition expenses, underwriting expensesprofit, and loss conversion factor adjusted for the insurance charge for a policy. The basic premium factor is used in the calculation of retrospective premiums. It does not take into account taxes or claims adjustment expenses, which are instead covered in the other components of the retrospective premium calculation.

### Key Takeaways:

• The basic premium factor is determined after an insurer sets the standard premium.
• The basic premium factor is the acquisition expenses, underwriting expenses, profit, and loss conversion factor adjusted for the insurance charge for a policy.
• The basic premium factor is used in the calculation of retrospective premiums and does not consider account taxes or claims adjustment expenses.

## Understanding the Basic Premium Factor

The basic premium factor is determined after an insurer sets the standard premium. A policy’s retrospective premium is calculated as (basic premium plus converted losses) multiplied by the tax multiplier. The basic premium is calculated by multiplying the basic premium factor by the standard premium.

The converted loss is calculated by multiplying the loss conversion factor by the losses incurred. The basic premium is less than the standard premium because of the basic premium factor. The function is to provide the retrospective insurance company with funds to cover the administration of the retrospective plan.

### How Premiums Are Formulated

The insurance charge adjustment allows the calculation to keep the retrospective premium between the minimum and maximum premiums but does not take into account the severity of claims or the loss limit.

The loss experience of an insurer depends on the frequency of claims and the severity of those claims. High frequency, low severity claims give the insurer a less volatile loss experience than low frequency, high severity claims. This is because an insurer is better able to predict through actuarial analysis what the losses from an insured will be if claims are frequently made.

Insured parties that bring high severity claims are likely to have higher premiums using retrospective premium calculations because they are more likely to hit the maximum premium.

### The Role of Actuarial Analysis

Actuarial analysis is a type of asset to liability analysis used by financial companies to ensure they have the funds to pay the required liabilities. Insurance and retirement investment products are two common financial products for which actuarial analysis is needed. Actuarial analysis uses statistical models to manage financial uncertainty by making educated predictions about future events. Actuarial analysis is used by many financial companies to manage the risks of certain products.

## Special Considerations

The calculations required for actuarial analysis are done by highly educated and certified professional statisticians who focus on the correlating risks of insurance products and their clients. Insurance companies typically use a schedule of estimated standard premiums when determining whether to recalculate the basic premium factor. If the standard premium is outside of the table ranges—typically a percentage above the estimated standard premium—the basic premium factor is recalculated.