Contingency Margins in Rate Calculations

Most insurance rating laws require consideration of "a reasonable margin for underwriting profit and contingencies" as one of the factors in establishing insurance rates. The purpose of this paper is to examine the contingency margin. A "contingency" is defined to be an uncertain, unexpected or unforeseen event. Evidence of the existence of "contingencies" can be seen by examination of industry underwriting results over the last 30 years. These results show a consistent shortfall between the anticipated, or target, underwriting results and the actual results. A practical example of how the contingency provision may be calculated for a hypothetical company is discussed in detail. Other methods of calculating the contingency margin are also discussed. In conclusion, for a variety of reasons, contingencies do occur and result in significant shortfalls between expected and actual results. It is essential that anyone undertaking a determination of insurance rates take this factor into account as part of the ratemaking process.