Last year, ABC insurance company had a combined ratio of 101.7 and lost $7.8 million on...

Last year, ABC insurance company had a combined ratio of 101.7 and lost $7.8 million on it’s insurance products. The company still had to pay income taxes that year. The best explanation for this potential contradiction is

A. Investment income

B. Increased unearned premium

C. Increased LAE

D. Increased loss reserves

Solutions

Expert Solution

Combined ratio is a indicator which is used by analysts and investor to assess the profitability of a insurance company from its underwriting operations. It is calculated as follows:

Combined ratio = Loss ratio + Expense Ratio

Here,

Loss ratio is the loss that is incurred by the company on its insurance products through claims and payouts. It is calculated by dividing incurred losses with earned premiums.

Expense ratio is calculated by dividing the underwriting expenses by net written premiums.

When both of these ratios are combined together it is known as combined ratio. The ratio is then divided by total earned premiums to arrive at the combined ratio and if the number that came is greater than 100, it depicts that the company has incurred losses from its insurance business.

However, the company may still have to pay income tax because of its income from investments that it might have done, in that case, it will have to pay taxes on the income which it has generated from investments. This is because investment income is not income from operations of the company and the same will be taxed separately and can not be set off with the premium income.

Therefore, the correct answer is A 'Investment Income'.

jeff jeffy answered 2 years ago

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