Economics & ClaimsCore

Loss Ratio

Q: A cedent's incurred losses are $18M on $30M of earned premium. What is the loss ratio?

60% — $18M ÷ $30M = 0.60, or 60%.

Losses ÷ premium

The single most common yardstick in insurance and reinsurance: incurred losses divided by premium, expressed as a percentage.

Open the interactive version → definition, quiz, structure diagram and progress tracking

Definition

The loss ratio divides incurred losses by premium for the same period. “Incurred” means paid losses plus case reserves plus IBNR — the full estimate of what a year of losses will ultimately cost, not just what has been paid so far. The premium in the denominator should be earned premium, because earned premium is recognised over the same period the losses actually occurred in; written premium includes business that has not yet been exposed to loss and will overstate the denominator.

Paid loss ratio (paid losses ÷ earned premium) understates the true position early in a policy year, before claims have developed — incurred loss ratio is the number that matters.
A quota share cession scales premium and losses by the identical percentage, so it cannot change the loss ratio for either party — only non-proportional structures (excess of loss, stop loss) change the shape of the ratio.
Add an expense and commission ratio to the loss ratio and the result is the combined ratio — the number that actually tells you whether a treaty made money.

Loss Ratio = Incurred Losses ÷ Earned Premium

Multiply by 100 for a percentage; add the expense and commission ratio for a combined ratio.

Worked example

A book earns $50M of premium and has $37M of incurred losses (paid $22M, case reserves $9M, IBNR $6M): a 74% loss ratio. A 25% ceding commission stacked on top of a 60% quota share of that same book gives the reinsurer a 74% loss ratio plus a 25% commission ratio — a 99% combined ratio.

Scenario · figures in USD

A quota share cannot change the ratio — only the commission can

Palisade Mutual earns $50.0M of premium. Incurred losses are $22.0M paid, $9.0M in case reserves and $6.0M of IBNR. It cedes 60% by quota share at a 25% ceding commission.

Incurred losses (paid + case + IBNR)	$22.0M + $9.0M + $6.0M = $37.0M
Gross loss ratio	$37.0M ÷ $50.0M = 74.0%
Ceded premium (60%)	$30.0M
Ceded losses (60% of $37.0M)	$22.2M
Cedent's net loss ratio (retained 40%)	$14.8M ÷ $20.0M = 74.0%
Reinsurer's ceding commission (25% of $30.0M)	$7.5M
Reinsurer's combined ratio	74.0% + 25.0% = 99.0%

So whatThe cedent’s net loss ratio after cession is exactly the same as its gross loss ratio — 74.0% either way — because a proportional cession scales everything identically. What decides whether the reinsurer profits is the commission stacked on top: at a 74% loss ratio and a 25% commission, the reinsurer runs a 99% combined ratio, a wafer-thin margin on a book that looks, ratio for ratio, no worse than the cedent’s own.

Check your understanding

A cedent's incurred losses are $18M on $30M of earned premium. What is the loss ratio?

60%. $18M ÷ $30M = 0.60, or 60%.

Which premium figure belongs in the denominator of a loss ratio, and why?

Earned premium, because it matches the period the losses actually occurred in. Written premium includes business not yet exposed to loss. Earned premium is recognised over the same period the losses developed in — the matching principle any ratio needs to mean something.

Word problem

Underwriting Ltd earns $80M of premium. Paid losses are $30M, case reserves $14M and IBNR $8M. It cedes 50% by quota share at a 27% ceding commission. Calculate the gross incurred loss ratio, the cedent’s net loss ratio after cession, and the reinsurer’s combined ratio.

Show a hint

Incurred losses are paid plus case reserves plus IBNR. A proportional cession does not change the loss ratio — only the commission changes the reinsurer’s combined ratio.

Reveal the worked answer

Incurred losses = $30M + $14M + $8M = $52.0M
Gross loss ratio = $52.0M ÷ $80.0M = 65.0%
Ceded premium (50%) = $40.0M; ceded losses (50% × $52.0M) = $26.0M
Cedent's net loss ratio = $26.0M ÷ $40.0M = 65.0% — unchanged from the gross figure
Ceding commission = 27% × $40.0M = $10.8M; commission ratio = $10.8M ÷ $40.0M = 27.0%
Reinsurer's combined ratio = 65.0% + 27.0% = 92.0%

The loss ratio is 65.0% whether you measure it gross, or net of the cession — quota share preserves the ratio exactly. The reinsurer’s economics turn entirely on the 27% commission stacked on top, producing a 92.0% combined ratio: profitable, but only by an 8-point margin before any allowance for its own expenses or cost of capital.