Car insurance calculation: a visual guide

What’s the role of an actuary? How are insurance premiums calculated? Here’s an easy overview of a car insurance premium calculation. Please note that this very simplified explanation does not represent any specific case!  

How does it work?

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The general idea behind insurance is that a large number of people contribute to a pool of money that is used to pay for losses (claims) that happen to members of the group.  These pools of money are managed by insurance companies.

The expectation is that only a small number of contributors will have losses, hence the individual contributions will be small compared to the potential loss each member can have.  The net result is that the small number of contributors that have claims will recoup their losses, and the entire group as a whole gains financial security.

How are contributions determined?

There are a number of ways that contributions (premiums) can be determined.  The most common situation for holders of personal insurance is that the insurer will determine the anticipated cost of providing coverage and divide this among its policy holders.

Distributing these costs

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The simplest way to distribute the costs (premiums) would be to simply total the projected costs and distribute them equally among the contributors (policyholders).  While this may be simple, for many it would not be fair.  We are all different and many factors exist that make a person more or less likely to have a claim.  To make the cost distribution more fair, these factors are reviewed by actuaries

The role of the Actuary

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Actuaries are experts in mathematics and statistics whose job it is to:

  • Analyze past claims experience
  • Look for trends and make predictions of future claims activity
  • Project the financial needs of the company for operational purposes
  • Determine the factors that would make a policyholder more or less likely to have a claim
  • Determine how these factors are to be accounted for to make the distribution of premium fair among policyholders

Taking all of the above into account, the actuaries determine the best way to distribute the contributions required to provide you with the financial security that is promised in your insurance policies.

The following is a list of some of the factors potentially considered by the actuaries when pricing auto policies:

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Where you live

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The year, make and model of your vehicle

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How you use your vehicle, including how far you commute, how far you drive annually, and if the vehicle is used for business or not

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Your age

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Your gender

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Your length of time driving

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Prior accidents

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Traffic Tickets

To put it simply, this is how your premium is calculated. Please note that the above list is for illustration purposes and other information may also be considered.

Learn how you can estimate your insurance costs with belairdirect.