5. Retro Program

Retrospective rating plans compute the ultimate premium after the policy expires, or retrospectively. These are not guaranteed cost plans since the ultimate premium is determined by the loss experience of the policy year.

§ In a retro plan, the carrier issues the policy at a rate per exposure and determines an estimated policy premium.  The insured pays the policy premium in full during the policy year.

§ Typically, six to twelve months after expiration, a calculation is made to determine the retro premium. 

§ A percentage of that premium, referred to as “basic,” is retained by the carrier to cover expenses for costs and factors other than claims.  A separate provision for taxes may also apply, called a “tax multiplier.”  To these amounts is added the losses incurred (paid loss + open reserves) multiplied by a “loss conversion factor (LCF).”  The sum is the retro premium. 

§ The retro premium is subject to a “minimum,” (the premium that is the lowest possible regardless of losses) and a “maximum” (the ceiling for ultimate cost). 

§ The retro premium is compared to the policy premium and the insured either receives a return or owes additional premium

A retro provides a simple manner of making premium cost loss sensitive.  Expenses remain the responsibility of the insurance company.  The account usually does not need to provide collateral in the form of a letter of credit for future losses.  For accounts that effectively control losses, the ultimate premium is lower than on a guaranteed cost plan.

There are also important disadvantages: 

§ If losses are above those expected, the ultimate cost is greater than on a guaranteed cost plan. 

§ Some plans require collateralization.

§ Rather than closing out costs after one year, the ultimate premium is not determined for several years. 

§ Another significant disadvantage is the recalculation provision.  It is very common for an account to get a return one year and then have to pay all or some of it back the next year, or even pay more than the return, as losses develop.

When looking at a retro option, it is vital to be able to reasonably predict losses and loss patterns to determine what factors work best for your exposures and your experience. You could increase your costs. Recalculations can negate any returns. It is a Long Term commitment.