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Premium income generally refers to the money an insurance company receives by charging premiums to clients. This money is not all considered profit because claims must also be paid out of this money, as well as administrative expenses. Nevertheless, it is one of the primary sources of income for many insurance companies, along with investment income. The premiums are generally regulated by a governing body, and therefore cannot generally be excessive or outside of a certain range for the industry and the protections offered.
Insurance companies generally count premium income at the the end of the year because of changes that could be made during the course of the year by a policyholder. For example, if a client prepays for a policy, then cancels that policy, the unused portion of the premium is generally referred to as unearned premium. That portion is often refunded to the person who paid the premium, minus any administrative charges imposed.
As may be expected, premium income is the major source of income for an insurance company. Its sole reason for existence is to charge premiums and cover losses put in as claims. Therefore, the income is vital to the overall operations of the insurance business. While other sources of income are important, they are generally based on the money received from premium collections.
As an example of how income from premiums affects other revenue streams, look at investment income. Without receiving premium income, there is no other money to invest. Therefore, everything starts with the collection of the premiums. In addition, the income from those premiums must meet all expenses or the company could be facing a loss, especially if other sources of income do not offset the expenses.
In order to determine what the premium income may be, or should be, for a given year, the underwriting department of an insurance company runs projections. Those projections, because of the law of large numbers, are more accurate as the company adds more policyholders. In other words, the larger the number of people in the pool, the more predictable the losses become. The amount is calculated and premiums are assessed.
Generally, premium income is based on yearly figures, although some companies may set up easier, monthly payment plans for clients. Overall, the goal is to make sure that, at the end of the year, the income from premiums, and other sources, meets or exceeds the expenses incurred. This is determined by looking at end-of-the-year balance sheets.