What Are Unearned Premiums?
An unearned premium is the premium amount that corresponds to the time period remaining on an insurance policy. In other words, it is the portion of the policy premium that has not yet been “earned” by the insurance company because the policy still has some time before it expires.
Unearned premiums appear as a liability on the insurer’s balance sheet because they would be paid back upon cancellation of the policy.
For example, consider a client who paid an auto insurance premium one year in advance who experiences the complete destruction of his vehicle four months into the coverage period. The insurance company keeps one-third of the annual premium for coverage provided and returns the other two-thirds as unearned premium.
Insurance providers may not have to return a portion of unearned premium when a policyholder terminates the coverage for no given reason, or for reasons such as securing a similar policy with a different provider. It is best for the policyholder to wait until the coverage period of the last paid premium is close before switching insurance companies.
In other words, the earned premium is the portion of an insurance premium that paid for a portion of time in which the insurance policy was in effect, but has now passed and expired. Since the insurance company covered the risk during that time, it can now consider the associated premium payments it took from the insured as “earned.”
