Underwriting Expenses What They are How They Work

Underwriting Expenses: What They are, How They Work

What Are Underwriting Expenses?

Underwriting expenses are costs associated with underwriting activity. These expenses vary for insurers and investment banks, but they both include a wide range of expenditures. Lowering these expenditures as a proportion of underwriting activity increases the profitability of the insurer or investment bank.

Key Takeaways:

-Underwriting expenses are the cost of performing underwriting activities.

-For insurance companies, this includes underwriting insurance policies. For investment banks, it includes securities underwriting for companies launching an IPO.

-Expenses include actuarial reviews, inspections, due diligence, legal fees, and accounting fees.

-The goal is to keep expenses as low as possible for maximum net income.

-The expense ratio determines the portion of insurance premiums used for underwriting expenses.

Understanding Underwriting Expenses

Underwriting expenses primarily apply to insurance companies. These expenses include direct costs like salaries, commissions, actuarial reviews, and inspections, as well as indirect costs like accounting, legal, and customer service expenses.

For investment banks, underwriting involves underwriting securities for an IPO. Underwriting expenses include due diligence activities, research, and legal and accounting fees.

Underwriting Expenses and the Expense Ratio

The expense ratio is calculated by dividing underwriting expenses by premiums and helps determine the portion of insurance premiums used for underwriting expenses. Insurers aim to keep this ratio in check for profitability.

Underwriting expenses can vary greatly depending on the insurer. Well-known insurers may not need extensive advertising, while new companies incur expenses for starting a business and attracting talent.

Some insurers have low expense ratios due to economies of scale and national advertising budgets. Others use direct-sales techniques to cut out agents and brokers.

In the auto insurance industry, GEICO and Progressive have achieved success by eliminating the middleman. Direct sales methods are more common now due to the internet.

Claims paid out on insurance policies are not included as underwriting expenses. Expenses solely represent the cost of running a business.