Property and Casualty Insurance Practice Exam

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What does the term 'unearned premium' refer to?

The portion of premiums collected that is not yet earned.
The premium amount that is refunded to policyholders.
The total of claims paid out by the insurer.
The premiums expected to be earned in future periods.

The correct answer is: The portion of premiums collected that is not yet earned.

The term 'unearned premium' refers specifically to the portion of premiums that have been collected by an insurance company but are not yet recognized as revenue because the coverage period has not yet expired. When policyholders pay premiums upfront, the insurer does not immediately earn that income; rather, it earns the premium over the period of the insurance policy as coverage is provided. For example, if an annual policy is paid in full at the beginning of the term, at that point, the entire premium is considered unearned. As each day passes and coverage is provided, a small portion of that premium is 'earned' and recognized as income. This concept is critical in understanding how insurance companies manage their revenue and liabilities on their balance sheets, as unearned premium is classified as a liability until it is earned. The other options relate to different aspects of insurance and premiums but do not accurately define 'unearned premium'. Thus, the understanding of this term is essential for grasping how insurance revenue is accounted for over time.