Definition
Pro rata cancellation is the revocation of an insurance policy by an insurance company, which returns to the policyholder the unearned premium—the portion of the premium for the remaining period that the policy will not be in force. Importantly, there is no reduction for expenses already paid by the insurer for that time period.
Examples
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Auto Insurance: John has an auto insurance policy that he decides to cancel 6 months into a 12-month term. If John paid $1,200 for the annual premium, under pro rata cancellation, the insurer will return the unearned premium of $600, which corresponds to the 6 unused months of coverage.
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Homeowner’s Insurance: Mary decides to switch her homeowner’s insurance after 9 months. If her insurance premium for the year was $900, the insurance company would refund her $225, calculated based on the remaining 3 months of her policy.
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Commercial General Liability Insurance: A business cancels its commercial general liability (CGL) insurance policy 4 months before the end of the policy term. If the annual premium was $2,400, the insurance company would return $800 of unearned premium.
Frequently Asked Questions (FAQs)
What is the difference between pro rata cancellation and short-rate cancellation?
Pro rata cancellation provides the full return of unearned premiums with no penalties, while short-rate cancellation involves a penalty or fee deducted from the unearned premium.
How is the unearned premium calculated for pro rata cancellation?
The unearned premium is calculated based on the remaining time left on the policy. For example, if a policy with a $1,200 annual premium is canceled at 6 months, the unearned premium would be $600.
Can policyholders request pro rata cancellation at any time?
Yes, policyholders can request pro rata cancellation at any time. The insurer will calculate the unearned premium based on the effective date of the cancellation.
Will any fees be deducted from the pro rata refund?
No, there are no fees or penalties deducted with pro rata cancellation. The policyholder receives a refund of the full unearned premium.
Who decides whether to use pro rata or short-rate cancellation?
The terms of the insurance contract, which both the insurer and policyholder agree upon, typically specify the method of cancellation. However, pro rata cancellation is mandated for cancellations initiated by the insurer.
Related Terms
- Unearned Premium: The portion of the premium that has been paid in advance but has not been earned because the policy period has not yet elapsed.
- Short-Rate Cancellation: Cancellation of an insurance policy that results in a reduced refund of the unearned premium due to penalty charges.
- Policyholder: A person or entity that owns an insurance policy.
- Insurer: The insurance company providing the coverage under an insurance policy.
- Commercial General Liability (CGL) Policy: A type of insurance policy that provides coverage for a business’s general liability exposures.
Online Resources
- Investopedia: Pro Rata Cancellation
- III (Insurance Information Institute): Understanding Insurance Premiums
- NAIC (National Association of Insurance Commissioners): Consumer Insights
Suggested Books for Further Studies
- “Principles of Risk Management and Insurance” by George E. Rejda and Michael McNamara
- “Insurance Theory and Practice” by Rob Thoyts
- “Fundamentals of Risk and Insurance” by Emmett J. Vaughan and Therese Vaughan
- “Handbook of International Insurance: Between Global Dynamics and Local Contingencies” edited by J. David Cummins and Bertrand Venard
Fundamentals of Pro Rata Cancellation: Insurance Basics Quiz
Thank you for exploring the comprehensive intricacies of pro rata cancellation in insurance. Ensuring accuracy and understanding can significantly impact both policyholders and insurance providers.
