Kentucky Health Insurance Practice Exam

When the insured initiates the cancellation of a policy, the unearned premium will be refunded on a...

1. Short rate basis

2. Extended term basis

3. Pro rata basis

4. Per occurrence basis

The correct answer is: Short rate basis

When an insured cancels a policy, the process by which the unearned premium is refunded is typically based on a short rate basis. This means the insurer will retain a portion of the premium to cover administrative costs associated with the early termination of the policy. As a result, the refund is less than if it were calculated on a pro rata basis, which would return the full unused premium amount. Using this method acknowledges that the insurer has incurred certain costs that were not fully recovered at the time of cancellation. In practical terms, a short rate cancellation allows insurance companies to limit their losses when a policy is terminated before its expiration date, differentiating it from other methods which either refund the full premium or are tied to specific occurrences.