Canadian Accredited Insurance Broker (CAIB) One Practice Exam

What is the primary distinction between pro-rata and short rate premium returns?

1. Short rate provides a full refund; pro-rata offers less

2. Pro-rata does not include administrative charges; short rate does

3. Pro-rata calculates refunds based on time remaining; short rate subtracts penalties

4. Short rate is always used for high-value policies

The correct answer is: Pro-rata calculates refunds based on time remaining; short rate subtracts penalties

The primary distinction between pro-rata and short rate premium returns lies in the method of calculating refunds when a policy is canceled before its expiration. In a pro-rata return, the refund is calculated based on the proportion of the premium that corresponds to the remaining period of coverage. This means if a policy is canceled halfway through its term, the insured would receive a refund that reflects half of the total premium, without any additional deductions. Conversely, a short rate return involves the calculation of refunds that deducts certain penalties or administrative fees from the total premium based on the cancellation date. This results in a lower refund amount compared to what would be received under a pro-rata calculation, as it compensates the insurance company for the cost of issuing the policy and the potential underutilization of the policy. Thus, the correct answer highlights that pro-rata calculations are straightforward and reflect the remaining coverage time, while short rate returns are affected by penalties, illustrating a significant difference in how cancellations are financially managed between these two methods.