Pure Premium Method

Pure premium means expected cost per exposure before premium-level markup for variable expenses and profit is layered on top. In ratemaking, it gives a clean way to turn projected loss and fixed-cost needs into an indicated average rate.

This is one of the Exam 5 basics because it forces you to think in exposure units, not just in raw premium totals.

Suppose projected losses and LAE are 900,000 over 10,000 exposures, fixed expense is 12 per exposure, and the variable-expense plus profit ratio is 28%. The pure premium is 900,000 / 10,000 = 90.

Then the indicated average rate is (90 + 12) / (1 - 0.28) = 102 / 0.72, about 141.67 per exposure. That is the average indicated rate before any classification or implementation judgment is layered on.

The pure premium method is one of the standard Exam 5 overall-rate-indication tools because it ties the pricing decision directly to projected cost per exposure.

It is especially helpful when the exposure base is meaningful and when you want to think clearly about fixed versus variable expense treatment.

A common mistake is mixing up per-exposure quantities and ratio quantities. Loss and fixed expense often need to be translated into per-exposure amounts, while variable expense and profit are often handled as ratios in the denominator.

Another mistake is forgetting that the selected indicated rate change is still a judgment call after the mechanical indication. Operational, marketing, regulatory, and credibility considerations can still matter.

Exam 5 uses pure premium thinking as part of the broader ratemaking toolkit that includes exposure-base selection, on-leveling, premium adjustments, trend, credibility, and final implementation judgment.