What is a Target Loss Ratio (TLR)?

This month we’ll be taking a closer look at various components of rating, starting with the Target Loss Ratio (TLR). A TLR, put simply, is a representation of the % of a groups premium that is available to pay claims. Every group has expenses, such as claims administration, tax, commissions, printing costs etc. These expenses are added together and represented as a %, which is then deducted from 100%, to determine the TLR. For example, if all of the expenses account for 25% of the premium, then the groups TLR will be 100%-25%=75%. TLR’s are expressed for the experience rated benefits, for example EHB and Dental. The TLR may be the same, or it may vary across the different benefits.

As a group grows they will benefit from economies of scale, which will improve the TLR. A group of 5 members might have a TLR of 65%, which would mean expenses made up 35% of their total premiums. If the group grew to 50 members their TLR might improve to 80%, expenses are now only 20% of premiums. The higher the TLR the better, as it means more premium is available to cover claims.

Plan sponsors should ideally understand TLR’s as it will help to explain renewal increases. For example, if a plan sponsor paid $50k of EHB premiums and the group had $40k of EHB claims, it may come as a shock when the insurance carrier asks for an increase in the EHB premiums. However if the plan sponsor understands that their EHB TLR was 70% then they will understand that only $35k of that $50k was available to cover claims – hence the reason for a renewal increase.

One way to explain TLR to plan sponsors is to use an example they themselves experience. If you consider a persons salary, while on paper they may earn $50,000, this doesn’t mean they have $50,000 to spend. By the time expenses are covered (tax, CPP, EI etc) the amount of money available to spend is reduced. A TLR represents this same concept from the point of view of their insurance premiums, so if the company pays $50,000 in EHB premiums with an 80% TLR, $40,000 is available to cover claims ($50k premiums X 80%  TLR= $40k). If the same group had an EHB TLR of 70% then $35k would be available to cover claims. Below is a diagram to highlight the difference:

Because TLR’s determine the amount of premium available to cover claims, they can have a big impact on renewal rates. This is something to pay attention to at quote time, as carriers may be presenting lower premiums, but their TLR may also be lower, meaning that less premium is available to cover claims. This could result in larger increases in future renewals.

As TLR’s are affected by the size of the group they can fluctuate over time, which means they need to be monitored at each renewal and occasionally tested against the market, to ensure they remain competitive.