If an insured cancels their policy before expiration, on what basis is the unearned premium returned?

When an insured cancels their policy before its expiration, the return of unearned premium is typically done on a short rate basis. This method involves the insurer retaining a percentage of the premium as an administrative fee. As a result, the insured receives a refund that is less than the total unearned premium, reflecting the costs associated with processing the cancellation.

The short rate basis is different from a pro-rata basis, where the refund would be more straightforward and provide the insured with a fair amount of unearned premium based solely on the portion of the policy they did not use. However, since cancellations often incur additional administrative efforts and costs, the short rate method compensates the insurer for this.

This understanding is critical, as different states and policies may have specific rules regarding how unearned premiums are managed upon policy cancellation, but the short rate return is a widely accepted practice in the insurance industry.