DEFINITION of 'Long-Tail Liability'

Liabilities for claims that have long settlement periods. Long-tail liabilities are likely to result in high incurred but not reported (IBNR) claims because it may take a long period of time for the claims to be settled.

BREAKING DOWN 'Long-Tail Liability'

The settlement period for an insurance claim can vary widely according to the type of risk being covered. Some types of insurance have a short loss payment period, while others may pay out claims over a protracted period of time. For example, property insurance claims tend to be settled relatively quickly, while liability insurance may take years to settle.

Insurers that offer liability insurance may see claims come in a long time after a claim event occurs. For example, a patient may sue a doctor months after a surgery if he or she thinks that medical malpractice has been involved. The long settlement period is the result of a variety of factors. Liability insurance claims can be for larger sums of money than other insurance claims, and may result in settlement offers as well as court cases. The insurance company will also want to examine the claim thoroughly to ensure that it is being made in good faith and is not fraudulent.

Insurance companies that offer coverage for risks that are considered long-tail may have higher investment income ratios (net investment income / earned premiums) than companies that offer coverage for short-term liabilities. This is because the gap between when the insurer receives the premium and when a claim is potentially made is greater for policies relating to product liability, medical malpractice, and reinsurance.

Policies covering long-tail liabilities tend to have higher loss ratios (losses incurred divided by earned premiums) and higher combined ratios (losses and loss adjustment expenses divided by earned premium). Combined ratios below 100 percent indicate that the insurer is making a profit from its underwriting activities.

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