A line item on the liability side of the balance sheet, which is unusual and confusing when you first see it, is called incurred but not reported, and it's often abbreviated to IBNR.

What this represents is that when an insurance company writes a policy and receives a premium, it has to make an estimate of what amount of that premium is gonna be paid out as claims expense. But the problem is when they make that judgment, they have no idea about any claims. No claims have typically been made, and that means it will have to go into this account where these are estimated claims but they haven't actually been reported to the insurance company. So they can't actually make any claims assessment. So it's almost like saying, "Look, this is the amount where we know that we're going to get some claims coming in but we don't actually have any information about them, and therefore we haven't been able to assess them." So if we think about this, let's take a look at some really straightforward, simple numbers. So let's take a little example and I'm going to just draw a little balance sheet here, and we're gonna make the assumption that in this case the earned premiums are 100, so that's how much we've earned. And the claims expense is going to be 70. So we've written premiums and earned premiums of 100 and then we estimate that we'll pay out 70 out of that 100. Let's just focus on the claims expense and the accounting for that first. So at the expense point, when you first record the claims expense, you'll hit retained earnings because it's on the income statement, okay? So retained earnings will go down by 70, 'cause it's on the income as claims expense, and then you will increase the incurred but not report it, because at the time you expense the claims, you don't actually have any claims made to you, you're just making an assessment. Now, when those claims come in, at that point you can move them out of the incurred but not reported and into the general claims reserve where you've made an assessment. So at the claim, or you kind of know about the claim, the claim point where you know you make an assessment, you still haven't paid it out yet, but you've made an assessment, what will happen, the incurred but not reported will go down, let's assume it's the same 70, and then the claims reserve will go up by 70, and then eventually when you pay the claim, cash is going to go down by 70 and the claims reserve will go down by 70 as well.

Okay? So those are the mechanics of the accounting. So let's take a look at a real example. Here we've got the total provision for claims 11,406, and that's split into two pieces. One is the outstanding claims provisions where we have received a claim and they've been assessed, okay, which is 9,046. Then the other amount, this is the incurred but not reported, so we actually haven't received any claims, but that's our assessment of what we think will come in the door as a result of those premiums that we've earned. And in terms of modeling, you can see here we've got written premiums of 100, we've taken the change in the unearned premiums reserved to give us our earned premiums, and we're gonna assume that the expense ratio is 76%. So it'll take 76% of 90 to give us the claims expense. And that full claims expense is gonna go straight into the incurred but not reported reserve. Now then we have an assumption here about claims reported. And those claims reported are then going to flow into the claims reserves, and then when you pay the claims, that will come out of cash. But the total reserves on the balance sheet is the 67 of incur, but not reported plus the reported claims that have been assessed of 176, giving us a total of 243.4.

Now, bear in mind that a lot of insurance companies won't necessarily split out their reserves between IBNR and the provision for claims. Often it's just lumped into one line item.