Includes acquired entities since date of acquisition, only. PRA Wisconsin was acquired on August 1, 2006. NCRIC Corporation was acquired on August 3, 2005.
The following discussion should be read in conjunction with the Consolidated Financial Statements and Notes to those statements which accompany this report. Throughout the discussion, references to ProAssurance, “we,” “us” and “our” refers to ProAssurance Corporation and its consolidated subsidiaries. The discussion contains certain forward-looking information that involves risks and uncertainties. As discussed under “Forward-Looking Statements,” our actual financial condition and operating results could differ significantly from these forward-looking statements.
The estimation of professional liability losses is inherently difficult. Ultimate loss costs, even for claims with similar characteristics, vary significantly depending upon many factors, including but not limited to, the nature of the claim and the personal situation of the claimant or the claimant’s family, the outcome of jury trials, the legislative and judicial climate where the insured event occurred, general economic conditions and, for medical professional liability, the trend of health care costs. Professional liability claims are typically resolved over an extended period of time, often five years or more. The combination of changing conditions and the extended time required for claim resolution results in a loss cost estimation process that requires actuarial skill and the application of judgment, and such estimates require periodic revision.
In establishing our reserve for losses, management considers a variety of factors including claims frequency, historical paid and incurred loss development trends, the effect of inflation, general economic trends and the legal and political environment. We perform an in-depth review of our reserve for losses on a semi-annual basis. Additionally, during each reporting period we update and review the data underlying the estimation of our reserve for losses and make adjustments that we believe best reflect emerging data.
As a result of the variety of factors that must be considered by management there is a significant risk that actual incurred losses will develop differently from these estimates. In establishing our initial reserves for a given accident year we rely significantly on the loss assumptions embedded within our pricing. Because of the historically volatile nature of professional liability losses, we establish the initial loss estimates at a level which is approximately 8 to 10% above our pricing assumptions. This difference recognizes the volatility of the professional liability loss environment and the risk in determining pricing parameters. As each accident year matures we analyze reserves in a variety of ways and use multiple actuarial methodologies in performing these analyses, including:
Paid Development and Reported Development Method. These methods use historical, cumulative losses (paid losses for the Paid Development Method, reported losses for the Reported Development Method) by accident year and develops those actual losses to estimated ultimate losses based upon the assumption that each accident year will develop to estimated ultimate cost in a manner that is analogous to prior years, adjusted as deemed appropriate for the expected effects of known changes in the claim payment environment (and case reserving environment for the Reported Development Method), and, to the extent necessary, supplemented by analyses of the development of broader industry data.
The various actuarial methods discussed above are applied in a consistent manner from period to period. In addition, we perform statistical reviews of claims data such as claim counts, average settlement costs and severity trends.
Any change in our estimate of the reserve is reflected in then-current operations. Due to the size of our reserve for losses, even a small percentage adjustment to these estimates could have a material effect on our results of operations for the period in which the adjustment is made as has been the case in 2008, 2007 and 2006.
Virtually all of our financial assets are comprised of investments recorded at fair value. Of the Company’s investments recorded at fair value totaling $3.4 billion, approximately 98% of our investments are based on observable market prices or observable market parameters (i.e. broker quotes, benchmark yield curves, issuer spreads, bids, etc.). The availability of observable market prices and pricing parameters (referred to as observable inputs) can vary from investment to investment. We utilize observable inputs, where available, to value our investments. In many cases, we obtain multiple observable inputs for an investment to derive the fair value without requiring significant judgments.
We use a pricing service, Interactive Data Corporation (IDC), to value our investments that have an exchange traded price or multiple observable inputs. We do not utilize IDC to price investments that do not have multiple observable inputs (Level 3). IDC discloses the inputs used for each asset class that it prices. We review the inputs for the asset classes we own in order to make the appropriate level designation.
All securities priced by IDC using an exchange traded price are designated by us as Level 1. Level 1 investments are currently limited to exchange traded common and preferred equity securities, and money market funds with quoted Net Asset Values (NAVs).
IDC provides a single price per instrument quoted. We review the pricing for reasonableness each quarter by comparing market yields generated by the supplied price versus market yields observed in the market place. If a supplied price is deemed unreasonable, we will challenge the price with IDC and make adjustments if deemed necessary. To date, we have not adjusted any prices supplied by IDC.
For securities that do not have multiple observable inputs (Level 3), we do not rely on a price from IDC. Our Level 3 assets, which primarily are private placements and limited partnerships, are valued by management either using non-binding broker quotes or pricing models that utilize market based assumptions which have limited observable inputs including treasury yield levels, issuer spreads and non-binding broker quotes. The valuation techniques involve some degree of judgment. Approximately $53 million (2% of investments recorded at fair value) are valued in this manner.
We also have other investments, primarily comprised of equity interests in private investment funds (non-public investment partnerships and limited liability companies), $44.5 million of which are accounted for using the equity method and $31.0 million of which are carried at cost. We evaluate these investments for other-than-temporary impairment by considering any declines in fair value below the recorded value. Determining whether there has been a decline in fair value involves assumptions and estimates as there are typically no observable inputs to determine the fair value of these investments.
the extent to which the fair value of an investment is less than its recorded basis,
the length of time for which the fair value of the investment has been less than its recorded basis,
the financial condition and near-term prospects of the issuer underlying the investment, taking into consideration the economic prospects of the issuer’s industry and geographical region, to the extent that information is publicly available,
for asset-backed securities: the origination date of the underlying loans, the remaining average life, the probability that credit performance of the underlying loans will deteriorate in the future, and our assessment of the quality of the collateral underlying the loan, and
Deferred federal income taxes arise from the recognition of temporary differences between the basis of assets and liabilities determined for financial reporting purposes and the basis determined for income tax purposes. Our temporary differences principally relate to loss reserves, unearned premiums, deferred policy acquisition costs, unrealized investment gains (losses) and investment impairments. Deferred tax assets and liabilities are measured using the enacted tax rates expected to be in effect when such benefits are realized. We review our deferred tax assets quarterly for impairment. If we determine that it is more likely than not that some or all of a deferred tax asset will not be realized, a valuation allowance is recorded to reduce the carrying value of the asset. In assessing the need for a valuation allowance, management is required to make certain judgments and assumptions about the future operations of ProAssurance based on historical experience and information as of the measurement period regarding reversal of existing temporary differences, carryback capacity, future taxable income, including its capital and operating characteristics, and tax planning strategies.
Our mission is to be the preferred source of professional liability protection by providing unparalleled claims defense, highly responsive customer service and innovative risk management while maintaining our commitment to long-term financial strength. According to A.M. Best’s analysis of 2007 data, we are the fifth largest medical professional liability insurance writer in the nation, and we believe we are the largest medical professional liability writer in our collective states of operation. We believe that our strong reputation in our regional markets, combined with our financial strength, strong customer service and proven ability to manage claims, should enable us, over the long-term, to profitably expand our position in select states. We have successfully acquired and integrated companies and books of business in the past and believe our financial size and strength make us an attractive acquirer. We emphasize disciplined underwriting and do not manage our business to achieve a certain level of premium growth or market share. We apply our local knowledge to individual risk selection and determine the appropriate price based on our assessment of the specific characteristics of each risk. In addition to prudent risk selection, we seek to control our underwriting results through effective claims management. We investigate each claim and have fostered a strong culture of defending claims that we believe have no merit. We manage claims at the local level, tailoring claims handling to the legal climate of each state, which we believe differentiates us from national writers.
PICA will become part of ProAssurance in the second quarter of 2009 if its eligible policyholders approve the planned sponsored demutualization. PICA is the nation’s leading provider of professional liability insurance to doctors of podiatric medicine, with a market share of approximately 70%. PICA insures approximately 9,800 podiatric physicians in 47 states and the District of Columbia, and its PACO subsidiary provides professional liability insurance for approximately 7,000 chiropractors and writes Errors & Omissions insurance for a small, but growing, number of independent insurance agents. PICA wrote approximately $96 million in premium in 2008, has $336 million in total assets and has maintained an A.M. Best rating of “A-” (Excellent) for the past 13 years.
We expect our acquisition of Mid-Continent, which closed in January of 2009, to also broaden our market presence in the rapidly expanding professional liability market for allied health care providers such as nurse practitioners, home health care nurses, medical technicians and other similar professionals. Under almost every likely healthcare reform scenario these professionals are likely to have a greater role in the delivery of health care and we believe their need for professional liability coverages will expand as their responsibilities expand.
insurance for attorneys in Indiana, Michigan and Ohio since 1995. We have publicly stated our intention to double our premiums from this line of business to $20 million, and we expect Georgia Lawyers to help us achieve that goal. Georgia Lawyers wrote approximately $5.7 million of direct written premium in 2008, and insured about 2,700 attorneys, most in small-to-medium sized practices. This increases the size of our legal professional liability book, in terms of both premium and insureds, by approximately 50%.
We have also taken steps to broaden the distribution of our legal professional liability policies by adding business through Grayhawk General Agency, Inc. (Grayhawk) and ProLawyer Insurance, LLC (ProLawyer).
Grayhawk, which is based in the Phoenix area, solicits business in Arizona, California, Colorado, Nevada, and Washington, and seeks to expand its business throughout the west. ProLawyer, based in Philadelphia, writes business in Delaware, the District of Columbia, Maryland, New Jersey, Pennsylvania, and Virginia, and seeks to expand in the mid-Atlantic states.
FSP EITF 99-20-1, Amendments to the Impairment Guidance of EITF Issue No 99-20, was issued in January 2009 to amend the impairment guidance in EITF Issue No. 99-20, Recognition of Interest Income and Impairment on Purchased Beneficial Interests and Beneficial Interests That Continue to Be Held by a Transferor in Securitized Financial Assets. EITF 99-20 specifies that an impairment is considered other-than-temporary if, based on an estimate of cash flows that a market participant would use in determining the current fair value, there has been an adverse change in those estimated cash flows. FSP EITF 99-20-1 alters this guidance by specifying that an impairment be considered other-than- temporary if it is “probable” there has been an adverse change in the holder’s estimated cash flows from those previously projected. We adopted FSP EITF 99-20-1 as of December 31, 2008 and considered the guidance provided therein in our impairment evaluations performed as of December 31, 2008. There was no material effect from adoption.
In February 2007, the FASB issued SFAS 159, The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115. SFAS 159 permits many financial assets and liabilities to be reported at fair value that are not otherwise required under GAAP to be measured at fair value. Under SFAS 159 guidance, the election of fair value treatment is specific to individual assets and liabilities, with changes in fair value recognized in earnings as they occur. The election of fair value measurement is generally irrevocable. SFAS 159 is effective for fiscal years beginning after November 15, 2007, with early adoption permitted. We adopted SFAS 159 on January 1, 2008 but did not elect fair value measurement for any financial assets or liabilities that were not otherwise required to be measured at fair value.
The principal components of our operating cash flows are the excess of net investment income and premiums collected over net losses paid and operating costs, including income taxes. Timing delays exist between the collection of premiums and the ultimate payment of losses. Premiums are generally collected within the twelve-month period after the policy is written while our claim payments are generally paid over a more extended period of time. Likewise, timing delays exist between the payment of claims and the collection of any associated reinsurance recoveries. Our operating activities provided positive cash flows of approximately $164.8 million and $244.1 million for the years ended December 31, 2008 and 2007, respectively.
Two metrics commonly used to analyze the operating cash flows of insurance companies are the net paid-to-incurred ratio and the net paid loss ratio.
The net paid-to-incurred ratio is calculated as net paid losses divided by net incurred losses. The net paid loss ratio is calculated as net paid losses divided by net premiums earned. In calculating both of these ratios, net paid losses is defined as losses and loss adjustment expenses paid during the period, net of the anticipated reinsurance recoveries related to those losses.
For a long-tailed business such as ProAssurance, fluctuations in the ratios over short periods of time are not unexpected and are not necessarily indicative of either positive or negative changes in loss experience. The timing of our indemnity payments is affected by many factors, including the nature and number of the claims in process during any one period and the speed at which cases work through the trial and appellate process. The ratios are affected not only by variations in net paid losses, but also by variations in premium volume and the recognition of reserve development.
A complete listing of our investment holdings as of December 31, 2008, may be obtained from the “Investor Home Page-Supplemental Investor Information” section of our website.
We manage our investments to ensure that we will have sufficient liquidity to meet our obligations, taking into consideration the timing of cash flows from our investments, including interest payments, dividends and principal payments, as well as the expected cash flows to be generated by our operations. Approximately $50 million of our investments mature or are paid down in a given quarter and are available, if needed, to meet our cash flow requirements. At our insurance subsidiaries’ level, the primary outflow of cash is related to net paid losses and operating costs, including income taxes. The payment of individual claims cannot be predicted with certainty; therefore, we rely upon the history of paid claims in estimating the timing of future claims payments. To the extent that we have an unanticipated shortfall in cash we may either liquidate securities or borrow funds under previously established borrowing arrangements. However, given the relatively short duration of our investments, we do not foresee any such shortfall.
Mortgage-backed securities are generally categorized according to the expected credit quality of underlying mortgage loans. Generally, subprime loans are issued to borrowers with lower credit ratings while Alt-A borrowers have better credit ratings but the mortgage loan is of a type regarded as having a higher risk profile. As of December 31, 2008, we directly hold securities with a fair value of approximately $11.7 million (recorded cost basis of approximately $14.2 million and rated: 55% AAA, 32% AA, 10% A, 3% BBB or BB) and a beneficial interest in securities with a fair value of approximately $635,000 (recorded cost basis of approximately $5.3 million and average rating of B) that are supported by collateral we classify as subprime. We also have subprime exposure of approximately $4.4 million through our interests in private investments funds. We also hold securities with a fair value of approximately $11.4 million (recorded cost basis of approximately $12.8 million) that are supported by privately issued residential mortgage-backed securities we classify as Alt-A, of which approximately 23% are AAA rated, 27% are AA, 50% are A. Ratings given are as of December 31, 2008. During 2008 we evaluated our securities with subprime and Alt-A exposures and recognized other-than-temporary impairments of $5.2 million for the year ended December 31, 2008.
Some of our investments have become less liquid than they have historically been due to the extreme market volatility and disruption experienced in 2008. While the markets for these securities have temporarily become more intermittent and less active, trades are occurring. We determine the fair value of these securities by obtaining information from IDC which includes trade data. We confirmed the reasonableness of the fair value of these securities as of December 31, 2008 by reviewing market yields of the securities. Current yields are substantially elevated and reflect those seen on similar securities of similar credit quality and collateral. In addition to those securities which have become illiquid as a result of current market disruptions, we have historically purchased certain other investments that do not have a readily available market, including private placements, limited partnerships, inverse coupon mortgage-backed securities, municipal auction rate securities and Federal Home Loan Bank (FHLB) capital stock. The net unrealized gains (losses) as of December 31, 2008 associated with securities currently considered to be illiquid are detailed in the following table.
We believe the fair values of these securities reflect declines due to the market disruptions and are below the true economic value. The unrealized losses should reverse over the remaining lives of the securities should no further deterioration of collateral relative to our position in the securities’ capital structures be experienced.
The following table, known as the Reserve Development Table, presents information over the preceding ten years regarding the payment of our losses as well as changes to (the development of) our estimates of losses during that time period. Years prior to 2001 relate only to the reserves of ProAssurance’s predecessor, Medical Assurance. In years 2001 and thereafter the table reflects the reserves of ProAssurance, formed in 2001 in order to merge Medical Assurance and Professionals Group. PRA National reserves are included only in the year 2005 and thereafter. PRA Wisconsin reserves are included only in the year 2006 and thereafter. The table does not include the reserves of our personal lines operations, which are reflected in our financial statements as discontinued operations.
The following may be helpful in understanding the Reserve Development Table:
Prior to the mid to late 1990’s our business was largely based in Alabama. When we began to expand geographically, we utilized industry based data as well as our own data to support our actuarial projection process. Our own claims experience proved to be better than the projected experience, but again, this was not known for some time after the reserves were established. Ultimately, as actual results proved better than that suggested by historical trends and industry claims data, redundancies developed and were recognized.
During 2006, 2007 and 2008 we have recognized favorable development related to our previously established reserves primarily for accident years 2002 through 2006 because we have reduced our estimates of claims severity related to those years. Based on recent internal and industry claims data, we believe claims severity (i.e., the average size of a claim) is increasing at a rate slower than we estimated when our reserves for those years were established.
Our reinsurance treaties are renegotiated annually. There was no significant change in the cost or structure of the treaties renewed on October 1, 2008.
As discussed in Note 11, we completed the conversion of all our outstanding Convertible Debentures (aggregate principal of $107.6 million) in July 2008. Approximately 2,572,000 shares of our common stock were issued in the transaction (conversion rate was 23.9037 shares per $1,000 debenture). Of the common shares issued, approximately 2,120,000 were reissued Treasury Shares and 450,000 were newly issued shares. The transaction resulted in a $112.5 million net increase to Stockholders’ Equity in the third quarter of 2008. No gain or loss was recorded related to the conversion. Book value increased approximately $0.28 per share from the conversion.
As discussed in Note 11 to the Consolidated Financial Statements, our TPS Debentures are held by, and are the sole assets of two related business trusts (the Trusts). The Trusts purchased the TPS Debentures with proceeds from related trust preferred stock issued and sold by each trust. The terms and maturities of the TPS Debentures mirror those of the related TPS. The Trusts will use the debenture interest and principal payments we pay into each trust to meet their TPS obligations. In December 2008, ProAssurance reacquired TPS having a face value of $23 million. When the TPS were reacquired, ProAssurance became the primary beneficiary of one of the trusts (Trust-1) and consequently, following the guidance of FASB Interpretation No. 46R “Variable Interest Entities” (FIN 46R), we have consolidated Trust-1 as of December 31, 2008. The remaining trust (Trust-2) was not consolidated because we are not the primary beneficiary of Trust-2.
For non-claim-related actions we evaluate each case separately and establish what we believe is an appropriate reserve under the guidance provided by SFAS 5 Accounting for Contingencies. As a result of the acquisition of NCRIC in 2005, we assumed the risk of loss for a judgment entered against PRA National on February 20, 2004 by a District of Columbia Superior Court in favor of Columbia Hospital for Women Medical Center, Inc. (CHW) in the amount of $18.2 million (the judgment). The judgment was appealed to the District of Columbia Court of Appeals, which affirmed the judgment in October 2008 and denied PRA National’s petition for rehearing in January 2009. We included a liability of $19.5 million related to the judgment and post-trial interest as a component of the fair value of assets acquired and liabilities assumed in the allocation of the PRA National purchase price in 2005, and have continued to accrue additional post-trial interest. The judgment plus post-trial interest is expected to be paid in the second quarter of 2009.
Results from the years ended December 31, 2008 and 2007, respectively, compare as follows:
Net premiums earned have declined in 2008 by approximately $74.2 million (14%). The decline reflects rate reductions implemented to reflect favorable loss trends and the effects of a highly competitive market place.
Our net loss ratio has decreased in 2008 by 19.7 points due to the increased amount of favorable net loss development as discussed above. Our expense ratio has increased by 1.9 points primarily due to the decline in premium. Our operating ratio is lower by 20.2 points. Return on equity is 13.3% for 2008 as compared to 14.2% for 2007.
Results of Operations-Year Ended December 31, 2008 Compared to Year Ended December 31,
Gross premiums written declined 14.1% during 2008 as compared to 2007, reflecting the effects of lower premium rates and a very competitive insurance market. The change in premiums is driven by three primary factors, our ability and desire to retain expiring business, the change in premium rates we charge on the business we do renew, which can also be affected by the coverage an insured chooses to purchase, and the production of new business.
Finally, the acquisition of new business continues to be challenging. Despite competitive pressures, we remain committed to a rate structure that will allow us to fulfill our obligations to our insureds, while still generating fair returns for our stockholders.
and 2007, respectively. Other non-physician coverages consist primarily of professional liability coverages provided to lawyers and to other health care professionals such as dentists and allied health professionals. We are seeing the same competitive pressures in these areas as we are seeing in our physician business.
We are required to offer extended reporting endorsement or “tail” policies to insureds that are discontinuing their claims-made coverage with us, but we do not market such coverages separately. The amount of tail premium written and earned can vary widely from period to period. Tail premiums totaled approximately $23.5 million and $26.4 million (5% gross written premiums for both comparative periods) for the years ended December 31, 2008 and 2007, respectively, representing a decrease of $2.9 million. Many of our competitors are offering prior acts coverage to induce insureds to change insurance carriers. The availability of prior acts coverage negates the need for a non-renewing insured to purchase a tail policy.
Other Invested Assets. The decline in income from other invested assets reflects a $5.8 million reduction in distributions from our investment in a private fund accounted for on a cost basis, as a result of turmoil in the debt markets. Because we recognize income related to these funds as it is distributed to us, our income from these holdings can vary significantly from period to period.
During 2008 we recognized other-than-temporary impairment losses of $857,000 during the first quarter, $5.5 million during the second quarter, $29.9 million during the third quarter, and $10.9 million during the fourth quarter.
During 2008, we recognized favorable loss development of $185.3 million, on a net basis, related to reserves established in prior years. Principally this is due to favorable net loss development for the 2004 to 2006 accident years within our retained layers of coverage ($1 million and below), but also includes favorable development of $3.7 million due to the commutation of prior year reinsurance agreements during 2008. The 2004-2006 favorable development is based upon observation of actual claims data which indicates that claims severity is below our initial expectations. Given both the long tailed nature of our business and the past volatility of claims, we are generally cautious in recognizing the impact of the underlying trends that lead to the recognition of favorable net loss development. As we conclude that sufficient data with respect to these trends exists to credibly impact our actuarial analysis
we take appropriate actions. In the case of the claims severity trends for 2004-2006, we believe it is appropriate to recognize the impact of these trends in our actuarial evaluation of prior period loss estimates while also remaining cautious about the past volatility of claims severity.
Interest expense decreased in 2008 as compared to 2007 primarily because our average outstanding debt declined from $179 million in 2007 to $110 million in 2008 (see Note 11 for details of debt redemption and conversion). A decline in the average interest rate for our TPS/TPS Debentures of approximately 200 basis points also reduced interest expense (rates adjust quarterly based on three-month LIBOR).
Our effective tax rate for each period is significantly lower than the 35% statutory rate because a considerable portion of our net investment income is tax-exempt. During 2009 our tax-exempt income grew at a faster rate than did our taxable income which decreased our overall effective tax rate. The effect of tax-exempt income on our effective tax rate is shown in the table below:
We acquired PRA Wisconsin effective August 1, 2006. Operating results for the year ended December 31, 2007 include PRA Wisconsin results for the entire period. Our results for the year ended December 31, 2006 include PRA Wisconsin results only for the five-month period subsequent to the date of acquisition.
We face strong price-based competition in virtually all of our markets, with some competitors offering coverage at rates that we do not believe to be profitable on a long-term basis. Additionally, a number of physicians and hospitals are seeking to lower their costs through the use of alternative risk transfer approaches such as self insurance and risk sharing pools, although these alternatives become less attractive as prices soften in the traditional insurance markets.
Physician premiums represent 84% and 85% of gross written premiums for the years ended December 31, 2007 and 2006, respectively. As compared to 2006, physician premiums decreased by 6% during 2007.
Our overall retention rate (exclusive of PRA Wisconsin and excess and surplus lines business) based on the number of physician risks that renew with us is approximately 86% for the year ended December 31, 2007, as compared to 84% for the year ended December 31, 2006. Our charged rates for physicians that renewed during 2007 reflect a decrease of approximately 2.3%. Charged rates include the effects of filed rates, surcharges and discounts.
Premiums written for non-physician coverages represent 11% and 10% of our total gross written premiums for the years ended December 31, 2007 and 2006, respectively, and include premiums attributable to the PRA Wisconsin acquisition as follows:
The following table shows the effect of the above amounts on our premiums ceded for 2007 and 2006.
Net investment income is primarily derived from the interest income earned by our fixed maturity securities and also includes interest income from short-term, trading portfolio and cash equivalent investments, dividend income from equity securities, earnings from other investments and increases in the cash surrender value of business owned executive life insurance contracts. Investment fees and expenses are deducted from investment income.
The small decline in investment income from short term investments reflects lower average balances in 2007. Income from other invested assets is principally derived from non-public investment partnerships/limited liability companies accounted for on a cost basis. Because we recognize income related to these investments as it is distributed to us, our income from these holdings varies from period to period. Business owned life insurance is lower in 2007 due to a one time reduction in the growth of cash surrender values due to a restructuring of this portfolio.
Accident year refers to the accounting period in which the insured event becomes a liability of the insurer. For occurrence policies the insured event becomes a liability when the event takes place; for claims-made policies the insured event generally becomes a liability when the event is first reported to the insurer. We believe that measuring losses on an accident year basis is the most indicative measure of the underlying profitability of the premiums earned in that period since it associates policy premiums earned with the estimate of the losses incurred related to those policy premiums.
Our current accident year loss ratio has increased in 2007 as compared to 2006 for several reasons. We have booked higher initial loss ratios in the states in which PRA Wisconsin operates as we wait for the impact of our post acquisition rate filings in those states to take effect. The 2007 ratio is also impacted by an increase in our estimates for losses in excess of policy limits as compared to the prior year and an increase in the reserve for the death, disability and retirement provision (DDR) in our claims-made policies.
The increase in the underwriting expense ratio is primarily due to the effect of lower premium volume in 2007. The PRA Wisconsin acquisition has little effect on the underwriting expense ratio.
Net guaranty fund assessments totaled approximately $550,000 and $2.6 million for the years ended December 31, 2007 and 2006, respectively. The 2007 decrease reflects lower assessments during the year as well as a benefit of approximately $675,000 for amounts recouped from our insureds related to assessments from the Florida Insurance Guaranty Association, Inc. Guaranty Fund. Expenses for the years ended December 31, 2007 and 2006 included Florida assessments of $1.0 million and $2.3 million, respectively.
Our effective tax rate for each period is significantly lower than the 35% statutory rate because a considerable portion of our net investment income is tax-exempt. In 2007 our taxable income grew at a faster rate than did our tax-exempt income which increased our overall effective tax rate. The effect of tax-exempt income on our effective tax rate is shown in the table below: