In 1984, the property-casualty insurance industry experienced its worst year since the San Francisco earthquake in 1906. It is expected to do only marginally better this year before rebounding in 1986.

The industry suffered a net pretax loss of $3.6 billion, meaning that for only the second time in more than three-quarters of a century, the income earned on investments was not sufficient to make up for loses on underwriting. Earnings in 1983 amounted to $6 billion.

"The industry is in dire straits," said a spokesman for the Alliance of American Insurers, a trade group representing property-casualty underwriters. "That does not mean we are going broke or going out of business, but it does mean insurers will be cautious about expanding risk."

According to the Insurance Information Institute, investment income totaled a record $17.3 billion in 1984. Yet, underwriting losses amounted to $21 billion, an increase of 58 percent over 1983's $13.3 billion loss. That breaks down into $2.3 billion in dividends paid to policyholders and $18.7 billion of net claims. Last year's weather was the third worst in history for insurers; hurricanes and other natural catastrophes amounted to more than $1.5 billion in claims.

Best's, which monitors the industry, estimates it is 10 to 20 percent underreserved, meaning that not enough reserves have been set aside to cover claims. Moreover, surpluses -- assets minus liabilities, which serve to cushion losses and protect policyholders -- shrank by $5.6 billion last year to $60 billion.

Underwriting losses, especially in commercial lines where competition is most fierce, have increased for the past six years. In mid-1984, the industry belatedly began raising rates to cover anticipated losses. Some commercial casualty rates went up by 20 to 25 percent, while profitable personal lines -- such as homeowner's, which had been raised previously -- showed little or no increase. Rate increases averaged less than 10 percent.

But they will escalate this year, according to Michael Lewis, an insurance analyst for the E. F. Hutton Group Inc. At the same time, the industry will continue to constrict, dropping certain lines of business and laying off personnel. Lewis points to a 20 percent decrease in agents and predicts business will be down 7 to 9 percent in 1985. There will be "some modest underwriting improvements and operating results," he said. "After a poor first half, the second half will improve, to be followed by a significant increase in 1986."

Meanwhile, observers expect some insolvencies in 1985. One factor affecting this year's earnings could be a multimillion-dollar settlement by Union Carbide or court judgments against the chemical company in connection with the Bhopal, India, tragedy.

Another factor is proposed tax reform. The Treasury wants to change the method of taxing insurance companies. Henceforth, it would discount loss reserves, eliminate protection against loss accounts, reduce the policyholder dividend deduction for mutual companies and eliminate small mutual company provisions. The Treasury estimates that these changes will add about $16 billion to revenues over the next five years.

That amounts to an average annual increase of $3 billion in taxes. For the many companies that had no profits last year, the money would have to come from surpluses or from rate increases. Stephen A. Broadie of the Alliance of American Insurers said that would mean a 3 percent annual increase for the $100 billion a year property-casualty business. Increases would occur primarily on long-term lines such as worker's compensation and general liability, rather than on short-term policies such as homeowner's and automobile-collision.

Other Treasury proposals affecting the industry are taxation of worker's compensation, employer-provided fringe benefits and municipal bonds. Some employes would elect to forego fringe benefits rather than pay taxes on them, thus raising the cost of coverage for others. And insurance companies, which hold 20 percent of tax-free bonds issued, would feel compelled to switch to higher yielding investments.

In addition to fighting what it considers adverse new taxes, the property-casualty industry may be occupied with other battles on Capitol Hill this year. A prime cause is related to reauthorization of the Environmental Protection Agency Superfund, used for cleaning up toxic waste dumps. Insurers will oppose attempts to expand the Superfund to include a federal cause-of-action clause permitting litigants to sue in federal as well as in state courts, because there is more expense involved at the federal level. The insurance industry also opposes a victim's compensation provision.

The highly charged issue of unisex insurance is expected to resound in the marble halls once again this year. The insurance industry, which maintains that eliminating sex as a basis for determining insurance rates raises costs, will rally again in opposition. It also will try to stop any attempts by the House Judiciary committee to change the McCarran-Ferguson Act, which allows the insurance industry to continue to be regulated by the states and not the federal government.

Finally, the alliance will try to hold the line against the crumbling wall separating the various segments of the financial services industry.

But what the Senate has declined to do as too controversial, other regulators have not hesitated to approve. The Federal Deposit Insurance Corp. issued guidelines for state-chartered banks to enter the insurance business through subsidiaries. And New York's governor also proposed allowing state banks in insurance.

Since Congress failed to pass legislation closing the so-called South Dakota loophole in banking laws, BankAmerica Corp. has revived its application to the Federal Reserve to establish a state bank in South Dakota that could sell and underwrite insurance in every other state.

Nevertheless, some accommodation may be possible. The property-casualty alliance is willing to allow banks into its field provided they play by the same rules: no tie-in sales, same regulation and accounting, and no use of inherent advantages, such as FDIC insurance to subsidize activities.

As C. Todd Conover, the Comptroller of the Currency and a deregulation advocate said recently, "Small banks want to get into insurance and real estate because they think they can serve their communities better. And insurance companies with fewer agents need the added volume banks can provide" by giving agents space where walk-in traffic is heavy. "Joint ventures to distribute insurance could be mutually beneficial."