Reinsurance program example

Property reinsurance program

The insurer’s property reinsurance program provides two types of reinsurance:

• Reinsurance up to $5 million per risk for all the policies that have coverables in the property reinsurance coverage group.
• Reinsurance against losses incurred on a per risk basis for all policies that have coverables in the property reinsurance coverage group from $5 million to $10 million.

The property reinsurance program contains three treaties:

Property Treaty	Description
Treaty Three: Excess of Loss	Provides reinsurance on losses from $5 million to $10 million.
Treaty Two: Proportional	Provides reinsurance based on policy risk from $1 million to $5 million.
Treaty One: Proportional	Provides reinsurance based on policy risk up to $1 million.

This property program enables the insurer to take in more business below $5 million than it had in the past. The insurer can take in more business because the insurer shares the risk of loss payments with two other reinsurers under Treaty One and Treaty Two.

Treaty Three enables the insurer to expand into a higher risk, more lucrative market. Before adding Treaty Three, the insurer could not afford the risk of insuring losses above $5 million. The insurer finds it attractive to include Treaty Three in its property program because losses above $5 million occur infrequently. The insurer can enjoy the net income generated by the larger policy premiums while paying a relatively low premium to cover these rarer loss types.

Liability reinsurance program

The liability reinsurance program provides the insurer reinsurance at the policy line level. Treaty Four is written to cover overall liability risks up to $20 million, and Treaty Five is written to cover the risk layer from $20 million to $50 million. This type of program allows the insurer to insure higher risk locations by reinsuring the rarer large liability losses without ceding premiums.

Liability Treaty	Description
Treaty Five: Excess of Loss	Provides reinsurance based on policy risk from $20 million to $50 million.
Treaty Four: Proportional	Provides reinsurance based on policy risk up to $20 million.

A commercial property policy holder suffers a loss on a building at one location and another loss at a building in a different location. Each building is a coverable. The risk associated with each building is calculated based on the sum of all coverables at its location, which is otherwise known as a location group.

The total insured value of the risk is used to decide which treaties share in a loss against any of the coverables in the risk. The loss amount is used to determine the actual percentage by which each of the applied treaties shares in the loss.

For example, the policy holder has a Location One with a total insured value of $8 million. When the policy is drawn up, Treaty One, Treaty Two, and Treaty Three from the insurer’s property program are attached to this policy risk. These treaties are attached because these policies fall within the risk amount covered by these treaties. But Treaty Three only applies up to $8 million. This program is described in Reinsurance program example: risk and loss in treaty composition.

The policy holder then suffers a $6  million loss at Location One. Treaties One and Two share in this loss from zero, and their share is calculated by multiplying their percentage of loss multiplied by the amount that they reinsure. This share is then divided by the total insured value. Treaty Three pays a simple $1 million.

Then the policy holder suffers a loss of $500,000 on a single building at Location Two, which has two buildings with a total insured value of $4 million. Since the total risk is $4 million, the insurer uses only Treaty One and Treaty Two to recover loss from the reinsurers. The proportion that the two reinsurers share in the loss is otherwise known as the proportional share. The proportional share is based on the total insured value, not the amount of a specific loss. In general, a proportional agreement gets x% of the gross net premium to cover x% of the gross net losses, no matter the size of the loss. Detailed examples of proportion determination are provided in Proportional treaties.

The policy holder in our example has a liability risk over their two locations of $15 million. When the policy holder suffers loss due to building damage at Location One, several persons suffer physical harm. At a later date, the building at Location Two incurs damage, and people at that building also undergo physical harm.

In both these cases, only Treaty Four from the liability reinsurance program applies. Additionally, the proportion in which each reinsurer participates is calculated solely on the basis of the current loss at each location.

This example draws upon the property example Reinsurance program example: risks and coverables when applying program treaties to a loss. In that example, Treaty One and Treaty Two share with the insurer in any loss beginning from zero on any risk that falls within their covered risk amount. For example, the insurer recovers from both Treaty One and Treaty Two on any property risk with a total insured value of $1.5 million.

The insurer recovers from Treaty Three only when the following are both true:

• There is a claim against a policy risk that has a total insured value greater than $5 million
• The loss is greater than $5 million.

The insurer can recover only up to the smaller of the total insured value or $10 million.

In short, all of the insurer’s policies attach to the treaties in this property reinsurance program as follows:

• Treaty One covers all policies with property risks that have total insured value up to $1 million.
• Treaties One and Two cover all policies with property risks that have a total insured value up to $5 million.
• All three treaties cover all policies with property risks that have a total insured value more than $5 million. While Treaties One and Two begin to apply from the first dollar on any loss, Treaty Three begins to apply only when the loss is greater than $5 million. The maximum loss coverage provided by Treaty Three is $10 million.

The liability program and its treaties attach to policies in a similar manner:

• Treaty Four covers all policies with liability risks that have a total insured value up to $20 million.
• Treaties Four and Five cover all policies with liability risks that have a total insured value on proper risk up to $50  million.

Policies can attach to the programs and treaties in various ways:

• Some policies only attach to the property program. A policy attaches only to those treaties that fall within the monetary range of its risk. So for some policies this will be only Treaty One. For others it will be Treaty One and Treaty Two. For yet others it will be Treaty One, Treaty Two, and Treaty Three.
• Some policies only attach to the liability program, but a policy will attach only to those treaties that fall within the monetary range of its risk. So for some this will be only Treaty Four, and for others it will be Treaty Four and Treaty Five.
• Some policies attach to both programs, but a policy only attaches to those treaties that fall within the monetary range of its risk in each program. For example, a policy might attach only to Treaty One in the property reinsurance program, but attach to both Treaties Four and Five in the liability reinsurance program.