Reinsurance: Meaning, Operations, and Practices

Introduction

• Channel Overview: Risk Management of Everything Channel provides videos on risk management.
• Video Focus: Understanding reinsurance - its meaning, operations, and practices.

What is Reinsurance?

• Definition: A risk transfer contract between an insurance company (reinsured) and a reinsurance company (reinsurer).
• Purpose: Reinsurer undertakes liabilities from the reinsured's primary insurance contract for a premium.
• Nature: Reinsurance is a form of insurance and a risk transfer mechanism.

Differences Between Insurance and Reinsurance Contracts

1. Parties Involved: Reinsurance involves insurers and reinsurers.
   • Retrocession: A reinsurer may re-insure insurance accepted under reinsurance contracts.
2. Subject Matter: Insured property or liability vs. contractual liability.
3. Indemnity: All reinsurance contracts, including life reinsurance, are contracts of indemnity.

Functions of Reinsurance

1. Capacity Relief: Allows larger insurance amounts.
2. Catastrophe Protection: Guards against large catastrophic losses.
3. Stabilization: Smoothens overall operating results.
4. Surplus Relief: Eases strain during premium growth.
5. Market Withdrawal/Entrance: Facilitates withdrawal or entrance into business lines.
6. Expertise and Experience: Offers underwriting information support.

Legal Principles of Reinsurance

• General Law of Contract: Applies to reinsurance contracts.
• Special Rules for Insurance Contracts: Include insurable interest, utmost good faith, and indemnity.
• Insurable Interest: Legal right to insure, must exist for both insurance and reinsurance contracts.
• Utmost Good Faith: Mandatory disclosure of material facts by both parties.

Terms of Reinsurance Contracts or Treaties

1. Parties: Seeding company and reinsurer.
2. Indemnity Arrangement: Standard form where reinsurer indemnifies the seeding company.
3. Defense Rights: Both parties can defend against claims.
4. Record Inspection: Reinsurer can inspect the seeding company’s records.
5. Choice of Law: Specified for dispute resolution.
6. Errors and Omissions Clause: Clerical errors do not void the contract.

Methods of Reinsurance

1. Proportional and Non-Proportional: Facultative and treaty basis.
2. Facultative Reinsurance: Optional; covers individual risks.
   • Advantages: Allows competition for large risks, maintains balanced portfolio.
   • Disadvantages: Information leakage, cumbersome administration.
3. Treaty Reinsurance: Overcomes facultative issues.
   • Quota Share Treaty: Shares gross retention proportionally.
   • Surplus Treaty: Accepts larger sums than gross retention.

Non-Proportional Reinsurance

1. Excess of Loss: Claims above a certain level paid by reinsurer.
2. Stop Loss: Protects against loss accumulations.

Conclusion

• Reinsurance: A complex risk transfer mechanism essential in modern insurance practices.
• Benefits: Provides stability, capacity, and protection against large losses.

Note: This video aims to educate viewers on reinsurance fundamentals. Feedback is encouraged in the comments section.