Question

Reinsurance can be used by an insurer to solve several problems. Assume you are an insurance consultant who is asked to give recommendations concerning the type of reinsurance plan or arrangement to use. For each of the following situations, indicate the type of reinsurance plan or arrangement that the ceding insurer should use, and explain the reasons for your answer. Answer at least 2 of the following: a.Company A is an established insurer and is primarily interested in having protection against a catastrophic loss arising out of a single occurrence. b.Company B is a rapidly growing new company and desires a plan of reinsurance that will reduce the drain on its surplus because of the expense of writing a large volume of new business. c.Company C has received an application to write a $50 million life insurance policy on the life of the chief executive officer of a major corporation. Before the policy is issued, the underwriter wants to make certain that adequate reinsurance is available. d.Company D would like to increase its underwriting capacity to underwrite new business.

Answer 1

a.         An excess-of-loss treaty can be used to provide protection against a catastrophic loss. The reinsurer pays losses in excess of the retention limit up to some maximum limit. The excess-of-loss treaty can be written to cover a single exposure, or it can apply to a single occurrence, such as a catastrophic loss from a tornado or hurricane.

b.         A quota share treaty can be used. The ceding company and reinsurer agree to share premiums and losses based on some proportion. The ceding company’s retention limit is stated as a percentage rather than as a dollar amount. Premiums and losses are then shared based on this percentage. However, the reinsurer pays a ceding commission to the primary company to help compensate for the first-year acquisition expenses in writing the business.

The major advantage of quota-share reinsurance is that the unearned premium reserve is reduced. Thus, for smaller companies and rapidly growing companies that wish to reduce a surplus drain, a quota-share treaty can be especially effective.

c.         Facultative reinsurance can be used. The primary company shops around for reinsurance before the life insurance policy becomes effective. If a willing reinsurer can be found, the primary company and reinsurer can then enter into a valid contract. The reinsurer would be responsible for the amount of loss that exceeds the primary company’s underwriting limit.

d.         A surplus-share treaty can be used to increase the primary company’s underwriting capacity. An example of surplus-share reinsurance can be found in Chapter 6 of the text.

Answer 2

a. Company A is an established insurer and is primarily interested in having protection against a cata strophic loss arising out of a single occurrence.