It has been observed that one of the major hazards facing an Insurance company is the risk of catastrophe. The solution to this risk is to transfer or spread part of the risks by means of Reinsurance. Reinsurance is very important as it serves as a means of enhancing financial security of Insurers within the insurance industry. And this answers the question, do insurance companies get insurance?. we shall offer more details in this article.
MEANING OF REINSURANCE
Reinsurance is an arrangement whereby an Insurance company purchase Insurance Policy from another insurance company. The aim is to insulate itself from the risks of a major claims event. With this, the original insurance company transfers or cedes part or all of it insurance liabilities to the other insurance company (the reinsurer).
The company that transfers a portion or all of its risk is the Ceding Company or Cedant. While the company purchasing or issuing the reinsurance policy is called the Reinsurer.
One major advantage of reinsurance policy is that it allows insurance companies to remain solvent after major claim event. For instance, such as major disaster like hurricane and wildfires
Reinsurance is also a way through which insurance companies reduce its heavy obligations by transferring or ceding part of its commitment or liabilities to other insurance companies otherwise known as the Reinsurers.
Flowing from the above, as Insurers purchase insurance policies in respect of their properties and assets from insurance companies, the insurance companies also insure themselves in other insurance companies with respect to the liabilities and claims of the original policyholders.
The original insured persons or policy holders are not involved in reinsurance contracts. When the ceding company transfers risks, an entirely new contract is created between the policyholder Insurer and the Reinsurance Reinsurer. It therefore means that reinsurance contract do not have direct connection with insurance contracts.
TYPES OF RE-INSURANCE.
There are two types of reinsurance
- Facultative and
- Treaty Reinsurance
Facultative Reinsurance:
- In facultative re-insurance, the original Insurer covers one risk or series of risks held in its own books. The reinsurer can review the risks involved in an insurance policy and either accept or reject them. Facultative reinsurance is usually the simplest way for the insurer to obtain reinsurance protections. It is usually purchased by an insurer for the simple risks or a defined package of risks usually a one- off transaction. It occurs whenever the reinsurance company insists on performing its own indemnity for some or all the policy which is a subject of reinsurance. Under these agreements, each facultative Underwriter policy is a single transaction. And not therefore not together by class. Such reinsurance contracts are usually less attractive to the ceding company, which may be forced to retain only the most risky policies.
For instance, if an Insurer issues a policy of risk coverage of about $40,000,000 in respect of a large building, which means that such Insurer faces a potential liability of $40,000,000 if the building sustains damage. But it is the believe of the original insurer that it cannot afford to pay out more than $20,000,000 and in consequence and before agreeing to issue a policy for the $40,000,000, he must look out for facultative reinsurance that would take the remaining $20,000,000, and without getting such Reinsurer, it cannot agree to issue the policy covering the whole of $40,000,000 since it cannot afford such insurance liability.
TYPES OF FACULTATIVE REINSURANCE
The under listed are types of facultative reinsurance;
- Pro rata
- Excess of loss
- Facultative property reinsurance
- Facultative casualty reinsurance
PRO RATA
here, the Ceding Company and the Reinsurer share premium and applicable losses on certain risks in an agreed percentage
EXCESS OF LOSS:
this class requires a thorough analysis of severity of a potential loss. The ceding company selects a loss level compatible with net and treaty guidelines and uses it as its retention. The facultative Reinsurer makes provision for a limit of reinsurance in excess of its retention.
FACULTATIVE PROPERTY
this class of covers varied lines and categories of property businesses which maybe, standard lines, technical risks and excess and surplus lines
FACULTATIVE CASUALTY
This type covers areas such as general liability, personal/ commercial automobile, Employers’ liability etc.
ADVANTAGES OF FACULTATIVE REINSURANCE
- It affords the ceding company the opportunity to pick and choose as to which risks are to be reinsured and which risks it can retain.
- It equally affords reinsurers the opportunity o apply underwriting judgment on case by case basis and may accept or reject.
DISADVANTAGES OF FACULTATIVE
- It is more expensive to obtain cover when compared to treaty reinsurance
- The procedure in obtaining coverage can be cumbersome and inconveniencing
- There exists an insecurity on the part of the prospered insured during the period required to arrange facultative reinsurance cover as any damage may occur during such period and may lead to business loss to a competitor with a treaty coverage.
. TREATY REINSURANCE
This is a type in which the original Insurer/ the Ceding company makes an agreement to cede certain classes of business to a Reinsurer who by an agreement agrees to accept all businesses mentioned under the agreement known as “treaty”. The ceding company is enjoys coverage of all the risks falling within the terms of the treaty and in accordance with the terms therein.
TYPES OF TREATY REINSURANCE
They are five major types of treaty reinsurance and they are:
- Quota share treaty reinsurance
- Surplus treaty
- Excess of loss treaty
- Excess of loss ratio treaty
- Pools treaty
QUOTA SHARE TREATY :
This type requires the original insurer to cede a predetermined proportion of all its business accepted in a certain class to the reinsurer (s) and the reinsured also agrees to accept that proportion in return for a corresponding proportion of the premium.
SURPLUS TREATY
Here, the original insurer agrees to insure only the surplus amount and the reinsurers agree to accept such cessions and usually up to a predetermined limit.
EXCESS OF LOSS TREATY
Here, the insurer makes first decision as to the amount of loss it can bear under a particular class of business. It is in a manner that if a loss exceeds the earlier pre-determinable amount, the reinsurer will not be liable to pay anything if the level of loss falls below the predetermine limit.
POOLS TREATY
In this type, numerous member companies come together for the purpose of sharing each other’s premium as well as the claims.
These pools most times usually operate in respect of hazardous classes of businesses. Or in a situation where the market is weak to absorb the risks and in the circumstance, such pools providing mutual support become very useful.
ADVANTAGE OF TREATY REINSURANCE
It gives the ceding company more security for its equity and more stability when unusual or major events occur.
