RI Accounting for Proportional Treaties

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RI Accounting for Proportional Treaties

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Title: RI Accounting for Proportional Treaties

1
RI Accounting forProportional Treaties

Mrs. Achala Nayak
Director
J B Boda Co (S) PTE LTD.,
Singapore

2
What is Reinsurance?

It is a Risk Transfer from an Insurance Company.
It is Insurance of Insurance
An Insurance Company pays Premium to Reinsurance
for the Risk Transfer.
A Reinsurance Company pays Losses to the
Insurance Company.
All these transactions are in a pre-decided
proportion.

3
What is Retention?

Retention is an amount,
an insurance company is willing
to risk for its own account
from a single loss

4
Why Reinsurance ?

An Insurance Company has its own limitations to
write business, linked to
Its Capital and Free Reserves.
Size of the Risk, its Occupation Premium
Accumulation of RisksPremium.
Profitability of Portfolio
Reinsurance Programme used
Market Forces and Reinsurance Capacity available
Such factors influence an Insurer to limit its
own retention and to effect Reinsurance

5
Methods of Reinsurance

NON PROPORTIONAL
Facultative
(single risk)
Treaty (Contracts)
(multiple risks)
?Risk XOL.
?Catastrophe XOL.
?Stop Loss XOL

PROPORTIONAL
Facultative
(single risk)
Treaty
(multiple risks)
?Quota Share.
?Surplus
?Fac. / Obligatory.
?Open Covers

6
Facultative RI

Characteristics
Similar to co-insurance
Simplest and oldest method
Optional i.e. free choice to decide
Single risk method
Full disclosure of all facts.
Follows all original policy conditions

7
Facultative RI

Advantages
In case of a small portfolio, where Treaty is
unattractive
Where risk is outside the scope of the Treaty -
e.g. excluded class or Geographic Scope
Where S I exceeds the Treaty Limit
Expertise and capacity of big reinsurance can be
used,
Where the risk is hazardous and might destabilise
the Treaty

8
Facultative RI

Disadvantages
Full disclosure of the material facts.
Delay in seeking support.
High administrative costs in negotiation and
administration.
Lower rates of commission.
No Profit Commission.
Risk of overlooking the renewal placement.
Negotiation procedure to be adopted at each
renewal

9
Premium and Loss Distribution in Facultative RI
10
Accounts for Facultative

Since Fac RI is a single risk transaction,
rendering of statement of premium Claims known
as Closing is on individual basis.
At times there is PPW the Cedant and the Broker
must adhere to it.
Closing must follow within a reasonable time
after the signed line is advised and certainly
before the expiry of the PPW. If for any reason,
there is a delay, Reinsurers permission needs to
be taken for extension of PPW.

11
Accounts for Facultative
12
Accounts for Facultative

As regards Facultative Claims
Each claim is Cash Claim, in so far the approval
of the reinsurer is concerned.
Irrespective of the amount of the claim, they
should not be adjusted in the remittance
statement without obtaining concurrence of the
reinsurer.
The Facultative claim advice will contain

13
What is a Treaty?

It is a contract / agreement
Gives automatic and continuous Capacity to an
Insurance Company.
Predefined Scope for
Period
Class / Classes of business
Retention and Cession limit under treaty
Geographical Scope
Also exclusions are specified.

14
Quota Share Treaty

Characteristics
Obligatory in nature.
Retention and cession on every risk
Operates on fixed percentage basis.
Meaningful retention required
Advantages
Simple form easy to operate and administer.
Works like a partnership Useful for a new
company or for a new class of business, where the
results of business are unpredictable.
Useful for reciprocal exchange.
Disadvantages
Inflexible method of RI (unless VQS). Fixed
percentage of premium on each ceded risk forces
large outflow of Premium.
Fails to reduce incurred claims ratio on the
retained account.
Capacity offered is limited.

15
How does a QS treaty Work?
Every Risk to be Ceded
Risk SI 100,000 Premium 20,000 Loss 25,000
Cedant
Reinsurer
Retains fully 100,000 Premium 20,000 Loss
25,000 Net balance (5,000)
If No Treaty
Retains 50 50,000 Premium 10,000 At 30
rate Gets Comm. of 3,000 Retains Loss 12,500 Net
balance 500
50 QS cession 50,000 Premium 10,000 Pays Comm
of 3,000 Loss 12,500 Net balance 5,500
16
Quota Share Treaty Cession
17
Surplus Treaty

Characteristics
Obligatory in nature.
Cession of policies, where SI exceeds the gross
retention.
Hence retention on every policy, but cession may
not be on every policy (Like QS).
Placed in terms of lines (not in like QS)
Capacity Treaty, as capacity can be stretched
through number of lines through creation of
first, second and third surplus treaties.

18
Uses of Surplus Treaty

To handle large risks.
Simple and small risks well within the retention
capacity can be fully retained.
Higher retained portfolio generated through
retained premium premium reserves.
Higher underwriting capacity.
Besides receives Profit Commission, if treaty
produces profitable results.
Useful for reciprocal trading.

19
How does a Surplus Treaty Work?

Capacity expressed in Lines (Times of Retention).
If retention is say 100,000 and the Surplus
Treaty is of 10 lines, then the Capacity is
1,000,000.
Since it is a Surplus Treaty, the Reinsured will
retain all risks up to SI of 100,000 and cede the
balance to the Surplus Treaty.
Therefore every risk will not go to the Surplus
Treaty Reinsure.

20
Surplus Treaty Risks Distribution
21
QS Surplus Treaties Cessions
22
Distribution of Risk over QS Surplus Treaties
23
Distribution of Risk over QS Surplus Treaties
24
Risk Distribution over an RI Programme
QS Maximum 100 limit Rs. 500 QS Maximum 100 limit Rs. 500 QS Maximum 100 limit Rs. 500 QS Maximum 100 limit Rs. 500 QS Maximum 100 limit Rs. 500
Retention 40 and Cession 60 Retention 40 and Cession 60 Retention 40 and Cession 60 Retention 40 and Cession 60 Retention 40 and Cession 60
1st Surplus of 8 line and 2nd Surplus of 8 lines 1st Surplus of 8 line and 2nd Surplus of 8 lines 1st Surplus of 8 line and 2nd Surplus of 8 lines 1st Surplus of 8 line and 2nd Surplus of 8 lines 1st Surplus of 8 line and 2nd Surplus of 8 lines
TSI Premium Loss
Risk details 10,000 2,000 4,000
QS Retention 200 2 40 80
QS Cession 300 3 60 120
1st Surplus 4,000 40 800 1,600
2nd Surplus 4,000 40 800 1,600
Facultative 1,500 15 300 600
Total 10,000 100 2,000 4,000

25
Why do we require RI A/c ?

U/W and A/C are inextricably related.
They are two sides of the same coin.
Together they determine the financial performance
of the Reinsured and the Reinsurer.
A Statement of Account (SOA) is summary of
Ceding Companies transactions of
Premiums and Claims,
For a Class of business,
For a Period of time.

26
Why do we require RI A/c ?

Because
They are the records of transactions between the
parties to an RI Contract.
Information contained in the RI A/c is required
by the Reinsurer to enable it to prepare
A/c for its own retro-cessionaries.
Financial A/c (i.e. Profit Loss, Balance Sheet)
and to file returns to the Regulator.
Provide data for assessment of technical reserves
(i.e. unearned premium and O/S loss) and for
preparation of underwriting statistics
evaluation of each treaty.

27
Premium Bordereaux

Purpose
To record each cession of premium to the
reinsurance treaties so that
premiums can be allocated easily to reinsurance
there is a convenient list of cessions that can
be used as the basis for allocating claims
statistics may be compiled easily
reinsurers are aware of the type of business that
they are accepting.

28
Premium Bordereaux

Class e.g. fire, accident, etc..
Month a bordereau should be prepared for each
month.
Page number to ensure that pages are not
misplaced if the bordereau for a month runs onto
more than one page.
Date date of preparation of bordereau.
Reinsurer to identify the reinsurer to whom the
bordereau is to be sent.
Reinsurers share for the reinsurers reference.

29
Premium Bordereaux

Cession number so that each cession to
reinsurance can be identified a sequential number
is allocated.
Policy number.
Name of insured.
Effective date date of commencement of policy,
renewal date or date of endorsement, alteration,
etc.
Expiry date date of termination, etc. of policy.
Type type of premium (e.g., 1 - renewal 2 -
new 3 - endorsement 4 - cancellation etc.)
Building use of building, e.g., dwelling, farm,
office, etc.
Sums insured and premiums

30
Claims Bordereaux

Purpose
To record each claim to be recovered from the
reinsurance treaties so that
claims can be recovered correctly from
reinsurers
statistics may be compiled easily
reinsurers are aware of the losses they are being
asked to pay and can establish adequate reserves.

31
Claims Bordereaux

Class e.g., fire, accident, etc.
Month a bordereau should be prepared for each
month.
Page number to ensure that pages are not
misplaced if the bordereau for a month runs onto
more than one page.
Date date of preparation of bordereau.
Reinsurer to identify the reinsurer to whom the
bordereau is to be sent.
Reinsurers share for the reinsurers reference

32
Claims Bordereaux

Policy number.
Cession number so that each cession to
reinsurance can be identified a sequential number
is allocated.
Name of insured.
Claim number.
Date of loss so that the loss can be allocated
to the correct years reinsurers.
Type of loss theft, fire, etc.
Payment to identify multiple part payments of a
loss. The column should be completed with
first, second, etc., and, when a final
payment is made final should be entered so that
reinsurers will know that they can close their
file on the loss.

33
Claims Bordereaux

Gross loss the amount of the payment to the
insured (or third party) by the company.
Gross expenses the amount of additional expenses
incurred in settling the claim, for example loss
adjusters fees.
Total loss and expenses the sum of columns 8 and
9.
Retained loss the amount of the loss that falls
to the company after recoveries from reinsurance.
Losses ceded the amounts to be recovered from
various reinsurance arrangements.

34
Loss Notification

SHOULD BE ON COMPANY LETTER-HEAD, MENTION DATE,
TREATY NAME U/W YR
The details of the loss are as follow
Insured ________________________________________
___
Policy number __________________________________
_________
Policy period __________________________________
_________
Claim number ___________________________________
________
Date of loss ___________________________________
________
Cause of loss __________________________________
_________
Circumstances of loss __________________________
_________________
___________________________________________
Estimated gross loss ___________________________
________________
Estimated treaty loss (100) ___________________
___________________
It is/is not expected that a cash loss settlement
will be requested in respect of this claim. We
will keep you informed of all developments
regarding this claim.

35
Cash Loss (CL)

To enable immediate recovery of very large
losses.
If CL Limit is 1,000,000, a loss recovery of more
than 1,000,000 becomes eligible for immediate
Cash Call.
CL settlement by Reinsurer is kept in suspense
A/c which is squared off when that particular
loss is included Paid Claims of statement of
account CL Credit is given to reinsurers who
have paid the claim.

36
Submission of SOA

At regular intervals, a
treaty account
will be dispatched to all reinsurers. The
account will contain technical and financial
items and forms a statement of amounts due to or
from the reinsurer.

37
SOA will usually have following debit and credit
items

Debited to Reinsurers
Ceding Commission.
Tax on Premium.
PR retained.
LR retained.
Paid Claims.
P P/F Withdrawal.
L P/F Withdrawal.
Profit Commission.

Credited to Reinsurers
Premiums net of returns and cancellations.
PR Released.
LR Released.
Interest on Reserves.
P P/F incoming.
L P/F incoming.
Refund on Cash Loss

38
Company Letter Head U/W Year 2009 Quarter
3rd Q Treaty Name Quarter Period 1.7.09 to
30.9.2009
Date
QUARTERLY STATEMENT DEBIT CREDIT
PREMIUMS RECEIVED - RETURNED 50,000
COMMISSION _at_ 30 15,000
REINSURANCE TAX _at_ 5 2,500
CLAIMS PAID LESS RECOVERIES 15,000
PREMIUM RESERVE RETAINED _at_ 35 17,500
PREMIUM RESERVE RELEASED (PREV Q) 20,000
INTEREST ON PR RELEASED 200
BALANCE 20,200
TOTAL 70,200 70,200
BALANCE BROUGHT FORWARD 20,200
J B BODA SHARE 30
Net payable
EAGLE REINSURANCE CO 10.00 2,020
SPARROW REINSURANCE CO 15.00 3,030
PARROT REINSURANCE CO 5.00 1,010
TOTAL 30.00 6,060
39
Periodicity of rendering Accounts

Accounts can be rendered on Quarterly,
Half-yearly basis.
Traditionally Quarterly system is used and is
more desirable for Reinsurers as accounts
prepared on longer duration delay receipt of
premium also delay submission of information.

40
Commission

Consideration to meet actual net acquisition
cost, excluding salaries of staff.
An agreed of Premium, paid by the Reinsurer to
the Reinsured.
Influencing factors
1. Type of Treaty.
2. Class of business.
3. Country.
4. Results.
Usually uniform to all participants.
May differ for reciprocity.

41
Commission

Usually three methods employed
Flat Percentage method.
Flat Percentage plus Additional Percentage.
Sliding Scale method.

42
Flat Commission

This is the simple and most commonly used method.
The percentage of commission is defined in the
treaty slip, say 35. This percentage is to be
applied to the gross or net premium, accounted in
that Quarter (as defined in the terms) to arrive
at the commission.
Gross Accounted Premium 1,000 X 35 350
commission.

43
Flat Additional Commission

This is rather uncommon method.
A fixed percentage of commission is guaranteed.
Besides, depending on the loss ratio, at the end
of the year additional commission is payable to
the Cedant.
Example commission 30 2 ½ is LR below 60.

44
S/S Commission

Sliding Scale method ensures that the actual rate
payable is directly related to the loss ratio.
Which means more commission in good years and
lower commission in bad years.
Key factors
Payment of provisional commission.
Calculation of loss ratio.
The Sliding Scale of Commission table.
Minimum and Maximum rate of commission payable.
Payment of actual commission due.

45
S/S Commission

Provisional Commission
Unless loss ratios are known, the actual
commission can not be determined. Hence
provisional (interim) commission payable. Usually
this is fixed mid-way between the minimum and
maximum rate.
Minimum rate is 25
Maximum rate is 35
Provisional Commission will be 30. This is
considered equitable as neither party can
pre-judge the final result of the treaty.

46
S/S Commission

Calculation of Loss Ratio will depend on method
of accounting whether Underwriting year or
Accounting Year.
For underwriting year method of accounting it is
unusual to have S/S commission e.g. Engineering,
Marine and Aviation business because these
years take many years to fully develop.
Reward for profit are dealt with through Profit
Commission.

47
Calculation of L/R for S/S commissionrun-off
Treaties

Loss ratio, being calculated at various points in
development of one u/w year, will keep on
changing until all liabilities expire. The rate
of commission directly related to loss ratio, the
actual level of commission payable to the Cedant
will fluctuate and adjustments will have to be
done accordingly. Amount of administrative work
involved in this calculation is enormous.

48
S/S Commission Table

As per practice, the treaty terms would include a
detailed scale of commission payable related to
actual loss ratio.
To determine the actual rate of commission
payable all that is necessary is to select the
appropriate rate from the scale.
Example Loss Ratio 52.8 Commission 28.50
Loss Ratio 66.60 Commission
21.50
Loss Ratio 78.20 Commission
15.50

49
S/S Commission- Min Max Rates

The S/S commission will have a min rate and a max
rate.
The min rate reflects the least amount of
commission that the Cedant requires to take care
of its acquisition costs.
The max rate reflects the highest amount of
commission the Reinsurer is willing to give.
S/S commission itself includes the rewards for
profitability, hence it is not usual to encounter
the S/S commission and the PC in the same treaty,
although it may happen in practice.

50
Calculation of L/R for S/S commission

Formula used (U/W year based treaties)
Incurred Loss X 100
Earned Premium

Incurred Loss Losses Paid during the year O/S at the end of the year Reserve for O/S loss at the end. (LR) - Return Reserve for O/S Loss from the previous year. (RLR)
Earned Premium Premiums Ceded for the year (P) Return reserves for unearned premium from previous year (RPR) - Reserve for unearned premium (PR)
51
Calculation of L/R for S/S commission

Formula used (Clean Cut Treaties)
Incurred Loss X 100
Earned Premium

Incurred Loss Losses Paid / debited during the year Incoming loss portfolio transfer Outgoing loss portfolio transfer
Earned Premium Gross Premiums Ceded during the year Incoming Premium Portfolio - Outgoing Premium Portfolio
52
Calculation of L/R for S/S commissionClean-cut
Treaties

Portfolio Premium and Losses apply at the
beginning and at the end of the year, regardless
of Reinsurers share is new, increase, reduced or
cancelled. Formula as follows

Incurred Losses Losses Paid for the year P/F losses withdrawn at the end - P/F Losses assumed at the beginning
Earned Premium Premium ceded for the year P/F Premiums assumed at the beginning - P/F Premiums withdrawn at the end
53
Final adjustment of S/S Commission

Until the loss ratio is known, provisional
commission is paid. Adjustment is done at the end
of the year.
Assuming S/S Comm is 27.50 to 37.50 with
provisional commission of 30 adjustment as
follows

1st Q Premium 40,000 Provisional _at_ 30 12,000
2nd Q Premium 50,000 Provisional _at_ 30 15,000
3rd Q Premium 60,000 Provisional _at_ 30 18,000
4th Q Premium 30,000 Provisional _at_ 30 9,000
Total 180,000 54,000
Actual Commission due from L/R calculation _at_ 32.50 applicable to 180,000 Actual Commission due from L/R calculation _at_ 32.50 applicable to 180,000 Actual Commission due from L/R calculation _at_ 32.50 applicable to 180,000 58,500
Adjustment commission due to Ceding Co. Adjustment commission due to Ceding Co. Adjustment commission due to Ceding Co. 4,500
54
Overriding Commission

In Retrocession Treaties Commission will
include Original Commission Profit Commission
Brokerage in addition to this an Overriding
Commission will be charged.
Sometimes in highly profitable very well
balanced treaties O/R commission is given.?
Usually ranges between 2 to 5.

55
Profit Commission (PC)

PC is the reward given to the reinsured for
providing profitable business, by the reinsurer.
Amounts to sharing of profits of a particular
treaty.
Payable in addition to commission.
Applicable to Proportional treaties and rarely
seen on Non Proportional Treaties or Facultative
business.

56
Profit Commission (PC)

The simplest definition of Profit is Income less
Expenses.
The profitability of a reinsurance contract is
also determined using the same formula. The items
which will appear under the heading Income and
Expenses need to be seen carefully and they are
explained as follows

57
Profit Commission (PC)

Commission on Profit paid by the Reinsurers to
the Reinsured as per a formula.
Income
1. Written Premium
2. P/F Premium Loss Entry.
Outgo
1. Commission, O/R, Tax.
2. Paid Losses.
3. P/F Premium Loss Withdrawal.
4. Management Expenses.
After deducting L c/f, PC to be applied on
balance.

58
Profit Commission (PC)

Management expenses are not an accounting item.
It is a notional deduction in the PC statement
allowing Reinsurers own expenses. This is to be
calculated on the Gross Premium at the rate
prescribed in PC formula.
Brokerage is not included in the outgo. Because
it does not appear in the Ceding Companys
original accounts.

59
Profit Commission (PC)

Income
P/F Premium
P/F Loss Entry.
Original Gross Premiums included in the accounts
for the current year.

Outgo
Commission.
Any other deductions.
Paid Losses Loss expenses.
P/F Premium withdrawal.
P/F Loss withdrawal.
Reinsurers Management Expenses.

60
Profit Commission (PC)

Any Premium Loss recoveries under reinsurances
which inure to the benefit of the Agreement are
to be taken into account.
Any excess of Income over the Outgo, will be
considered as profit.
Reinsured shall render the PC statement to the
Reinsurer for each annual period, according to
the PC formula.

61
Profit Commission (PC)
Formula PC 10, deficit c/f to 3 years, ME 7.5 (but results shown below are net of the ME) Formula PC 10, deficit c/f to 3 years, ME 7.5 (but results shown below are net of the ME) Formula PC 10, deficit c/f to 3 years, ME 7.5 (but results shown below are net of the ME) Formula PC 10, deficit c/f to 3 years, ME 7.5 (but results shown below are net of the ME) Formula PC 10, deficit c/f to 3 years, ME 7.5 (but results shown below are net of the ME) Formula PC 10, deficit c/f to 3 years, ME 7.5 (but results shown below are net of the ME)
Yr 1 Yr 2 Yr 3 Yr 4 Yr 5
U/W 1 (5,000) (5,000) 1st Yr (2,500) 2nd Yr (2,500) 3rd Yr
U/W 2 2,500
U/W 3 (1,200) (1,200) 1st Yr (700) 2nd Yr
U/W 4 3,000
U/W 5 3,000
Result (5,000) (2,500) (3,700) (700) 2,300
10 PC Nil Nil Nil Nil 230
62
PC calculation for Engineering TreatyUnderwriting
Year 1.1.2002 to 31.12.2002
As at 31.12.02 As at 31.12.02 As at 31.12.03 As at 31.12.04 As at 31.12.05 As at 31.12.06
INCOME INCOME INCOME INCOME INCOME INCOME
Premium 1,500,000 2,000,000 2,500,000 3,000,000 3,500,000
TOTAL INCOME 1,500,000 2,000,000 2,500,000 3,000,000 3,500,000
OUTGO OUTGO OUTGO OUTGO OUTGO OUTGO
Commission at 25 375,000 500,000 625,000 750,000 875,000
Claims Paid 500 1,000 1,000,000 1,500,000 2,000,000
Tax on Premium _at_ 5 75,000 100,000 125,000 150,000 175,000
ME _at_ 5 75,000 100,000 125,000 150,000 175,000
O/S loss at the end of yr 10,000 50,000 500,000 300,000 100,000
TOTAL OUT GO 535,500 751,000 2,250,000 2,850,000 3,325,000
Profit / (Loss) 964,500 1,249,000 250,000 150,000 175,000
PC at 20 192,900 249,800 50,000 30,000 35,000
Less PC as last year 192,900 249,800 50,000 30,000
PC for this year 192,900 56,900 (199,800) (20,000) 5,000
63
Super Profit Commission

Additional PC payable over and above the normal
PC.
e.g. if the PC is 15 and Super PC is 30 the
working will be done as indicated-

Net Profit 60,000
15 PC 9,000
Net Result 51,000
30 Super PC 15,300
Total PC payable24,300

64
Outstanding Losses

Throughout the treaty period, claims occur on
policies attached to the treaty.
Many of the claims are settled by the Insurer and
charged to the reinsurer in agreed proportion.
However, some of these claims will not be settled
before the end of the treaty year. These claims
are known as Outstanding Losses.

65
Outstanding Losses

Ceding Company estimates the likely cost of
Outstanding Losses and provides the total of the
estimates to the reinsurer, usually at the end of
the period.
This is for the purpose of information, so that
the Reinsurers can make sufficient provisions for
the losses to be paid at a future date.

66
Proportional Treaty Accounts

One of the following two methods is applied for
preparation of Treaty Accounts
Underwriting Year Accounting System (Run Off)
Accounting Year based Accounting System (Clean
Cut)
The methods can be viewed at a glance in the
following slide

67
U/W A/C - at a glance
Accounting Year Accounting Year Accounting Year Accounting Year Accounting Year Accounting Year Accounting Year
U/W Yrs 2002 2003 2004 2005 Total
U/W Yrs 2002 100 50 (120) 15 45
U/W Yrs 2003 X 80 45 5 130
U/W Yrs 2004 X X (55) 45 (10)
U/W Yrs 2005 X X X 60 60
U/W Yrs Total 100 130 (130) 125 225

Result of each U/W year will be finalized when
liability for that year is expired.
Result of each A/C year may include items for
more than one U/W year

68
U/W A/C - at a glance
1998
1999
2000
2001
Total U/W yr
Year 1
Year 2
Year 3
Year 4
1998
1999
2000
2001
Total A/c Yr
69
U/W Year Method (run off)

Suitable for classes where
Policies issued for more than 12 months
(CAR/EAR), premiums are collected over more than
one A/c year exposure to the losses also
extends for same period.
Marine, Aviation, Liability, CAR, EAR etc. medium
to long tail business
Delays in settlement of account due to
Legal judgment / medical consideration
Repairs to be carried out
Cost of repairs extended over length of time
Recoveries to be received over bonds / credit
claims

70
U/W Year Method (run off)

Any claim affecting the reinsurance treaty is
allocated to those reinsurers that received the
premium for that risk.
In any given quarter, there can be claims and
premiums relating to several underwriting years.
Therefore, it is essential to allocate premiums
and claims to the correct underwriting years and
to ensure that separate bordereaux and accounts
are produced for each underwriting year.
Profit commission statements will also be
prepared according to underwriting year.

71
U/W Year Method (run off)
A/c Yr 02
A/c Yr 03
A/c Yr 04
A/c Yr 05
Four Qtly A/c
Four Qtly Run off A/c
Four Qtly Run off A/c
Four Qtly Run off A/c
Reinsurers U/W 2002
Continue
Revised PC
Revised PC
Revised PC
PC Calculation
Revised O/L
Revised O/L
Revised O/L
O/L Advice
Four Qtly A/c
Four Qtly Run off A/c
Four Qtly Run off A/c
Reinsurers U/W 2003
Continue
PC Calculation
Revised PC
Revised PC
O/L Advice
Revised O/L
Revised O/L
Four Qtly A/c
Four Qtly Run off A/c
Reinsurers U/W 2004
PC Calculation
Revised PC
Continue
O/L Advice
Revised O/L
6
12
18
24
72
U/W Year Method (run off)
2002 2002 2002 2002 2002 2002 2002 2002 2002 2002 2002 2002 2003 2003 2003 2003 2003 2003 2003 2003 2003 2003 2003 2003 2004 2004 2004 2004 2004 2004 2004 2004 2004 2004 2004 2004
J F M A M J J A S O N D J F M A M J J A S O N D J F M A M J J A S O N D
J
F
M
A
M
J
J
A
S
O
N
D
Reinsurer for which year pays loss? 2002? 2003?
2004?
Policy Incepts
73
SOA for Run Off Treaty

Debited to Reinsurers
Ceding Commission.
Tax on Premium.
PR retained.
LR retained.
Paid Claims.
Profit Commission (annual)

Credited to Reinsurers
Premiums net of returns and cancellations.
PR Released.
LR Released.
Interest on Reserves.
Refund on Cash Loss

74
Why Clean Cut A/c System?

Administrative costs for handling accounts are
very high.
Large treaties are placed with a number of
reinsurers, hence more administration.
Reinsurers may change their shares or cancel
participation, hence Cedant may be required to
allocate Premium, Deductions, Claims other
accounting items to many different reinsurers,
until the liability is finally expired.
The concept of Portfolios was introduced to
assist both Ceding Company and the Reinsurer in
reduction of administrative expenses.

75
Portfolios

The period of reinsurance treaty does not
correspond to the period of all original direct
insurances.
Most of the policies will be still in force at
the end of the reinsurance period and for which
the reinsurer would have received full premium.
For example, if the reinsurance period follows
the calendar year, an annual insurance policy
issued at 1st July has at 31st December six
months until expiry during which time a claim
might occur.

76
Portfolios

A system has been developed whereby this
unexpired liability can be withdrawn from a
reinsurer canceling its participation and
transferred to (assumed by) a new reinsurer who
will receive a commensurate share of the
premiums.
Thus, losses occurring before the date of
cancellation are charged to the old reinsurer and
losses occurring after the date of cancellation
to the new reinsurer.

77
Portfolios

By the same technique, the liability in respect
of losses that have not been settled at the time
of the change in reinsurers participation on the
treaty will be transferred to the new reinsurer
together with the corresponding claims reserve.
The old reinsurer will no longer be charged with
claims that were outstanding at the date of
cancellation.

78
Portfolios

This transfer of liability between old and new
reinsurers when a change in participations takes
place are effected as soon as possible after the
end of the reinsurance period and are handled by
way of a
premium and loss portfolio transfer account.
35 of accounted premium during the year
90 or 100 of losses outstanding at the end of
the year

79
A/c Year Method (Clean Cut)

Brings into one revenue year all Premiums (less
commissions and deductions) less claims payable,
reported by the Cedant during that revenue year
regardless the underwriting year to which the
item relates.
Best suited for short tail class of business such
as Fire Accident where both Premiums and
Claims are settled faster.

80
A/c Year Method (Clean Cut)
U/W At the end of the year, the liability of Reinsurers is CUT by P/F premium loss withdrawal and at the beginning of the nest year, the same liability is passed on to the Reinsurers of next year, by P/F premium and loss entry. At the end of the year, the liability of Reinsurers is CUT by P/F premium loss withdrawal and at the beginning of the nest year, the same liability is passed on to the Reinsurers of next year, by P/F premium and loss entry. At the end of the year, the liability of Reinsurers is CUT by P/F premium loss withdrawal and at the beginning of the nest year, the same liability is passed on to the Reinsurers of next year, by P/F premium and loss entry. At the end of the year, the liability of Reinsurers is CUT by P/F premium loss withdrawal and at the beginning of the nest year, the same liability is passed on to the Reinsurers of next year, by P/F premium and loss entry. At the end of the year, the liability of Reinsurers is CUT by P/F premium loss withdrawal and at the beginning of the nest year, the same liability is passed on to the Reinsurers of next year, by P/F premium and loss entry. At the end of the year, the liability of Reinsurers is CUT by P/F premium loss withdrawal and at the beginning of the nest year, the same liability is passed on to the Reinsurers of next year, by P/F premium and loss entry. At the end of the year, the liability of Reinsurers is CUT by P/F premium loss withdrawal and at the beginning of the nest year, the same liability is passed on to the Reinsurers of next year, by P/F premium and loss entry.
2002 A B C D
2003 B C E F
2004 C E F G
2005 C E G
2006 E G
81
A/c Year Method (Clean Cut)
2002 2002 2002 2002 2002 2002 2002 2002 2002 2002 2002 2002 2003 2003 2003 2003 2003 2003 2003 2003 2003 2003 2003 2003
J F M A M J J A S O N D J F M A M J J A S O N D
J
F
M
A
M
J
J
A
S
O
N
D
Expired portion of risks
Unexpired portion of risks
82
A/c Year Method (Clean Cut) format

Credit
Premium Ceded
Portfolio Premium Entry
Portfolio Loss entry
PR Release
Loss Reserve Release
Interest (Less Tax) on Reserve Release
Credit for Cash Loss

Debit
Commission
Overriding Commission
Claims Paid
Premium P/F withdrawal
Loss P/F withdrawal
PR Retained
LR Retained
Taxes and Charged

Balance Difference between Credit and Debit
83
Portfolio Premiums

At the end of an U/W year, there are a number of
unexpired policies. The liability of current
Reinsurers is transferred to the next reinsurers
through P/F Premium and Loss Transfers. P/F
Premiums are usually calculated _at_ 35 or 40 of
accounted premium during the year.

1.1.1998
31.12.1998
Earned Premium
Unearned Premium
Reinsurer A outgoing
P/F Premium Withdrawn
31.12.1999
1.1.1999
P/F Premium Assumed
Earned Premium
Unearned Premium
Reinsurer B incoming
P/F Premium Withdrawn
31.12.2000
1.1.2000
P/F Premium Assumed
Earned Premium
Unearned Premium
Reinsurer C incoming
84
Portfolio Losses
This means, at the end of the treaty year, the
outstanding losses are withdrawn by the Ceding
Company and credit is given to the incoming
reinsurers.
1.1.1998
31.12.1998
Paid Losses
Outstanding Losses
Reinsurer A outgoing
P/F Loss Withdrawn
31.12.1999
1.1.1999
P/F Loss Entry
Paid Losses
Outstanding Losses
Reinsurer B incoming
P/F Loss Withdrawn
31.12.2000
1.1.2000
P/F Loss Entry
Paid Losses
Outstanding Losses
Reinsurer C incoming
85
A/c Year Method (Clean Cut)
2002 2002 2002 2002 2002 2002 2002 2002 2002 2002 2002 2002 2003 2003 2003 2003 2003 2003 2003 2003 2003 2003 2003 2003 2004 2004 2004 2004 2004 2004 2004 2004 2004 2004 2004 2004
J F M A M J J A S O N D J F M A M J J A S O N D J F M A M J J A S O N D
J
F
M
A
M
J
J
A
S
O
N
D
Reinsurer for which year pays loss? 2002? 2003?
2004?
Policy Incepts
86
SOA for Clean Cut Treaty

Debited to Reinsurers
Ceding Commission.
Tax on Premium.
PR retained.
LR retained.
Paid Claims.
P P/F Withdrawal.
L P/F Withdrawal.
Profit Commission.

Credited to Reinsurers
Premiums net of returns and cancellations.
PR Released.
LR Released.
Interest on Reserves.
P P/F incoming.
L P/F incoming.
Refund on Cash Loss

87
Loss Participation Clause

Reinsured shall reimburse to the Reinsurer 40 of
the loss ratio exceeding 75 up to 100.
Loss Ratio of Incurred Claims to Earned
Premium.
Example 1
Incurred Claim 52,000 Earned Premium 50,000 ?
LR 104
Maximum loss participation by Reinsured is 40 of
25 i.e.5,000.
Example 2
Incurred Claim 30,000 Earned Premium 50,000 ?
LR 60
Since LR is below 75 the Loss Participation
Clause not applicable.
Example 3
Incurred Claim 45,000 Earned Premium is 50,000
? LR 90
Reinsured will participate 40 of 15 LR ( 90 -
75) i.e. 3,000

88
Commutation

This is early termination of a contract of
reinsurance in return for mutually agreed level
of consideration.
Relieves reinsurer of his obligation.
Any losses to the contract, after the commutation
will be solely and totally borne by the
reinsured.

89
Commutation

For example, on a Marine Hull Surplus Treaty U/W
Yr 2000, there was a large claim advised but
not paid until 2009.
The 100 Reserves are say 10 m.
The reinsurer has to provide for this reserve
every year. This costs him administration cost
affects his results.
Hence the commutation will be proposed for say
7.5 m settlement.

90
Premium Reserves (PR)

Originally meant to be a security against
Reinsurers obligation under treaty.
Also legislative requirement in certain
Countries.
PR are reserves retained at pre-fixed rate (35
to 40)on Gross Premium of each quarterly /
half-yearly account and released in corresponding
account next year.
Interest is paid, at prescribed rate less IT.

91
Premium Reserves

In reciprocal trading PR are waived, if so
desired by both the sides.
Non Reciprocal treaties waiving of reserves is
favoured for Cash Flow underwriting.
Some times in a clean cu treaty P/F Premium
entry is retained as PR and is released in each
quarter, thus at the end of the year it is
squared off.

92
Loss Reserves (LR)

Same purpose as PR i.e. security against non
performance of reinsurer.
Cover those losses, which have occurred but not
paid.
Usually 90 of O/S losses
Some times include IBNR loading.
Interest is paid.

93
Loss Reserves

This is the consideration for Outstanding Loss
liability and include Outstanding Losses IBNR.
LR are usually 90 or 100 of Outstanding Loss
IBNR.
They are retained and released quarterly or
annually as per the provisions of the treaty
terms.

94
Example of PR LRRetained Released (1)
95
Example of PR LR Retained Released (2)
96
Various ReservesStrengthen Solvency of an Insurer
A Paid Up Capital B Free Reserves C Premium
Reserves D Loss Reserves E Cat or Disaster
Reserves
A
B
C
D
E
97
Unearned Premium Reserve

Despite resistance from reinsurers, it is common
for ceding companies to retain a proportion of
premium payable to the reinsurer. The motivation
is normally that this deposit should serve as a
guarantee against the failure of the reinsurer to
meet its future liabilities. In some countries,
the law requires this.
The calculation of premium reserves withheld
should, theoretically, follow the same principle
as that of portfolio premium. In practice,
however, and for ease of administration, premium
reserves are calculated at a fixed percentage of
premiums. Very often the rate is 40.

98
Methods of unearned Premium

Prorata Premium for EVERY POLICY
To be calculated by determining the proportion of
each policy that extends beyond the treaty year.
For example Policy Premium is 25,000 period is
2nd May to 1st May
Unearned Period 1st Jan to 2nd May i.e. 121 days
121/365 X 25,000 8287.67
Administratively cumbersome expensive

99
Methods of unearned Premium

1/24th System.
Based on following assumptions
Average policy ceded in any monthly period
incepts in the middle of each month.
Average policy period is 12 months.
Therefore for the month of January 15 days of
policy premium remains unearned i.e. 1/24th
For the month of February 45 days of policy
premium remains unearned i.e. 3/24th.

100
1/24th Method
J
F
M
A
M
J
J
A
S
O
N
D
J
F
M
A
M
J
J
A
S
N
D
O

Relatively accurate.
Ideally suited, where
spread of policies
ceded is unbalanced.

1/24th
3/24th
5/24th
7/24th
9/24th
11/24th
13/24th
15/24th
17/24th
19/24th
21/24th
23/24th
101
Methods of unearned Premium

1/8th System, is similar to 1/24th System. Only
the Assumptions are different
Average policy incepts in the middle of each
quarterly period and expires in the middle of
each quarterly period of the next year.
Therefore for the 1st quarter, ½ quarter of
premium remains unearned at the end of the treaty
year i.e. 1/8th for the 2nd Quarter 1 ½ quarter
of premium remains unearned i.e. 3/8th.
This method is also reasonably accurate simple
to calculate.
Depends on average policy period of 12 months.

102
1/8th Method
Treaty Year 1
Treaty Year 2
Q 1
Q 2
Q 3
Q 4
Q 1
Q 2
Q 4
Q 3
1/8th
3/8th
5/8th
7/8th
103
Methods of unearned Premium

Flat percentage basis i.e 35 to 40 system
Least accurate of all systems.
35 to 40 of annual premium is withdrawn.
Unless policies are well balanced, this system
will work against the interests of either party.
Most commonly used method, as simple and easy to
operate.

104
Chain of Proportional Treaty A/c