1 RI Accounting for Proportional Treaties Mrs. Achala Nayak Director J B Boda & Co (S) PTE LTD., Singapore.

1

RI Accounting forProportional Treaties

Mrs. Achala NayakDirector

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

CharacteristicsSimilar 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

FACULTATIVE : 25% Retention & 75% Facultative Cession

SI Premium Commission Loss Rs 10,000 Rs 100 25% Rs 400

Premium Distribution Retains Rs 25 18.75

Cedes Rs. 56.25 (Net of 25%) Commission

Loss Distribution Retains Rs 100 Recovers Rs 300

Net Balance (56.25) (243.75)

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, Reinsurer’s permission needs to be taken for extension of PPW.

11


Name of Broker & Ref. No.

Name of Cedant & Ref. No.

Name of Assured and location.

Period of Cover / Perils Covered

TSI, Rate, Deductions

Actual working of 100% Premium

Reinsurer’s % share and the amount of net premium

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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:

Name of Broker & Ref. No.

Name of Cedant & Ref. No.

Name of Assured and location.

Period of Cover Date of Loss

Perils covered Cause of loss

Amount of Loss Intimated Settled Outstanding Reinsurer’s % share and share of loss

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 businessRetention and Cession limit under treatyGeographical ScopeAlso 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

Risk SI 100,000Premium 20,000

Loss 25,000

Cedant

Reinsurer

Retains fully 100,000Premium 20,000

Loss 25,000Net balance: (5,000)

Retains 50% 50,000Premium 10,000

At 30% rateGets Comm. of 3,000Retains Loss 12,500

Net balance: 500

50% QS cession 50,000Premium 10,000

Pays Comm of 3,000Loss 12,500

Net balance: 5,500

How does a QS treaty Work?

If No Treaty

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Quota Share Treaty Cession

QS Risk Distribution : 50% retention - max treaty limit 100

0

50

100

150

200

250

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25

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.

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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

3 line Surplus Treaty: Max Retention 100

0

100

200

300

400

500

600

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24

21

QS & Surplus Treaties: Cessions

QS Risk Distribution

0

50

100

150

200

250

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25

3 line Surplus Treaty: Max Retention 100

0

100

200

300

400

500

600

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24

22

Distribution of Risk over QS & Surplus Treaties

SI QS Ret. QS Cess. 4 line FSP 4 line SSP Facultative 300,000 150,000 150,000 0 0 0 500,000 250,000 250,000 0 0 0

1,000,000 500,000 500,000 0 0 0 4,000,000 500,000 500,000 3,000,000 0 0 5,000,000 500,000 500,000 4,000,000 0 0 9,000,000 500,000 500,000 4,000,000 4,000,000 0

10,000,000 500,000 500,000 4,000,000 4,000,000 1,000,000 12,000,000 500,000 500,000 4,000,000 4,000,000 3,000,000 15,000,000 250,000 250,000 2,000,000 2,000,000 10,500,000

1. QS maximum limit 1,000,000 SI / PML & retention 50% 2. 1st Surplus of 4 lines with maximum limit of 4,000,000 SI / PML 3. 2nd Surplus of 4 lines with maximum limit of 4,000,000 SI / PML

23

Distribution of Risk over QS & Surplus Treaties

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

16,000

1 2 3 4 5 6 7 8 9

FacSSPFSPQS Cess.QS Retn.

24

Risk Distribution over an RI Programme

QS Maximum 100% limit Rs. 500

Retention 40% and Cession 60%

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.

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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.

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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.

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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. Reinsurer’s share: for the reinsurer’s

reference.

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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

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Claims Bordereaux

PurposeTo 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.

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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. Reinsurer’s share: for the reinsurer’s reference

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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 year’s 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

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.

Cash Loss (CL)

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

Credited to Reinsurerso Premiums net of returns and

cancellations.o PR Released.o LR Released.o Interest on Reserves.o P P/F incoming.o L P/F incoming.o Refund on Cash Loss

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

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 @ 30% 15,000

REINSURANCE TAX @ 5% 2,500

CLAIMS PAID LESS RECOVERIES 15,000

PREMIUM RESERVE RETAINED @ 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

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.

Commission

41

Commission

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

42

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.

Flat % Commission

43

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%.

Flat + Additional Commission

44

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.

S/S Commission

45

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.

S/S Commission

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 Reinsurer’s 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 @ 30% 12,000

2nd Q Premium 50,000 Provisional @ 30% 15,000

3rd Q Premium 60,000 Provisional @ 30% 18,000

4th Q Premium 30,000 Provisional @ 30% 9,000

Total 180,000 54,000

Actual Commission due from L/R calculation @ 32.50% applicable to 180,000

58,500

Adjustment commission due to Ceding Co. 4,500

54

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%.

Overriding Commission

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.

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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

Commission on Profit paid by the Reinsurers to the Reinsured as per a formula.

Income:1. Written Premium2. 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

Management expenses are not an accounting item. It is a notional deduction in the PC statement allowing Reinsurer’s 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 Company’s original accounts.


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Income1) P/F Premium

2) P/F Loss Entry.

3) Original Gross Premiums included in the accounts for the current year.

Outgo1) Commission.

2) Any other deductions.

3) Paid Losses & Loss expenses.

4) P/F Premium withdrawal.

5) P/F Loss withdrawal.

6) Reinsurer’s Management Expenses.

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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.


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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

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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

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

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 @ 5% 75,000 100,000 125,000 150,000 175,000

ME @ 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

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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 payable:24,300

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

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U/W & A/C - at a glance

Accounting YearU/W Yrs

2002 2003 2004 2005 Total

2002 100 50 (120) 15 45

2003 X 80 45 5 130

2004 X X (55) 45 (10)

2005 X X X 60 60

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

Year 1 Year 2 Year 3 Year 4

1998 1999 2000 2001 Total U/W yr

1998

2000

1999

2001

TotalA/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


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/cFour Qtly A/c Four Qtly Run off A/c

Four Qtly Run off A/c





Revised PCRevised PCRevised PCRevised PCRevised PCRevised PC

Revised O/LRevised O/LRevised O/LRevised O/LRevised O/LRevised O/L

PC CalculationPC Calculation

O/L AdviceO/L Advice

Four Qtly A/cFour Qtly A/c



Revised PCRevised PC



Revised O/LRevised O/L Revised O/LRevised O/L






Four Qtly A/cFour Qtly A/c

Revised O/LRevised O/L




ReinsurersU/W 2002

ReinsurersU/W 2003

ReinsurersU/W 2004

Continue

Continue

Continue

6 12 18 24

72


2002 2003 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

Policy Incepts

73

SOA for Run Off Treaty


cancellations.o PR Released.o LR Released.o Interest on Reserves.o Refund on Cash Loss

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

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 reinsurer’s 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


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.

2002 A B C D

2003 B C E F

2004 C E F G

2005 C E G

2006 E G

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2002 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

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 @ 35% or 40% of accounted premium during the year.

1.1.1998 31.12.1998

Reinsurer Aoutgoing

Earned Premium

Earned Premium Unearned

Premium

Unearned Premium

P/F PremiumAssumed

P/F PremiumAssumed

Reinsurer Bincoming

P/F PremiumWithdrawn


Earned Premium

Earned Premium

Unearned Premium

Unearned Premium



P/F PremiumAssumed

P/F PremiumAssumed

Reinsurer Cincoming

Earned Premium

Earned Premium

Unearned Premium

Unearned Premium

1.1.1999 31.12.1999

1.1.2000 31.12.2000

84

Portfolio Losses

1.1.1998 31.12.1998

Reinsurer Aoutgoing

Paid LossesOutstanding

Losses

P/F LossEntry

Reinsurer Bincoming

P/F LossWithdrawn


Losses

P/F LossWithdrawn

P/F LossEntry

Reinsurer Cincoming


Losses

1.1.1999 31.12.1999

1.1.2000 31.12.2000

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.

85


2002 2003 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

Policy Incepts

86

SOA for Clean Cut Treaty


cancellations.o PR Released.o LR Released.o Interest on Reserves.o P P/F incoming.o L P/F incoming.o Refund on Cash Loss

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

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

Originally meant to be a security against Reinsurer’s 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.

Premium Reserves (PR)

91

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.

Premium Reserves

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 lossesSome times include IBNR loading.Interest is paid.

93

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.

Loss Reserves

94

Example of PR & LRRetained & Released (1)

Based on 40% PR & 100% LR & 4% Interest Year 1 Debit Credit 1st Qtr Premium 100,000 PR retained 40,000 2nd Qtr Premium 120,000 PR retained 48,000 3rd Qtr Premium 90,000 PR retained 36,000 4th Qtr Premium 60,000 PR retained 24,000 LR retained 23,000

95

Example of PR & LR Retained & Released (2)

Based on 40% PR & 100% LR & 4% Interest Year 2 Debit Credit 5th Qtr Premium 50,000 PR retained 20,000 PR released 40,000 Interest 1,600 6th Qtr Premium 10,000 PR retained 4,000 PR released 48,000 Interest 1,920 7th Qtr Premium Refund 1,000 PR retained 400 PR released 36,000 Interest 1,440 8th Qtr Premium 200 PR retained 80 PR released 24,000 LR released 23,000 Interest 1,880 LR retained 12,000

96

Various ReservesStrengthen Solvency of an Insurer

EDC

A

B

A = Paid Up CapitalB = Free ReservesC = Premium ReservesD = Loss ReservesE = Cat or Disaster Reserves

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 PremiumProrata 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 = 8287.67Administratively cumbersome & expensive

99

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.

Methods of unearned Premium

100

1/24th Method

J FMAMJ J ASOND J FMAMJ J AS NDO •Relatively accurate.•Ideally suited, where spread of policies ceded is unbalanced.

1/24th3/24th

5/24th7/24th

13/24th

9/24th

15/24th17/24th

19/24th21/24th

23/24th

11/24th

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 4Q 3

1/8th

3/8th

5/8th

7/8th

103

Methods of unearned PremiumFlat percentage basis i.e 35% to 40%

systemLeast 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

Preparation of Premium & Claims Bordereaux Loss Notifications Cash Claim Advice Rendering and settlement of A/c Q or H/Y If S/s commission, adjustment at the end of the year Submission of P/F withdrawal and entry for clean cut

treaties. Submission of Premium & Loss Reserves and release

statements. Submission of P/C statement. Advise of O/S loss at the end of the treaty

105

1 RI Accounting for Proportional Treaties Mrs. Achala Nayak Director J B Boda & Co (S) PTE LTD., Singapore.

Documents

facultative ri slide

treaty slide

insurance of insurance

reinsurance company

effect reinsurance slide

risk transfer

renewal slide

single loss slide