Reinsurance is a way for insurance companies to transfer some of their risk to another insurance company, called a reinsurer. This helps to protect the primary insurer from financial ruin in the event of a large loss.
There are two main types of reinsurance: proportional and non-proportional.
- Proportional reinsurance is the most common type. In a proportional reinsurance agreement, the reinsurer agrees to pay a portion of all claims that are made under the primary insurer’s policies. The percentage of claims that the reinsurer pays is called the retention. The amount of the retention is negotiated between the primary insurer and the reinsurer.
- Non-proportional reinsurance is less common than proportional reinsurance. In a non-proportional reinsurance agreement, the reinsurer agrees to pay a certain amount for each claim that is made under the primary insurer’s policies, up to a certain limit. This type of reinsurance is often used to protect against catastrophic losses.
Reinsurance can be used by insurance companies for a variety of reasons. Some of the most common reasons include:
- To reduce risk: Reinsurance can help to reduce the amount of risk that an insurance company assumes. This can make it easier for the insurance company to obtain the capital it needs to operate and to offer competitive premiums.
- To improve financial stability: Reinsurance can help to improve the financial stability of an insurance company. This is because the reinsurer will share in the cost of any large losses that the primary insurer incurs.
- To expand coverage: Reinsurance can help an insurance company to expand its coverage to a wider range of risks or to a larger geographical area. This is because the reinsurer may have the expertise or resources that the primary insurer does not have.
Reinsurers make money by charging the primary insurer a premium for the risk that they are assuming. The premium is typically based on the amount of risk that the reinsurer is assuming, the financial strength of the primary insurer, and the terms of the reinsurance agreement.
Reinsurance is an important part of the insurance industry. It helps to protect insurance companies from financial ruin. And, to ensure that policyholders are able to receive the benefits that they are entitled to.
