1 ri accounting for proportional treaties mrs. achala nayak director j b boda & co (s) pte ltd.,...
TRANSCRIPT
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RI Accounting forProportional Treaties
Mrs. Achala NayakDirector
J B Boda & Co (S) PTE LTD., Singapore
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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.
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What is Retention?
Retention is an amount,
an insurance company is willing
to risk for its own account
from a single loss
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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
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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
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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
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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
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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
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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)
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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.
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Accounts for Facultative
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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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:
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
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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.
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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.
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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
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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.
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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.
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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
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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
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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
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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.
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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
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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.
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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.
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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.
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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)
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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.
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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.
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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
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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.
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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
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Commission
Usually three methods employed:Flat Percentage method.Flat Percentage plus Additional Percentage.Sliding Scale method.
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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
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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
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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
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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
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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.
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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.
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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%
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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.
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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)
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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
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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
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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
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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
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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:
Profit Commission (PC)
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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.
Profit Commission (PC)
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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.
Profit Commission (PC)
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Profit Commission (PC)
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.
Profit Commission (PC)
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Profit Commission (PC)
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
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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.
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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.
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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
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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
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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
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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.
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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
Four Qtly Run off A/c
Four Qtly Run off 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
PC CalculationPC Calculation
O/L AdviceO/L Advice
Revised PCRevised PC
Four Qtly Run off A/c
Four Qtly Run off A/c
Revised O/LRevised O/L Revised O/LRevised O/L
Revised PCRevised PC
Four Qtly Run off A/c
Four Qtly Run off A/c
O/L AdviceO/L Advice
PC CalculationPC Calculation
Four Qtly A/cFour Qtly A/c
Revised O/LRevised O/L
Revised PCRevised PC
Four Qtly Run off A/c
Four Qtly Run off A/c
ReinsurersU/W 2002
ReinsurersU/W 2003
ReinsurersU/W 2004
Continue
Continue
Continue
6 12 18 24
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U/W Year Method (run off)
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
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SOA for Run Off Treaty
Credited to Reinsurerso Premiums net of returns and
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)
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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.
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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.
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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.
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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.
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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
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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.
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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.
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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A/c Year Method (Clean Cut)
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
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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
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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
P/F PremiumWithdrawn
Earned Premium
Earned Premium
Unearned Premium
Unearned Premium
P/F PremiumWithdrawn
P/F PremiumWithdrawn
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
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Portfolio Losses
1.1.1998 31.12.1998
Reinsurer Aoutgoing
Paid LossesOutstanding
Losses
P/F LossEntry
Reinsurer Bincoming
P/F LossWithdrawn
Paid LossesOutstanding
Losses
P/F LossWithdrawn
P/F LossEntry
Reinsurer Cincoming
Paid LossesOutstanding
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.
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A/c Year Method (Clean Cut)
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
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SOA for Clean Cut Treaty
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.
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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
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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.
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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.
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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)
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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
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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.
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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
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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
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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
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Various ReservesStrengthen Solvency of an Insurer
EDC
A
B
A = Paid Up CapitalB = Free ReservesC = Premium ReservesD = Loss ReservesE = Cat or Disaster Reserves
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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%.
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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
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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
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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
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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.
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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
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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.
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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
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