Legal Definitions - treaty of reinsurance

A treaty of reinsurance (often simply called a "reinsurance treaty") is a standing, long-term agreement between an insurance company (known as the "ceding insurer" or "primary insurer") and a reinsurer. Under this agreement, the reinsurer automatically accepts a specified portion or type of risk from the primary insurer's entire portfolio of policies, or a defined class of policies, rather than negotiating coverage for each individual policy. It's a proactive, ongoing arrangement designed to help the primary insurer manage its overall risk exposure, stabilize its financial results, and increase its capacity to underwrite more policies.

Here are some examples illustrating how a treaty of reinsurance works:

• Example 1: Regional Property Insurer and Catastrophic Risk

  Imagine "Coastal Homes Insurance," a regional company that primarily insures residential properties in a hurricane-prone area. If a major hurricane hits, Coastal Homes Insurance could face billions of dollars in claims, potentially bankrupting the company. To manage this immense risk, Coastal Homes Insurance enters into a treaty of reinsurance with "Global Reassurance Corp." This treaty specifies that Global Reassurance Corp. will automatically cover 70% of all property damage claims exceeding a certain dollar threshold across Coastal Homes Insurance's entire portfolio of policies in that region for the next five years. This allows Coastal Homes Insurance to continue offering policies to homeowners, knowing that a significant portion of the catastrophic risk is shared, ensuring their financial stability even after a major storm.

• Example 2: Specialty Aviation Insurer and High-Value Assets

  "Skyward Solutions" is an insurance company that specializes in underwriting policies for commercial airline fleets and satellite launches. Each individual policy they issue can represent an extremely high financial risk, potentially hundreds of millions or even billions of dollars. To avoid having too much exposure to a single catastrophic event (like a major airline crash or a satellite launch failure), Skyward Solutions establishes a treaty of reinsurance with "Apex Reinsurance." This treaty dictates that Apex Reinsurance will automatically assume 40% of the risk for every new aviation or space policy Skyward Solutions underwrites, up to a certain aggregate limit per year. This arrangement allows Skyward Solutions to confidently insure these high-value assets, knowing that a substantial portion of the potential loss is automatically transferred to Apex Reinsurance, thereby expanding Skyward Solutions' capacity to take on more business.

• Example 3: Life Insurance Company and Mortality Risk Management

  "Evergreen Life Assurance" is a large life insurance provider with millions of individual life insurance policies in force. While they use actuarial science to predict claims, unexpected events like a widespread pandemic or a sudden increase in mortality rates within a specific age group could lead to higher-than-anticipated payouts, impacting their profitability and solvency. To mitigate this, Evergreen Life Assurance enters into a treaty of reinsurance with "Longevity Re." This treaty might stipulate that Longevity Re will automatically cover all claims on individual life policies that exceed a certain payout amount (e.g., $5 million per policy) or a percentage of claims for policyholders within a particular age bracket across Evergreen's entire portfolio. This helps Evergreen Life Assurance smooth out its financial results, ensuring it can meet its obligations to policyholders even during periods of higher mortality claims, by sharing a portion of the overall mortality risk.