Reinsurance and other forms of risk transfer: types of reinsurance
Insurers are ingenious about inventing new kinds of reinsurance, and no substitute for asking for an explanation of any arrangement that looks unusual. But first one must distinguish between the usual and the unusual.
Reinsurance is either:
- facultative (the reinsurance of an individual risk, negotiated separately for each contract), or
- treaty (for a period of time, with an obligation on the cedant to cede and the reinsurer to accept the specified risks).
Facultative reinsurance is contract specific. The insurer seeks cover from a reinsurer for a particular underlying risk on an individual contract basis and the reinsurer may accept or decline the proposal. On the other hand, under a reinsurance treaty the reinsurer agrees in advance to accept a share of a particular type of business so that risks are automatically insured under the terms of the contract. It is possible for no business to arise under a treaty in a particular year, so it might be said that a reinsurance treaty is a contract for rather than of insurance.
There is also what is known as facultative obligatory treaty, or fac oblig. This is a contract under which
- the ceding company may select risks of a defined class and the reinsurer is bound to accept them, or
- the ceding company must cede risks of a defined class, and the reinsurer may choose to accept them
so that one party has discretion and the other does not.
In proportional reinsurance, the insurer and the reinsurer share the risks and premiums pro-rata. It is usually divided into quota share and surplus types of reinsurance. These terms are explained at GIM8030.
The term non-proportional reinsurance applies to any reinsurance which is not proportional. The main types are excess of loss and stop loss. Excess of loss may cover a single risk or a category of business (for example fire). Catastrophe reinsurance is a type of excess of loss. Stop loss reinsurance (sometimes known as excess of loss ratio reinsurance) covers a whole account. These terms are explained at GIM8060.