RI Accounting for
Proportional Treaties
Mrs. Achala Nayak
Director
J B Boda & Co (S) PTE LTD.,
Singapore
1
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.
2
What is Retention?
Retention is an amount,
an insurance company is willing
to risk for its own account
from a single loss
3
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
4
Methods of Reinsurance
PROPORTIONAL
Facultative
(single risk)
 Treaty
(multiple risks)
Quota Share.
Surplus
Fac. / Obligatory.
Open Covers

NON PROPORTIONAL
Facultative
(single risk)
 Treaty (Contracts)
(multiple risks)
Risk XOL.
Catastrophe XOL.
Stop Loss XOL

5
Facultative RI

Characteristics
Similar 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

6
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
7
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
8
Premium and Loss Distribution in
Facultative RI
FACULTATIVE : 25% Retention & 75% Facultative Cession
SI
Rs 10,000
Premium
Commission
Loss
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)
9
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.
10
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
11
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
Reinsurer’s % share and share of loss
Settled
Outstanding
12
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 business
 Retention and Cession limit under treaty
 Geographical Scope
 Also exclusions are specified.

13
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.
14
How does a QS treaty Work?
Risk SI 100,000
Premium 20,000
Loss 25,000
Cedant
Retains fully 100,000
Premium 20,000
Loss 25,000
Net balance: (5,000)
Retains 50% 50,000
Premium 10,000
At 30% rate
Gets Comm. of 3,000
Retains Loss 12,500
Net balance: 500
Reinsurer
If No Treaty
50% QS cession 50,000
Premium 10,000
Pays Comm of 3,000
Loss 12,500
Net balance: 5,500
15
Quota Share Treaty Cession
QS Risk Distribution : 50% retention - max treaty limit 100
250
200
150
100
50
0
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
16
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.
17
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.
18
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.
19
Surplus Treaty Risks Distribution
3 line Surplus Treaty: Max Retention 100
600
500
400
300
200
100
0
1
2
3
4
5
6
7
8
9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24
20
QS & Surplus Treaties: Cessions
QS Risk Distribution
250
200
150
100
50
0
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
23
24
3 line Surplus Treaty: Max Retention 100
600
500
400
300
200
100
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
21
Distribution of Risk over QS & Surplus
Treaties
SI
300,000
500,000
1,000,000
4,000,000
5,000,000
9,000,000
10,000,000
12,000,000
15,000,000
QS Ret.
150,000
250,000
500,000
500,000
500,000
500,000
500,000
500,000
250,000
QS Cess.
150,000
250,000
500,000
500,000
500,000
500,000
500,000
500,000
250,000
4 line FSP
0
0
0
3,000,000
4,000,000
4,000,000
4,000,000
4,000,000
2,000,000
4 line SSP
0
0
0
0
0
4,000,000
4,000,000
4,000,000
2,000,000
Facultative
0
0
0
0
0
0
1,000,000
3,000,000
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
22
Distribution of Risk over QS & Surplus
Treaties
16,000
14,000
12,000
Fac
SSP
FSP
QS Cess.
QS Retn.
10,000
8,000
6,000
4,000
2,000
0
1
2
3
4
5
6
7
8
9
23
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
Risk details
%
Premium
10,000
Loss
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
10,000
100%
2,000
4,000
Total
24
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.
25
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.
26
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.
27
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.
28
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
29
Claims Bordereaux
Purpose
 To 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.

30
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
31
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.
32
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.
33
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.
34
Cash Loss (CL)

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.
35
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.
36
SOA will usually have following
debit and credit items
Credited to Reinsurers
o
o
o
o
o
o
o
Premiums net of returns and
cancellations.
PR Released.
LR Released.
Interest on Reserves.
P P/F incoming.
L P/F incoming.
Refund on Cash Loss
Debited to Reinsurers
o
o
o
o
o
o
o
o
Ceding Commission.
Tax on Premium.
PR retained.
LR retained.
Paid Claims.
P P/F Withdrawal.
L P/F Withdrawal.
Profit Commission.
37
Company Letter Head
U/W Year 2009
Quarter 3rd Q
Treaty Name & Quarter Period: 1.7.09 to 30.9.2009
QUARTERLY STATEMENT
Date
DEBIT
CREDIT
PREMIUMS: RECEIVED - RETURNED
COMMISSION @ 30%
REINSURANCE TAX @ 5%
50,000
15,000
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
BALANCE BROUGHT FORWARD
70,200
20,200
J B BODA SHARE: 30%
%
Net payable
EAGLE REINSURANCE CO
10.00%
2,020
SPARROW REINSURANCE CO
15.00%
3,030
5.00%
1,010
30.00%
6,060
PARROT REINSURANCE CO
TOTAL
38
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.

39
Commission

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.
40
Commission

Usually three methods employed:
Flat Percentage method.
 Flat Percentage plus Additional Percentage.
 Sliding Scale method.

41
Flat % Commission

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.
42
Flat + Additional Commission

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%.

43
S/S Commission

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.
44
S/S Commission

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.
45
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.

46
Calculation of L/R for S/S commission
run-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.
47
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%
48
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.
49
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)
50
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
51
Calculation of L/R for S/S commission
Clean-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
Earned
Premium
Losses Paid
for the year
+
P/F losses
P/F Losses
withdrawn at assumed at
the end
the beginning
Premium
+
ceded for the
P/F
P/F
year
Premiums
Premiums
assumed at withdrawn at
the beginning
the end
52
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
53
Overriding Commission
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%.

54
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.

55
Profit Commission (PC)
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:

56
Profit Commission (PC)

Commission on Profit paid by the Reinsurers to the
Reinsured as per a formula.
 Income:
1. Written Premium
2. 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.
57
Profit Commission (PC)
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.

58
Profit Commission (PC)

Income

Outgo
1)
P/F Premium
P/F Loss Entry.
Original Gross
Premiums included in
the accounts for the
current year.
1)
Commission.
Any other deductions.
Paid Losses & Loss
expenses.
P/F Premium withdrawal.
P/F Loss withdrawal.
Reinsurer’s Management
Expenses.
2)
3)
2)
3)
4)
5)
6)
59
Profit Commission (PC)
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.

60
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
U/W 1
Yr 2
(5,000)
U/W 2
Yr 3
Yr 4
(5,000) 1st (2,500) 2nd
Yr
Yr
Yr 5
(2,500)
3rd Yr
2,500
U/W 3
(1,200)
U/W 4
(1,200) 1st (700) 2nd
Yr
Yr
3,000
U/W 5
Result
10% PC
3,000
(5,000)
(2,500)
(3,700)
(700)
2,300
Nil
Nil
Nil
Nil
230
61
PC calculation for Engineering Treaty
Underwriting 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
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
375,000
500,000
625,000
750,000
875,000
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
192,900
249,800
50,000
30,000
56,900
(199,800)
(20,000)
5,000
INCOME
OUTGO
Commission at 25%
Claims Paid
Less PC as last year
PC for this year
192,900
62
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
63
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.
64
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.

65
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

66
U/W & A/C - at a glance
Accounting Year
U/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
67
U/W & A/C - at a glance
1998
Year 1
1999
Year 2
2000
Year 3
2001
Year 4
Total U/W yr
1998
1999
2000
2001
Total
A/c Yr
68
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
69
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.
70
U/W Year Method (run off)
A/c Yr 02
Reinsurers
U/W 2002
A/c Yr 03
A/c Yr 04
A/c Yr 05
Four Qtly A/c
Four Qtly
Run off A/c
Four Qtly
Run off A/c
Four Qtly
Run off A/c
PC Calculation
Revised PC
Revised PC
Revised PC
O/L Advice
Revised O/L
Revised O/L
Revised O/L
Four Qtly A/c
Four Qtly
Run off A/c
Four Qtly
Run off A/c
PC Calculation
Revised PC
Revised PC
O/L Advice
Revised O/L
Revised O/L
Four Qtly A/c
Four Qtly
Run off A/c
PC Calculation
Revised PC
Reinsurers
U/W 2003
Reinsurers
U/W 2004
Continue
Continue
Continue
O/L Advice
6
12
18
Revised O/L
24
71
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
Policy Incepts
A
S
O
N
D
72
SOA for Run Off Treaty
Credited to Reinsurers
o
o
o
o
o
Premiums net of returns and
cancellations.
PR Released.
LR Released.
Interest on Reserves.
Refund on Cash Loss
Debited to Reinsurers
o
o
o
o
o
o
Ceding Commission.
Tax on Premium.
PR retained.
LR retained.
Paid Claims.
Profit Commission (annual)
73
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.
74
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.
75
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.
76
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.

77
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
78
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.
79
A/c Year Method (Clean Cut)
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
U/W
2002
Reinsurers of next year, by P/F premium and loss entry.
B
C
B
C
E
F
2004
C
E
F
2005
C
E
G
E
G
2003
2006
A
D
G
80
A/c Year Method (Clean Cut)
2002
J
F
M
A
M
J
J
2003
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
81
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
82
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
Reinsurer A
outgoing
31.12.1998
Earned
Premium
Unearned
Premium
P/F Premium
Withdrawn
31.12.1999
1.1.1999
Reinsurer B
incoming
P/F Premium
Assumed
Earned
Premium
Unearned
Premium
P/F Premium
Withdrawn
31.12.2000
1.1.2000
Reinsurer C
incoming
P/F Premium
Assumed
Earned
Premium
Unearned
Premium
83
Portfolio Losses
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.
1.1.1998
31.12.1998
Paid Losses
Reinsurer A
outgoing
Outstanding
Losses
P/F Loss
Withdrawn
31.12.1999
1.1.1999
Reinsurer B
incoming
P/F Loss
Entry
Paid Losses
Outstanding
Losses
P/F Loss
Withdrawn
31.12.2000
1.1.2000
Reinsurer C
incoming
P/F Loss
Entry
Paid Losses
Outstanding
Losses
84
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
Policy Incepts
A
S
O
N
D
85
SOA for Clean Cut Treaty
Credited to Reinsurers
o
o
o
o
o
o
o
Premiums net of returns and
cancellations.
PR Released.
LR Released.
Interest on Reserves.
P P/F incoming.
L P/F incoming.
Refund on Cash Loss
Debited to Reinsurers
o
o
o
o
o
o
o
o
Ceding Commission.
Tax on Premium.
PR retained.
LR retained.
Paid Claims.
P P/F Withdrawal.
L P/F Withdrawal.
Profit Commission.
86
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
87
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.

88
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.

89
Premium Reserves (PR)

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.
90
Premium Reserves
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.

91
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 losses
 Some times include IBNR loading.
 Interest is paid.

92
Loss Reserves
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.

93
Example of PR & LR
Retained & Released (1)
Based on 40% PR & 100% LR & 4% Interest
Debit
Year 1
st
Premium
1 Qtr
PR retained
40,000
nd
Premium
2 Qtr
PR retained
48,000
rd
Premium
3 Qtr
PR retained
36,000
th
Premium
4 Qtr
PR retained
24,000
LR retained
23,000
Credit
100,000
120,000
90,000
60,000
94
Example of PR & LR Retained & Released (2)
Based on 40% PR & 100% LR & 4% Interest
Year 2
th
Premium
5 Qtr
PR retained
PR released
Interest
th
Premium
6 Qtr
PR retained
PR released
Interest
th
Premium Refund
7 Qtr
PR retained
PR released
Interest
th
Premium
8 Qtr
PR retained
PR released
LR released
Interest
LR retained
Debit
Credit
50,000
20,000
40,000
1,600
10,000
4,000
48,000
1,920
1,000
400
36,000
1,440
200
80
24,000
23,000
1,880
12,000
95
Various Reserves
Strengthen Solvency of an Insurer
A
A = Paid Up Capital
B = Free Reserves
C = Premium Reserves
D = Loss Reserves
E = Cat or Disaster Reserves
B
C
D
E
96
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%.
97
Methods of unearned Premium

Prorata 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 = 8287.67
 Administratively cumbersome & expensive

98
Methods of unearned Premium

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.
99
1/24th Method
J FMAM J J A S OND J FMAM J J A S OND
1/24th
3/24th
5/24th
7/24th
9/24th
11/24th
•Relatively accurate.
•Ideally suited, where
spread of policies
ceded is unbalanced.
13/24th
15/24th
17/24th
19/24th
21/24th
23/24th
100
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.
101
1/8th Method
Treaty Year 1
Treaty Year 2
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
1/8th
3/8th
5/8th
7/8th
102
Methods of unearned Premium

Flat percentage basis i.e 35% to 40%
system
Least 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.

103
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
104
105