RI Accounting for
Non Proportional Treaties
Mrs. A. U. Nayak
Director
J. B. Boda & Co (S) PTE LTD
Singapore
Accounting for Non Proportional

Under the XL treaties there are various
types of Premiums. But the accounting for
XL treaties is simple as there are





No commissions (generally no PC also)
No reserves.
No portfolios
Premiums are accounted separately.
Losses are recovered on individual basis
(assuming a Catastrophe loss is a single loss).
2
What is Non Proportional RI?



Non Proportional RI is basically a method of
reinsurance through which the reinsured obtains
protection for his portfolio.
There is no pre-decided fixed proportion in which the
reinsurer and reinsured share the premiums and
losses of a portfolio. Hence this is called “Non
Proportional”.
These methods are also called “Excess of Loss
Reinsurance.”
3
Why is it called “Excess of Loss”?

For a recovery under this method of
reinsurance:


The loss amount must exceed a fixed threshold
known as deductible or priority or underlying for
qualifying recovery from Reinsurers.
Reinsurer’s liability is also fixed, known as the
Cover Limit.
4
Why is it called “Excess of Loss”?
Excess of loss recovery :Layer 300,000 XS 200,000
3rd loss
700
600
2nd loss
500
400
Recovery
1st loss
300
200
Retention
100
0
100,000
400,000
600,000
5
Advantage & Disadvantages of XOL RI

Advantages:



Simple, easy and inexpensive administration.
Efficient and clear protection.
Disadvantages:




Premium cost may vary from year to year.
The Sum of retentions for a per risk cover can be relatively
high if the frequency of risk losses is large
Risk might run out of cover if unexpected frequency
exhaust the automatic reinstatements.
Further reinstatements might be at high costs (back-up
layers)
6
What are the main types ?



Risk XOL: which protects the reinsured from large
single risk losses, used for any traditional classes of
business where a single risk can be defined.
Catastrophe XOL: which protects the reinsured from
accumulation of losses out of a single event, used
for protection against traditional classes and
particularly for Nat-Cat perils.
Stop Loss XL: which protects the reinsured from
accumulation of losses over a certain period, usually
one year (e.g. Crop Insurance). Also known as
Aggregate Loss Ratio XL.
7
Risk Excess of Loss Cover



Generally the claims profile of an insurer shows most of
the losses are small in size & few claims are large.
Insurer has capacity to pay small claims but needs help to
pay large claims.
Hence he chooses to pay all losses up to a level he is
comfortable with and beyond that threshold asks the
reinsurer to pay.
Typical Ris k Los s e s
120
100
80
60
40
20
0
1
3
5
7
9
11
13
15
17
19
21
23
25
27
29
31
8
Catastrophe Excess of Loss

Excess of loss cover protection for accumulation of loss out of a
single event.

Proportional Reinsurance and Risk XL control the vertical exposure
on individual risks.

However the Cat XL protects an insurer from horizontal exposure,
when a single loss affects a number of policies and risks.

Natural events such as a flood, cyclone, earth-quake, volcanic
eruption, or, or man made event such as riots / large fires in
conflagration areas can cause wide-spread loss.
9
How does it work?

For example:





If the cover is 800,000 excess of 200,000.
Which means the loss must exceed 200,000 to qualify
for a recovery from the reinsurer .
But at the same time, the Reinsurer’s liability is limited
to 800,000.
All losses up to 200,000 each are retained net.
If there is a loss of 1,250,000:



Reinsured retains 200,000
Recovery from Reinsurer: 800,000
Balance 250,000 falls back to reinsured’s
retention – because the cover was inadequate.
10
How does it work?

The above example means:




Reinsured has to keep certain amount of loss retention on
every loss.
Reinsurer is NOT liable to pay every loss.
There is a limit to how much loss the Reinsurer will pay.
Since every risk is not shared in proportion, the
Reinsurer is not entitled for proportional premiums.
11
How does it work?
Excess of loss recovery : Layer 800,000 XS 200,000
1,600,000
1,400,000
1,200,000
1,000,000
800,000
600,000
400,000
200,000
0
12
Premiums in Non Proportional

GNPI = Written Premium less





Return Premium, Cancellations and premium on
reinsurances which reduce the exposure of the XL
Reinsurers.
XL Premium= GNPI x Rate of Adjustment.
M & D Premium= XL Premium x 80% or 90% as
may be negotiated & agreed.
Adjustment Premium= Excess of XL Premium
over the M & D Premium, but not vice versa.
Reinstatement Premium= Proportionate premium
payable to the reinsurers, in case of a loss
recovery, as per predetermined terms, which will
reinstate the cover limit of the XL treaty.
13
GNPI:
3 line Surplus Treaty: Max Retention 100
600
500
400
Net
Retained
Premium
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
14
XL Premium



Since every loss is not shared in proportion,
Reinsure is not entitled for proportionate
premium.
There can be years, when not a single loss is
recovered from Reinsurers and Reinsured
retains all losses, as they are within the
deductible level.
The XL premium is therefore worked out on the
basis of certain rating methods such as Burning
Cost, Exposure, ROL methods etc. Reinsurers
use rating models for various classes and trypes
of XL treaties.
15
How is Premium fixed for Non Prop?



A rate of adjustment is arrived at by using vaious methods of
rating and this rate is applied to the GNPI of the whole
portfolio.
The premium thus arrived is called the XL Premium.
 For example : GNPI is 20,000,000
 Rate of adjustment is 2%
 XL Premium is 400,000
Now the GNPI it self is an estimation by the Reinsured.
Depending on the market conditions and business strategies
of the Reinsured, the (estimated) GNPI :
 may be reached, say is accounted at 20,000,000
 may not be reached, may reach to 15,000,000
 or may exceed the estimate and reach to 25,000,000
16
XL Premium
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
GNPI
X
Rate of adjustment
= XL Premium
17
Minimum & Deposit Premium










XL Treaty is arranged for period 12 months at 1.1.2000
Information given to Reinsurers before 31.12.1999.
Hence the GNPI is estimated at say 2,000,000
But, the actual Accounted Premium will be known only at 31.12.2000
It might be more than 2 m or less than 2 m. Neither party knows.
Reinsurer is selling his capacity, he is providing capital to reinsured to
write large risks.
Hence Reinsurer wants a minimum return on the capacity sold or
capital provided.
Therefore a minimum and deposit premium is charged – which is
payable in advance.
In the above example, if the rate is 5% - then the XL Premium would be
100,000
The MDP would be charged say at 85% or 90% of the XL Premium.
18
Adjustment Premium





The Reinsurers will receive MDP during the period
of cover.
At the end of the cover when the actual accounted
GNPI is known, the final XL Premium is to be
ascertained.
In above case if final GNPI is 2,500,000
Then the actual XL Premium would be 125,000 (2.5
m XS 5%)
The Reinsurer has already received MDP of 90,000,
hence by way of Adjustment Premium he will receive
the balance 35,000
19
Accounting for Non Proportional

Calculation of Premiums:

Terms: GNPI 20,000,000 (Period 12 months @ 1.1.2000)
XL Rate: 2.5%
XL Premium: 500,000
M & D @ 85%:425,000

payable quarterly in advance.










1st installment on 1st January 2000 : 106,250
2nd installment on 1st April 2000 : 106,250
3rd installment on 1st July 2000
: 106,250
4th installment on 1st Sept. 2000
: 106,250
Actual GNPI @ 31.3.2001 is 22,000,000
XL Premium = 550,000
Adjustment Premium due to Reinsurer is 125,000
20
BC Premium

Assumption: Motor /WC/EL XL 1st layer.





GNPI 2,500,000. Period 1.1.99 to 31.12.99 LOD basis.
Treaty : 1,000,000 XS 500,000
Rate min 4% & max 10%. XL P 100,000 (technically there
should be no MDP when the rate is Min & Max)
Loading factor 100/70.
BC Calculation:





During the year there is one loss of 700,000.
Recovery from Reinsurer is 200,000
Pure BC = 200,000 / 2,500,000 X 100 = 8%
Loaded BC = 8 *100/70 = 11.43%
Maximum rate is 10% Hence BC adjusted Premium is
250,000. Already paid 100,000, so AP 150,000
21
Reinstatement Premium





Cover : 500,000 xs 500,000 at cost of 50,000
Loss of 400,000 recovered from the cover.
Hence the balance protection reduced to
100,000 for the remaining term.
The Cedant would like to reinstate the cover to its
original level by paying additional premium,
known as the reinstatement premium.
This can be @ 50% or 100% or 125% etc. of the
original XL Premium or can even be free of cost
e.g. in case of the Motor XL 1st layer.
22
Reinstatement Premium
Reinstatement Premium
300,000
3
2
200,000
0
200,000
Loss of 700,000 recovers
200,000 from layer
MDP 50,000
500,000
500,000
1
200,000
Reinstate at
Additional
Pro-rata Premium
Of 30,000
400,000
600,000
800,000
1,000,000
1,200,000
23
Calculation of Reinstatement Premium
Assumptions: Cover 500,000 XS 500,000 EEL & Premium 50,000
2 full Reinst. 1st @ 50% & 2nd @ 100% AP Pro rata as to amount only.
Formula:
Claim Amount X Premium X 50% 1st
Cover
X 100% 2nd
FGU Loss
Recovery
MDP 50,000
Cover
Reinstated
Additional Reinst.
1st Reinst. @
Premium
50% AP
1st Loss
1,000,000
500,000
500,000
2nd Loss
1,000,000
500,000
500,000
3rd Loss
800,000
300,000
4th Loss
1,000,000
200,000
Total
1,700,000
1,500,000
25,000
50,000
2nd
Reinst.
@ 100%
AP
1,000,000
75,000
24
Adjustment Premium




Cover is 1,000,000 XS 500,000
EGNPI is 5,000,000
Rate is 2%
E XL Premium 100,000 & MDP 90,000
GNPI
Rate
XL Premium
Less MDP
Adjusted
Premium
1 6,000,000
2%
120,000
90,000
30,000
2 3,500,000
2%
70,000
90,000
Nil
25
Accounting for Non Proportional


Policy attaching basis &
Losses Occurring Basis.
31.12.2002
1.1.2002
Policy 1
Policy 2
U/W Yr 2002
Loss 1
Loss 2
Loss 3
Loss 4
Policy 3
Policy 4
Loss 5
•Reinsurers on a “Policy Attaching” contract will pay No.3, 4 & 5 losses.
•Reinsurers on a “Losses Occurring” contract will pay No. 1,2, & 3 losses.
26
Preliminary Loss Advise
ON COMPANY LETTER HEAD & DATE / REFERENCE TO BE MENTIONED
We regret to advise a loss as per following particulars:
1.
Cover
2.
Name of Insured
3.
Policy No
4.
Claim No
5.
Date of Loss
6.
Period of Insurance
7.
Sum Insured
8.
Particulars of Loss
9.
Description of Risk Covered
10.
Est. Amount of Loss
11.
Deductible
12.
Est. Amount of loss affecting layer
We shall keep you informed of the further development, meanwhile kindly
register this claim in your books.
27
Loss Recovery Advice
Assumptions: Cover 500,000 XS 500,000 EEL & Premium 50,000
2 full Reinst. 1st @ 50% & 2nd @ 100% AP Pro rata as to amount only.
Formula:
Claim Amount X Premium X 50% 1st
Cover
X 100% 2nd
FGU Loss
Recovery
MDP 50,000
Reinstatement
Premium
Reinsurer Pays
1st Loss
1,000,000
500,000
25,000
475,000
2nd Loss
1,000,000
500,000
50,000
450,000
3rd Loss
800,000
300,000
300,000
4th Loss
1,000,000
200,000
200,000
Total
1,700,000
1,500,000
75,000
1,425,000
28
Chain of Non Proportional Accounting







Settlement of MDP in advance
Loss advise
Revised Loss advise and loss survey
Recovery of Claims after discounting the
reinstatement premium.
Advice of Losses outstanding at the end of the year.
Advice of final accounted GNPI and adjustment
premiums at the end of the year.
This advice should sent for few years, until all risks
are fully serviced.
29
Some important clauses pertaining
to the
Non Proportional Treaties
30
Ultimate Net Loss Clause (UNL)


Defines a loss as a sum that the Ceding Company
sustains following a loss, after necessary
adjustments are made.
Intention is that the Reinsurer is liable only when the
amount including legal cost and other loss
settlement expenses, actually paid by the Ceding
Company less all recoveries from underlying
reinsurances or other sources exceeds the loss
retention or the underlying.
31
Claims reporting Clause



The Ceding Co. is obliged to notify the loss to
the reinsurer ASAP with the date & basic
details of loss.
Reinsurer may request for additional details
and then set up required reserves.
Any loss that may be 75% or more than the
loss retention and is likely to increase further
needs to be advised to the Reinsurer.
32
Claims Co-operation Clause

Ceding Company’s obligation regarding
liaison with the reinsurer over the conduct
and negotiation of losses, thus allowing the
reinsurer to be closely involved in any such
negotiations.
33
Stability / Index Clause


For Long Tail business there is time of several years,
between the date of loss occurrence and actual date of
settlement.
Hence due to inflation the final settled amount might be
much larger than estimated originally.
Year
Value of Loss
Rate of Inflation
Inflated Loss
1
200,000
8.5%
217,000
2
217,000
9.75%
238,158
3
238,158
10.25%
262,269
4
262,269
11.80%
293,551
Value of Loss at date of occurrence: 200,000
Value of loss if settled after 4 years : 293,551
34
Stability Clause

Reasons for increased cost of Loss:





Inflation.
Personal injury awards related to earnings, which may
increase over the years.
Improvement in know-how and costs of medical
treatment.
Tendency of Courts to be generous towards the
claimant.
Under Pro-rata treaty the Cedant and Reinsurer
share the loss in same proportion. However for
Non Proportional Treaty the increase in cost may
involve the Reinsurer, who otherwise would not
have been involved in the loss.
35
Stability Clause

Looking back to the example, if the cover
was 300,000 XS 100,000:
Value at the date of accident
200,000
Cedant’s share of loss
100,000
Reinsurer’s share of loss
100,000
Value of loss after 4 years
293,551
Cedant’s share of loss
100,000
Reinsurer’s share of loss
193,551
36
Stability Clause

Purpose of Stability Clause:


To spread impact of inflation equitably between
the Cedant and the Reinsurer in the same
proportion as if there was no influence of inflation.
This is achieved by applying a particular INDEX
to Cedant’s retention and measuring the variation
in that INDEX between



The date of inception of treaty &
The date of settlement of loss
Let us now see, how this will have an effect on
our example.
37
Stability Clause
Value of loss
on day 1
200,000
Index at
inception
Value of loss
after 4 years
293,551
Index at date of
payment
100
146.77
Formula : Payment
Actual Payment Value X Index at inception = Adjusted Payment Value
Index at date of Payment
293,551 X 100/146.77 = 200,000
Formula: Retention
Retention at inception X Actual Payment Value = Adjusted Retention
Proportion of Cedant &
Adjusted Payment Value
Reinsurer is the same.
100,000 X 293,551/200,000 = 146,775
Value
of loss after 4 years
Cedant’s retention
Reinsurer’s Liability
With Stab. Cl
293,551
146,775
146,776
Without Stab. Cl
293,551
100,000
193,551
38
Stability Clause & Franchise




A Stability Clause may provide for say 10% Franchise.
For example if the Cover is 300,000 XS 100,000
 Base Index is 100
 Settlement Index 146.77
 The increase in the Index is by 46.77 and exceeds the
franchise of 10% hence Stability Clause will be applied as
normal
 Had the increase in the base index and the settlement index
been less than 10% the Stability Clause would not be
applicable.
The base index would normally be
 The date of inception or renewal of a Treaty or sometimes the
date of loss occurrence.
The settlement index would normally be
 The date of settlement of loss.
39
Hours (Definition of Loss Occurrence) Clause



Applicable to treaties covering events that may last for a number of
days, such as flood, Cyclone, Riots etc.
Defines “Event” by putting time limit e.g. 72 hours (3 days) for
Hurricane/ Riots etc. and 168 hours (7 days for Flood / Winter Storm).
Continuous period to be applied
Following graph indicates pattern of a flood lasting for 16 days:
500000
450000
400000
350000
300000
250000
200000
150000
100000
50000
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
40
Hours (Definition of Loss Occurrence) Clause
500000
450000
400000
350000
300000
250000
200000
150000
100000
50000
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
41
Hours Clause
Day
Loss
Event
1
20,000
2
50,000
3
70,000
4
100,000
5
0
6
460,000
7
80,000
8
450,000
9
10,000
10
50,000
11
100,000
12
70,000
13
70,000
14
250,000
15
120,000
16
retains
recovers
3 events means 3 retentions
780,000
350,000
430,000
1,000,000
350,000
650,000
50,000
170,000
170,000
0
1,950,000
1,950,000
870,000
1,080,000
42
Hours Clause
Day
Loss
Loss
Event
1
20,000
20,000
2
50,000
50,000
3
70,000
70,000
4
100,000
100,000
5
0
0
6
460,000
460,000
7
80,000
80,000
8
450,000
450,000
9
10,000
10,000
10
50,000
50,000
11
100,000
100,000
12
70,000
70,000
13
70,000
70,000
14
250,000
250,000
15
120,000
120,000
16
50,000
50,000
1,950,000
1,950,000
20,000
retains
20,000
recovers
0
Two Events, and two
Loss retentions
1,210,000
350,000
860,000
10,000
10,000
0
710,000
350,000
360,000
1,950,000
730,000
1,220,000
43
Interlocking Clause (risks attaching)

Purpose of this clause to allocate or apportion
the liability


If arising out of ONE Event or Cause
But falling in the scope of



TWO or MORE parallel treaties or
TWO or MORE underwriting years of the same treaty.
Effect of this clause is

To proportionately scale down the limits of treaty to
apportion and allocate loss to each contract. Otherwise
the Cedant has to bear full retention under each of the
treaties or underwriting years affected.
44
Interlocking Clause - Example
Assumption:
Cover 1999= 300,000 XS 200,000
Cover 2000 = 400,000 XS 100,000
Loss occurs on
15.10.2000 for 400,000
Apportionment of the loss
1999 policies
2000 policies
120,000 means 30%
280,000 means 70%
Allocation of the Loss
1999 (30% of original limits)
2000 (70% of original limits)
90,000 XS 60,000
280,000 XS 70,000
Year
Gross loss
Cedant’s retention
Reinsurer’s Liability
1999
120,000
60,000
60,000
2000
280,000
70,000
210,000
Total
400,000
130,000
270,000
Gross loss
Cedant’s retention
Reinsurer’s Liability
120,000
120,000
Nil
280,000
100,000
180,000
400,000
220,000
180,000
45
46