Reinsurance
Financial Concerns
Frank J. Maffa, CFE, CIE
Vice President
American Re-Insurance
Company
Agenda
 Reinsurance
 Regulatory Concerns
 Reinsurance Program
 Reinsurance Contracts
 Credit for Reinsurance
 Reinsurance Accounting
 Reinsurance Reporting
 Reinsurance Collateral
 Reinsurance Audit
 Security Analysis
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Reinsurance
Reinsurance is Management tool.
• Manage Underwriting Risk
•Capacity / Spreading Risk
Ability to write more premium while maximizing
principle of insurance.
•Loss Control / Catastrophe Protection
Minimize financial impact from losses.
• Manage Financial Aspects
•Financing
Providing financial resources for growth.
•Stabilization
Minimize variations in financial results.
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Regulatory Concerns
Reinsurance is International
Many participants all over the world.
Who are the participants? How financially strong are they? Is
the risk, and the funds, retroceded and re-retroceded? How
do we know who has the ultimate responsibility/obligation?
Do the insurance laws of foreign countries/jurisdictions
equally protect the claimants, the policyholder, and the
regulator?
Reinsurance Contracts
Contracts are not of standard form.
Are all safeguards included in the contract?
Will reinsurer be able to deny coverage through technicality?
Who will reside over disputes and which laws will govern?
Is the regulator protected in the event of liquidation?
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Regulatory Concerns (continued)
Collection of reinsurance / Credit risk
Reinsurance is a long term commitment.
Is the reinsurer financially strong?
Affiliated reinsurance transactions
Risk remains within the group
Ceding company is still responsible to pay
obligation.
Funds are transferred to affiliate possibly in a
different country or jurisdiction.
How are funds invested? Safeguards on
assets.
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Reinsurance Program
Understand Company’s Objectives
• Spreading of Risk / Capacity
- Working Covers - Quota Share
• Loss Control - Limitation of Risk
- Excess of Loss Covers
- Catastrophe Protection
• Protection of Net Retention
- Stop Loss Covers
- Aggregate Covers
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Reinsurance Program (Continued)
• Selection of Reinsurers
- Due Diligence
- Financial Statements
- Rating Agency Reports
- IRIS Ratio Results
• Structure of Reinsurance Program
- Beneficial Order of Contracts
- Lines of Business Covered
- Limits of Coverage
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Reinsurance Program Examples
Catastrophe
Catastrophe
2nd Excess
1st Excess
2nd Excess
Surplus Share
Quota
Retention
Share
1st Excess
Surplus Share
Retention
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Quota
Share
Reinsurance Contracts
• Should Include: Name(s) of Reinsurer
Period of Contract
Business Covered
Limits of Coverage
Premium / Commission
Reporting / Settlements
Offset
Service Of Suit
Insolvency
Intermediary
Arbitration
Governing Laws
Termination
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Regulatory Contract Requirements
Insolvency Clause
Reinsurance is payable without diminution regardless of
the financial status of the ceding company.
Intermediary Clause
Credit risk for the intermediary is the responsibility of the
reinsurer. Payment
from the ceding company to the
broker is deemed paid to the reinsurer. Payment to the
broker from the reinsurer does not relieve the
obligations of the reinsurer to the ceding company.
Service of Suit Clause
Unauthorized reinsurers must designate the Insurance
Commissioner as the legal agent for the process of suit.
Credit for reinsurance is denied if contract is missing above provisions.
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Timely execution of Reinsurance contracts
Nine Month Rule - NAIC’s Accounting Practices
If a contract is not finalized, reduced to written form and
signed within nine months, the arrangement is presumed to be
retroactive and must be accounted for as retroactive contract.
Retroactive means that the loss experience under the contract
is known. The purpose of the contract is possibly for adverse
loss development or other reasons such as finance.
NAIC accounting rules do not allow insurance reserves to be
decreased by Retroactive reinsurance contracts.
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Credit for Reinsurance
US Statements of Statutory Accounting Principles
National Association of Insurance Commissioners (NAIC)
SSAP 62 – Property and Casualty Reinsurance
Appendix A-785 – Credit for Reinsurance
Accounting
A ceding company is allowed to decrease its insurance
reserves (take credit for reinsurance) if:
a. The reinsurance is prospective – covers future insurable
events.
b. Reinsurance is transacted with an approved/authorized
reinsurer, or
c. The reinsurer has provided collateral equal to the
amount of the reinsurance.
Otherwise ceding company is not allowed to decrease its
insurance reserves.
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Required Accounting
Flow Chart
Prospective
Risk
Underwriting
Accounting
Retroactive
Contract
No Risk
Risk
Retroactive
Accounting
(a)
Deposit
Accounting
(a) GAAP - Underwriting Accounting
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No Risk
Deposit
Accounting
Reinsurance Accounting
NAIC’s Accounting Practices and Procedures Manual
Statement of Statutory Accounting Principle - 62
Prospective Contract - A contract that covers future insurable
events.
“Underwriting Accounting” or Traditional Reinsurance Accounting
Retroactive Contract - A contract that covers past insurable
events.
“Retroactive Accounting” - Same as old Loss Portfolio Accounting
- No Reduction in Loss Reserves
- Asset “Retroactive Reinsurance” - a write-in Contra Liability
- Gain or Loss recognized as “Other” - a write-in line
- Benefit reported as Special Surplus - restricted
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Reinsurance Accounting
NAIC’s Accounting Practices and Procedures Manual
Codification - SSAP 62 (Continued)
If any contract does not meet Transfer of Risk
analysis
“Deposit Accounting”
- No reduction in Loss Reserves
- Gain not recognized until termination of
contract.
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Transfer of Underwriting Risk
NAIC SSAP – 62
Insurance risk is fortuitous - the possibility of
adverse events occurring must be outside the
control of the insured.
The reinsurance agreement must provide for:
VARIABILITY OF RESULTS
UNCERTAINTIES:
a. the ultimate amount of underwriting gain or
loss
b. the timing of the cash flows.
TIMELY REIMBURSEMENT OF LOSSES
REASONABLE POSSIBILITY OF SIGNIFICANT LOSS
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NAIC - SSAP 62
Transfer of Risk (Continued)
CASH FLOW ANALYSIS - Present value of all future cash
flows.
Under “REASONABLY POSSIBLE OUTCOMES”
Includes - Commissions, interest, margin fees, and
experience refunds.
If exposure to reinsurance risk is remote, the contract must be
accounted for as a deposit.
All cash flows processed through a deposit account.
Gain recognized at termination.
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Reinsurance Report
US – Schedule “F”
Provides:
Deficiencies:
• List of all reinsurers
• Summary of all transactions with each reinsurer
• Receivable on PAID LOSSES & LAE
Reconciles to amount on Balance Sheet
Aged for 90 days overdue
• Receivable on UNPAID LOSSES & LAE
Split between Case Reserves and IBNR
Reconciles to Underwriting Exhibits
• Collateral for reinsurance
By type: Funds Held, LOC’s, Trust Agree.
Funds Held reconciles to Balance Sheet
• Summary of all reinsurance with reinsurer.
• No rating on financial ability of reinsurer.
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Reinsurance Collateral
Funds Held by ceding company
• Used as a vehicle to collateralize the obligations of the
reinsurer.
• Emanates from premium records of ceding company.
Letters of Credit - LOC’s
• Must be issued by NAIC approved bank.
• Evergreen Clause - prior notice of termination.
• Clean & Unconditional - no contingencies on draw downs.
Trust Accounts
• Review underlying trust agreement.
• Proper beneficiary clause.
• Valuation of securities under trust.
•Collateral is a substitute for financial analysis of reinsurer.
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Reinsurance Audit
Critical Elements
• Reinsurance Program
- Company’s Objectives
- Type of Reinsurance
- Selection of Reinsurers
• Audit of Reinsurance
- Review of Contracts
- Reinsurance Accounting
- Transfer of Risk
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Reinsurance Audit
Critical Elements (Continued)
• Reinsurance Report - Schedule “F” U.S.
- Authorized / Unauthorized
- Affiliates / Non Affiliates
- Aging of Recoverable
- Provisions for:
• Unauthorized Reinsurance
• Overdue Reinsurance
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Reinsurance Audit
Critical Elements (Continued)
• Collateral for Reinsurance Report – Part of
Schedule “F”
- Funds Held
- Letters of Credit
- Trust Agreements
- Reciprocity (Setoff)
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Security Analysis
Company Background History of company/reinsurer
Ability of management.
Profitability Underwriting Performance
Investment Performance
Overall profitability
Capitalization Cushion for rainy days.
Base for growth.
Quality of assets.
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Security Analysis (Continued)
Leverage Premiums - underwriting risk
Loss Reserves - strength to absorb
adverse events.
Reinsurance Recoverable - credit risk
Investments - asset risk
Finance / Debt - ability to repay
Liquidity Balance Sheet
Cash Flow
Underwriting
Overall
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