Excess Of Loss Ratio Reinsurance With Examples
This type of arrangement is also known as STOP LOSS Reinsurance (SLR) and is a bit different from the Excess of Loss arrangement, even though both basically base on loss rather than sum-insured. Here, a relationship is usually drawn in between the gross premium and the gross claim over a year in a particular class of business. The ceding company decides a gross loss ratio up to which it can sustain.
The arrangement with the reinsurers is such that if at the year-end it is found that the total of all losses within the class has exceeded the predetermined loss ratio then the reinsurers will pay the balance loss so as to keep the loss ratio of the ceding company within the predetermined ratio. The treaty may contain an upper limit also.
Example : Proposition : Company ABC Insurance Co. of Canada has arranged an Excess of Loss Ratio Treaty with reinsurers whereby it will bear losses up to an amount not exceeding 70% of the gross premium of the class. The reinsurers have agreed to bear any balance so that the ceding company’s gross loss ratio is maintained at 70%, but not exceeding say 90% of the balance. Ceding company’s premium income is CAD. 1,00,00,000 and the total loss over the year is CAD.80,00,000.
The implication of loss distribution will be as follows : Loss CAD. 80,00,000.
This is 80% of the gross premium and therefore, reinsurers come into picture to keep this “loss ratio” down to predetermined 70% .
Ceding Co. bears (70% of premium) :CAD. 70,00,000
Reinsurer pays 90% of CAD. 10,00,000 :CAD. 9,00,000 (which is the balance of loss)
Ceding Co. again bears balance :CAD. 1,00,000
Total CAD. 80,00,000
Ceding Co. bears : CAD. 71,00,000
Reinsurers pay : CAD. 9,00,000
The visitors should realize that had there been no upper limit the full balance of CAD. 10,00,000 would have been paid by the reinsurers and the predetermined loss ratio of the ceding company would have been maintained. In this case, because of the upper limit, the predetermined loss ratio has been partly disturbed. This type of reinsurance is widely used for liability insurances and for catastrophe losses.
Pools Reinsurance Treaty: Pools are basically treaties, either quota share or surplus, in the sense that under these arrangements various member countries or member companies join their hands together beforehand for sharing each other’s premium as well as claims. These pools usually operate in respect of especially hazardous classes of business or where the market as a whole is weak to absorb the risk. In such circumstances, such pools providing mutual support become very useful. Examples of risks may be crop insurance, workmen’s compensation insurance etc.