Reinsurance

Determination of risk transfer in reinsurance agreements How to tell if insurance risk exists?

( reinsurer assumes significant insurance risk under the reinsured portions of the underlying agreements AND it is reasonably possible that the insurer may realize a significant loss from the transaction (based on the PV of all cash flows between the ceding and assuming company) ) OR If reinsurer has assumed substantially all of the risk

Accounting for novations requirements to receive this accounting treatment

(1) parties cannot be affiliated (unless prior regulator approval from domiciliary state) (2) accounting for original agreement cannot be altered from retroactive to prospective

Discuss the categories/types of reinsurance Treaty - Catastrophe

* Treaty Reinsurance - Catastrophe* - ceding entity is indemnified, subject to a specified limit, against the amount of loss in excess of a specified retention with respect to an accumulation of losses resulting from a cat event, or series of cat events

Discuss the categories/types of reinsurance Facultative - Excess of Loss

*Facultative - Excess of Loss* (non-proportional) - ceding entity is indemnified, subject to a specified limit, for losses in excess of its retention with respect to a particular risk

Discuss the categories/types of reinsurance Facultative - Pro Rata

*Facultative - Pro Rata* (proportional) - ceding entity is indemnified for a specific % of loss and loss expenses arising under a specific insurance policy for that percentage of the policy's premium

P&C Run-off Agreements How does it work? How is it different from a novation?

*How does it work?* insurer transfers essentially all of the risks and benefits from a specific line of business or market segment that is no longer actively marketed by the transferring entity *How is it different from a novation?* transferring insurer remains primarily liable to the policyholder or the ceding entity under the original contracts of insurance or reinsurance

How to treat Commissions? Payable on ceded business? Receivable on ceded business?

*How to treat Commissions?* Offset Them!! *Payable on ceded business?* offset against Agents' Balances *Receivable on ceded business?* offset against Ceded Reinsurance Balances Payable

Commutations of Reinsurance exiting a line a line of business: how this works for primary insurer? Reinsurer?

*Primary Insurer* Commutation is only a first step. Once the reinsurance arrangement has been commuted, still need to enter a run-off or novation agreement for the line of business *Reinsurer* Commutation of assumed line of business and voila, done

Commutations of Reinsurance Solvency Concerns risks for primary insurer? Reinsurer?

*Primary Insurer* commutation provides immediate cash infusion and eliminates credit risk of shaky reinsurer *Reinsurer* commutation eliminates risk of future problems of dealing with a liquidator

Discuss the categories/types of reinsurance Treaty - Excess of Loss

*Treaty - Excess of Loss* (non-proportional) Excess per Risk - ceding entity is indemnified subject to a specified limit against the amount of loss in excess of a specified retention with respect to each risk covered by the treaty Aggregate Excess of Loss - ceding entity is indemnified against the amount by which the ceding entity's net retained losses incurred during a specific period exceed a predetermined dollar amount or a % of the entity's subject premiums, subject to a specified limit

Discuss the categories/types of reinsurance Treaty - Pro Rata

*Treaty - Pro Rata* (proportional) Quota Share - ceding entity is indemnified against a fixed % of loss on each risk covered in the agreement Surplus Share - ceding entity establishes a retention line and cedes a fraction or multiple of that line on each policy up to a a specified maximum cession

Discuss the categories/types of reinsurance EVERYTHING!!!! Mooowahahahahaa

*Treaty - Pro Rata* (proportional) Quota Share - ceding entity is indemnified against a fixed % of loss on each risk covered in the agreement Surplus Share - ceding entity establishes a retention line and cedes a fraction or multiple of that line on each policy up to a a specified maximum cession *Treaty - Excess of Loss* (non-proportional) Excess per Risk - ceding entity is indemnified subject to a specified limit against the amount of loss in excess of a specified retention with respect to each risk covered by the treaty Aggregate Excess of Loss - ceding entity is indemnified against the amount by which the ceding entity's net retained losses incurred during a specific period exceed a predetermined dollar amount or a % of the entity's subject premiums, subject to a specified limit * Treaty Reinsurance - Catastrophe* - ceding entity is indemnified, subject to a specified limit, against the amount of loss in excess of a specified retention with respect to an accumulation of losses resulting from a cat event, or series of cat events *Facultative - Pro Rata* (proportional) - ceding entity is indemnified for a specific % of loss and loss expenses arising under a specific insurance policy for that percentage of the policy's premium *Facultative - Excess of Loss* (non-proportional) - ceding entity is indemnified, subject to a specified limit, for losses in excess of its retention with respect to a particular risk

Describe the two classes of reinsurance agreements

*Treaty* involves reinsurance for an entire line or class of business *Facultative* involves reinsurance at the individual risk level

Syndicated Letter of Credit What is it? Conditions for ceding company to recognize the letter?

*What is it?* a LOC issued from several different banks *Conditions for ceding company to recognize the letter?* all banks listed on LOC are qualified under NAIC SVO approved bank listing banks are severally and not jointly liable specific assuming % for each bank is listed in the LOC

Accounting for Portfolio Reinsurance What is portfolio reinsurance? How is the accounting done?

*What is portfolio reinsurance?* the transfer of an insurer's entire liability for in force policies or outstanding losses, or both, of a segment of the insurer's business *How is the accounting done?* Exactly the same as Retroactive Reinsurance

When are reinsurance premiums due considered a non-admitted asset? What is the exception to this rule?

*When are reinsurance premiums due considered a non-admitted asset?* if > 90 days past due *What is the exception to this rule?* the reinsurer maintains UEPR and loss reserves due to the ceding entity (admitted balance is limited to the size of these reserves) or the ceding entity is licensed and in good standing

For what adjustable features does the insurer need to accrue?

*commissions* accrue for contingent / profit / sliding scale commissions *premium adjustments* accrue a liability for the additional premium due, during the period of the loss event that generated the additional premium *amount of coverage* establish an asset or liability by adjusting the initial premium for the change in the amount of coverage. Recognize during the period of the loss event that caused the change

common reinsurance contract provisions that may impact accounting termination

*cut-off basis* reinsurer not responsible for any losses that occur after the date of termination *run-off basis* reinsurer remains liable for reinsured policies that were inforce at the date of termination until such policies expire or are cancelled.

Accounting for Retroactive Reinsurance how to account for increase/decrease in total reserves ceded under a retroactive reinsurance agreement

*how to account for increase/decrease in total reserves ceded under a retroactive reinsurance agreement* *Ceding Entity* Statement of Capital and Surplus Special Surplus Increase/Decrease Statement of Income Other Income Retroactive Reinsurance Gain/Loss *Assuming Entity* Statement of Income Other Income Retroactive Reinsurance Loss/Gain

Deposit accounting initial accounting for consideration paid ceding entity assuming entity

*net consideration paid* (premiums less commissions) *ceding entity* record as deposit, admitted asset only if: Assuming company is licensed/accredited in ceding company's state of domicile or there are funds held on behalf of the assuming company *assuming entity* record as liability

Commutation of Reinsurance Telltale sign that an insurer entered into a commutation *primary - buyer* *reinsurer - seller*

*primary - buyer* Net paid LDFs develop downward the commutation should be mentioned in the Notes to the financial statement *reinsurer - seller* paid LDFs ratchet sharply upward increase in claims closure rate the commutation is not required to be mentioned in the Notes to the financial statement for the seller

Commutation of Reinsurance How is the accounting done? (AGAIN) primary insurer (original ceding entity)? reinsurer?

*primary insurer (original ceding entity)?* Balance Sheet eliminate reinsurance recoverable (Loss & LAE reserves increase) consideration received increases ledger assets Income Statement consideration received is recorded as a negative paid loss eliminate reinsurance recoverable (Loss & LAE reserves increase) any gain/loss flows through u/w income *reinsurer?* Balance Sheet consideration paid decreases ledger assets eliminate associated loss reserves Income Statement consideration paid is recorded as a paid loss eliminate associated loss reserves any gain/loss flows through u/w income

When Reinsurance Agreement Includes Multiple Cedents what is required?

An allocation agreement that is *in writing* and is *fair and equitable*

P&C Run-off Agreements - Runoff Accounting Assuming Entity Accounting for loss reserves transferred

Increase Reinsurance Assumed

Deposit accounting Loss & LAE reserves Ceding Entity

No deduction in any exhibit!!!!

List five other types of agreements that have special accounting rules

Structured Settlements Novations Termination / Reduction of participation in a reinsurance treaty Inter-company Reinsurance agreements among companies 100% owned by a common parent or ultimate controlling entity (provided there is no gain in surplus from the transaction) P&C Run-Off Agreements if agreement does not transfer both components of insurance risk, Deposit Accounting

Accounting for novations Accounting for original insurer Accounting for assuming insurer

The accounting is the same as for prospective reinsurance!!! *The original insurer (the one getting rid of liabilities)* amounts paid will be recorded as a reduction to WP, EP and Unearned Premiums to the extent that premiums have not been earned Novated balances shall be written off the through the accounts, exhibits, schedules where they were originally recorded *The assuming insurer* report amount received as WP, EP obligations assumed as incurred losses in Statement of Income

Define Reinsurance

The assumption of all or part of a risk undertaken originally by another reinsurer

Commutation How do these work

a agreement between a ceding insurer and the reinsurer that provides for the *valuation, payment and complete discharge of all obligations between the two parties under a particular reinsurance contract* for the original ceding entity, the reinsurance it was receiving goes away for the original assuming entity, the reinsurance it was paying goes away all commuted balances are written off original schedules in which they were recorded

What is a Novation

a transaction by which an insurers obligations are completely extinguished (no further exposure to loss arising on business novated)

Accounting treatment for WYO flood insurance through NFIP (backed by FEMA)

account for a prospective reinsurance. Treat FEMA as the reinsurer

Accounting for Retroactive Reinsurance other instances when retroactive accounting treatment applies

all transactions that transfer liabilities in connection with a court ordered rehabilitation, liquidation, or receivership

Accounting for Prospective Reinsurance Ceding Entity amounts paid: premium and reinstatement premium

amounts paid - record as a reduction to WP and EP, earned over remaining contract period in proportion to the reinsurance protection provided reinstatement premium - earned over period from reinstatement of limit to expiration of agreement

Accounting for Retroactive Reinsurance Ceding Entity surplus gain from retro reinsurance

any surplus gain (reserves transferred - consideration paid) will be designated to restricted special surplus, on Capital and Surplus Accounts page it will appear as *special surplus from retroactive reinsurance* as the ceding entity begins to recover funds from the assuming entity in excess of the consideration paid, special surplus will decrease and unassigned funds will increase. this is done on a by agreement basis so that special surplus can only decrease (at most) by the initial surplus gain of the contract. on the income statement, the initial gain will be recorded under other income as the write in item *Retroactive Reinsurance Gain*

P&C Run-off Agreements - Runoff Accounting Transferring Entity Accounting for consideration paid

at inception: consideration paid is recorded as a paid loss if consideration paid < loss reserves transferred, the difference will be recorded as a decrease in incurred losses

P&C Run-off Agreements - Runoff Accounting Assuming Entity Accounting for consideration paid

at inception: consideration received is recorded as a negative paid loss if consideration paid < loss reserves transferred, the difference will be recorded as a decrease in incurred losses

Commutations of Reinsurance How to price a commutation?

both the primary insurer and the reinsurer will estimate the timing and amounts of future claim payments from the reinsurer to the ceding entity (the two parties will likely come up with different estimates) they will then discount these payment streams to present value now make an adjustment to reflect each entity's unique tax treatment finally, consider any unique factors relating to the commutation (if solvency is a concern need to consider the expected cash flow if not all amounts are recoverable).

Deposit accounting subsequent accounting for consideration paid ceding entity assuming entity

calculate the effective yield on the deposit to reflect actual payments to date and expected future payments apply this yield to the expected future payments the difference between the current deposit and the PV(Future Payments) is input as a credit or charge to interest income or interest expense any cash transaction (payments made) will reduce the asset/liability by the amount of the cash transferred

What if ceding commission > anticipated acquisition costs? ceding company? assuming company?

ceding company? establish a liability = [ceding commission] - [anticipated acquisition cost] amortize this amount over the effective period of the reinsurance agreement assuming company? do nothing...

Accounting for Prospective Reinsurance Ceding Entity reinsurance recoverables

changes in reinsurance recoverables are recognized as a change in incurred losses on income statement reinsurance recoverables on paid Loss and LAE, report as an asset on the balance sheet *Reinsurance Recoverable on Loss & LAE* reinsurance recoverables on unpaid losses, net against reserves (Case and IBNR)

Determination of risk transfer in reinsurance agreements Evaluation of significance of loss

compare PV of all cash flows with PV of amounts paid by reinsurer...use a single appropriate rate discount rate for all cash flows b/c interest rate risk should not be considered

P&C Run-off Agreements - Runoff Accounting Transferring Entity Accounting for UEPR transferred

decrease UEPR decrease WP

common reinsurance contract provisions that may impact accounting reporting responsibility of ceding entity

details required, establishes timing schedules for loss reporting

Commutations of Reinsurance commutation because relationship has soured...why?

disputes over claim resolution or contract provisions

When are Reinsurance Premiums considered due?

due 30 days after either: date at which notice of premium is provided to the ceding entity date at which assuming entity books the premium

Commutations of Reinsurance What are the reasons (motivations) for a party wanting to enter a commutation of reinsurance agreement?

either the primary insurer or reinsurer may want *to exit a line of business* either the primary insurer or reinsurer may have *solvency concerns about the counter-party* *relationship has soured* between the primary insurer and reinsurer if the primary insurer and reinsurer have *different opinions on loss development*, a commutation may leave *both parties thinking they made a good deal*

Commutation Accounting original Assuming Entity

eliminates loss reserve cash payout any net gain or loss is reported in u/w income in statement of income

Commutation Accounting original Ceding Entity

eliminates reinsurance recoverable cash received is recorded as negative paid loss any net gain or loss is reported in u/w income in statement of income

common reinsurance contract provisions that may impact accounting payment terms

establishes timing of payments, intended currencies, rights of parties to withhold funds

Accounting for Retroactive Reinsurance Assuming Entity Loss and LAE reserves subject to retro reinsurance

exclude retroactive reinsurance from loss and loss expense reserves from all schedules and exhibits on balance sheet, record amount amount of assumed reserves as a liability *retroactive reinsurance reserve assumed*

Purposes of Reinsurance

expand capacity share large risks with other insurers spread the risk of potential catastrophes and stabilize underwriting results finance expanding volume by sharing the financial burden of reserves withdraw from a line or class of business reduce net liability to amounts appropriate to the level of financial resources (NWP:PHS)

Deposit accounting subsequent change in loss valuation ceding entity assuming entity

if losses are valued up *ceding entity* increase deposit asset, offsetting credit to interest income increase outstanding loss liability, offsetting charge to incurred loss *assuming entity* increase deposit liability, offsetting interest expense

Commutation of Reinsurance why would a party be willing to commute at a small economic loss?

if the counter-party is in financial difficulty and the transaction would avoid the potential for a much larger loss should the troubled party go insolvent

It is not uncommon for a reinsurance agreement to be initiated before the beginning of a policy period but then not be finalized until after the policy period begins. When is the cut-off where the reinsurance policy must be accounted for as retroactive reinsurance

if the policy has not been finalized 9 months after commencement of the policy period

Accounting for Retroactive Reinsurance what changes when the agreement is between two affiliates

if there is a surplus gain to the ceding entity: consideration paid by the ceding entity is recorded as a deposit and is classified as non-admitted no deduction is made from the Loss and LAE reserves on the ceding entity's balance sheet, schedules, and exhibits

P&C Run-off Agreements - Runoff Accounting Assuming Entity Accounting for UEPR transferred

increase UEPR increase WP

P&C Run-off Agreements - Runoff Accounting Transferring Entity Accounting for loss reserves transferred

increase the ceded reinsurance recoverable by the amount of the reserves transferred

Accounting for Retroactive Reinsurance Assuming Entity surplus loss from retro reinsurance

initial loss will be reported as a write in item *Retroactive Reinsurance* Loss and included under Other Income

Required Terms for All Reinsurance Agreements "*Reports of intermediary insolvency* leave *no guarantee of proper recoveries*"

insolvency clause recoveries due to ceding entity available without delay no guarantee of profit to either party reporting of premiums and losses, payment of losses at least quarterly reinsurance intermediary clause - credit risk of intermediary is carried by assuming entity proper funding clause - certified reinsurers must provide and maintain security in amount sufficient to avoid the imposition of any financial statement penalty on the ceding entity

P&C Run-off Agreements criteria to receive run-off accounting (8)

must be approved by the domiciliary regulator of both the transferring entity and the assuming entity (if same state, second regulator corresponds to the state with the highest % of liabilities being transferred) assuming entity properly licensed limits and coverages must not change from original agreement no adjustable features, no recourse against transferring entity assuming reinsurer must receive a financial strength rating >= that of the transferring entity from two independent NAIC credit rating providers. Lowest rating received will be used for comparison Assuming entity is responsible for all assessments (even guaranty fund) related to the run-off business it assumes can only apply to lines no longer actively marketed by the transferring entity non-cancelable by either party for any reason

Commutation of Reinsurance How to adjust for commutation

need to adjust for the effect of the commutation when determining LDFs and assessing reserve adequacy there will be a disclosure for the buyer but maybe not for the seller in their annual statement. Either way this disclosure is not sufficient info to adjust the data as commutations typically impact multiple years and even multiple lines of business

Commutation of Reinsurance why would the tax impact differ between the two parties (not be symmetrical)

one or both parties may use their own historical payment patterns for discounting (rather than IRS) the effective marginal tax rate may differ between the two companies for non-proportional reinsurance the ceding and assuming entity will not classify the business the same primary - classifies by original LOB reinsurer - classifies as "non-proportional assumed liability"

What is the difference between prospective and retrospective reinsurance?

prospective reinsurance reimburses ceding entity for losses that may be incurred as a result of future insurable events retroactive reinsurance reimburses ceding entity for liabilities incurred as a result of past insurable events

Accounting for Retroactive Reinsurance Ceding Entity Loss and LAE reserves subject to retro reinsurance

record all loss and LAE reserves on a gross basis (no credit for retro reinsurance in reserves!!!) on balance sheet, record amount amount of ceded reserves as a contra-liability *retroactive reinsurance reserve ceded*

How to account for: Reinsurance Recoverables on paid losses

record as Admitted Asset, do not offset!

How to account for: Funds Held or deposited with insured companies

record as admitted asset, however any amounts excess the liabilities they secure is non-admitted. additionally if the reinsured is insolvent they are non-admitted

Accounting for Retroactive Reinsurance Ceding Entity Consideration Paid

recorded as an decrease in ledger assets by the ceding entity

Accounting for Retroactive Reinsurance Assuming Entity Consideration Received

recorded as an increase in ledger assets by the assuming entity

common reinsurance contract provisions that may impact accounting insolvency clause

reinsurer is still liable for the full amount of its obligations to the ceding entity even if ceding entity becomes insolvent

Commutation of Reinsurance What distortions does a commutation result in for the reinsurer (seller)

remember what happens... consideration paid is recorded as a paid loss and reserve is reduced to zero (claim is closed) the commutation will severely distort paid and reserve triangles for the seller, ultimate triangle is impacted by the difference between the amount of the reserve eliminated and the consideration paid), claims closure rates will also be distorted

Commutation of Reinsurance What distortions does a commutation result in for the primary insurer (buyer)

remember what happens... consideration received is recorded as a negative paid loss and reinsurance recoverable credit is removed the commutation will severely distort ceded and net triangles for the buyer, gross triangles is not impacted

common reinsurance contract provisions that may impact accounting

reporting responsibility of ceding entity payment terms payment of premium taxes termination insolvency clause

Contractual features to consider when determining if reinsurance agreement has assumed significant insurance risk

review any features that: *limit amount of insurance risk* experience refunds cancellation provisions adjustable features additions of profitable lines of business to the contract *delay timely reimbursement of claims by the reinsurer* payment schedules accumulating retentions from multiple years

How to account for a reinsurance policy with both prospective and retrospective provisions?

separate into prospective vs retrospective and account for separately, if this is not feasible, then account for as retroactive reinsurance

Additional Required Terms for Retroactive Reinsurance Agreements "*Consideration states* that no *compensation, experience adjustments, or cancellation* are allowed"

the consideration to be paid by the ceding entity for the retroactive reinsurance must be a sum stated in the the agreement no direct or indirect compensation to either party no provisions for subsequent adjustment on the basis of actual experience, except that a provision may be made for the ceding entity to share in the reinsurer's ultimate profit if any cannot be cancelled or rescinded without approval of the commissioner of the domiciliary state of the ceding entity

Commutation of Reinsurance in a commutation which party is the buyer? the seller?

the primary insurer is the buyer the reinsurer is the seller think buying and selling liabilities...seems kinda awkward but you buy a liability and you receive money for doing so.

Determination of risk transfer in reinsurance agreements what are the two components of insurance risk?

uncertainty as to both: *underwriting risk* the ultimate net cash flows from premiums, commissions, claims, and claims settlement expenses *timing risk* the timing and receipt of payment of those cash flows

common reinsurance contract provisions that may impact accounting payment of premium taxes

usually the responsibility of the ceding entity..this is really just a recital of non-liability for the reinsurer

What is a Structured Settlement

when the insurer settles a liability by purchasing an annuity on behalf of the claimant that creates a future stream of payments for insured

Deposit Accounting When is this used in reinsurance?

when the reinsurance agreement does not transfer both components of insurance risk

How to treat Uncollectible Reinsurance

write off the balances from the schedules in which they were originally recorded