Context: insurance, risk theory
Reinsurance, often abbreviated as re, is an integral part of risk management for an insurance company. An insurance company (often called the primary insurer or ceding company) will on-purchase (part or all of) the insurance policies it has sold to policyholders to an reinsurer. The primary insurer will pay premiums to the reinsurer, and in return the reinsurer will pay part or all of the claims associated with the policies when they occur.
Reinsurance can take several major forms:
- Proportional Reinsurance. For each claim that was incurred, the reinsurer will pay a proportion a of the claim amount.
- Excess-of-loss Reinsurance. For each claim that exceeds a defined amount b (called the retention level), the reinsurer will pay the amount that exceeds the retention level.
- Stop-loss Reinsurance. If the total claims over a defined time period exceeds the retention level b, the reinsurer will pay that amount that exceeds the retention level.
Reinsurance helps manage the following situations:
- An instance of catastrophic claim amounts, e.g. several orders of magnitude over the average claim amount. An excellent example of this has occurred recently.
- A season where the claims occur unusally frequently. Natural disasters affecting many properties will generate claims all at the same time.
- Legislative requirements regarding the solvency of an insurance company. Local laws may require insurance companies to take out reinsurance.