Reinsurance

Reinsurance happens when multiple insurance companies form consortium to share risk by purchasing insurance policies from other insurers to limit their own loss in case of disaster or natural calamities. 
Reinsurance is known as "insurance for insurance companies” so that no insurance company has too much exposure to any uncertain event or disaster. The company that purchases the reinsurance policy is called a "ceding company" or "cedent".
Reinsurance started in early 14th century primarily for marine and fire insurance. Since then, it has grown to cover every aspect of the modern insurance market. 
There are 2 types of reinsurance:
  • Treaty reinsurance and 
  • Facultative reinsurance
Let’s understand with the help of an example
Consider a ship carrying goods, sinks in the water causing loss of millions of rupees. Now think if one insurance company had sold all the homeowners insurance, the chance of it being able to cover the losses would be impossible. Here comes the concept of reinsurance. Instead, the insurance company spreads parts of the coverage to other insurance companies (reinsurance), thereby spreading the cost of risk among many insurance companies. This saves the insurance company from being bankrupt or being financially ruined. When reinsurance occurs, the premium paid by the insured is typically shared by all of the insurance companies involved.
An insurer purchase reinsurance for four major reasons: 
  • To limit liability on a specific risk,
  • To stabilize loss incurred,
  • To protect themselves and the insured against catastrophes,
  • To increase their capacity.
Thank You
Regards
Author: Sakshi Lunia
Kautilya, 
IBS Mumbai

Comments