Reinsurance Premiums for Non-Proportional Reinsurance Treaties
Unlike In proportional Reinsurance arrangements where in exchange for a fixed share of liabilities, the reinsurers receive an equivalent share of original premiums written by the insurer, Non-Proportional Reinsurers charge a premium at the beginning of the reinsurance period to cover for claim costs, acquisition, and administration expenses for the forthcoming reinsurance period.
The Premium charged is often calculated as a rate applied on the Gross Net Premium Income. In certain circumstances however, reinsurers do use a flat premium approach to establish the cost for the reinsurance the insurer purchases.
The Flat premium is used where the reinsurer is not able to accurately assess the loss experience of the insurer to ascertain the cost of the reinsurance cover. It is especially used for catastrophe excess of loss covers or even when the insurer is just commencing underwriting for a new line of business. Changes in the insurer’s underwriting philosophy ultimately have an effect i/;p;;n the treaty loss experience. Unfortunately for reinsurers, one of the shortfalls of the flat premium approach is that this effect on the loss experience is not adequately reflected in the premium charged.
Since Insurance Portfolios are dynamic and change over time, the underwriting philosophy and of an insurer and approach to risk will change as the company grows and expands. This influences the exposure a reinsurer has on the insurer’s treaty book. A Reinsurer does well to align the treaty exposure and the reinsurance premium charged by charging an Adjustable premium. The Adjustable premium is expressed as a rate applied on the Gross Net Premium Income of the insurer during the year. The Gross Net Premium Income (GNPI) reflects the actual premium attributed to the insurer for the risks underwritten in a particular year. i.e., Th GNPI is equivalent to the Original Gross Premium written less cancelations, premium returns, and premium for other reinsurances in that year.
The Adjustable premium can either be expressed as a fixed rate which will be applied during the year or a premium rate that will be adjusted depending on the performance of the treaty calculated on what is normally is called the Burning Cost (Burning Cost: The Loss Ratio is a percentage of the Premium income). The Burning cost is usually used and suitable for the working excess loss arrangements. With the burning cost, a limit is set by imposing both a lower rate and an upper limit rate.
Since Non- Proportional treaties are set at the start of the year, the insurer has not written any business yet, from which data for which the Actual GNPI can be extracted from to determine the reinsurance premium payable. So, an estimate of the Gross Net Premium Income to be written in that year is used basing on the results of the previous year. The acronym generally used is EGNPI.
In calculating the reinsurance premium, the reinsurer will establish a Minimum Premium for the coverage and will require the insurer to pay a deposit premium for the cover purchased. It is not necessary that the Deposit Premium paid by the reinsurer is equivalent to the Minimum Premium but often from industry practice, reinsurers opt for the Minimum and Deposit premium to be one and the same.
At the end of the treaty year, once the Actual Gross Net Premium Incomes are determined, then the actual reinsurance premium is then calculated. Depending on what the Minimum Premium charged at the start of the treaty year was, the insurer will be required to pay an adjustment premium. (Often applies where the Final reinsurance premium is greater than the Minimum Premium initially charged).
Where the Final Premium is less than the Initial minimum premium charged by the reinsurer, then the Minimum premiums stands.
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