Reinsurance is a term that many insurance buyers have heard but few really understand. Understanding this concept – how it works and why it can affect your dealership’s coverage and premium – is critical.
The first type of reinsurance is called treaty reinsurance. Put simply, an insurance carrier negotiates a “treaty” with the reinsurance company to cover any limit that exceeds their risk threshold.
As an example, an insurance company would like to limit its exposure to any loss over $500K. They’ll negotiate with the reinsurance carrier to cover any loss that is over that $500K threshold.
Furthermore, they agree to the terms for the year (total insurance capacity approved, conditions, etc.), pay a premium, and the treaty terms are bound.
An issue that may come into play is if there is some form of “conditional trigger” (active hurricane season, wind/hail losses etc.), set forth in the treaty, that allows the reinsurer to alter the capacity offered or limits areas they’ll insure.
The most common example of this would be some form of hurricane restrictions for coastal properties. The reinsurer may choose to pull back some of their capacity, thereby limiting the remaining coverage that can be sold. This in turn typically increases the pricing offered.
It’s a true example of the how the laws of supply and demand are applied to insurance.
The next type of reinsurance is called facultative reinsurance. This comes into play when, even though the treaty is in place, the insurance company still does not feel like the insurance risk profile meets their standards.
Consider, for example, a building that is very close to a known hazard like the seacoast or a high crime area. In these cases, the insurance company can purchase a standalone (facultative) reinsurance contract to protect their interest.
This cost may be passed on to the insured but does not have to be.
The key to remember about reinsurance companies is that they are a critical member of the insurance marketplace. The interconnected nature of insurance and reinsurance companies help to insure the appropriate risk transfer to keep our markets healthy.
If markets are unable to transfer and mitigate losses effectively then those markets will cease to exist. This would lead to there being less options available and pricing becoming more prohibitive.
This article is authored by Mat Pope and Paul Elliott, dealer risk specialists with Valent Group. his blog and its contents are not intended to be exhaustive nor should any discussion or opinions be construed as legal advice. Readers should contact legal counsel for legal advice. For information about Valent’s dealership practice, visit: https://www.valentgroup.com/auto-dealers/