Last Updated 6/11/2021
Issue: Reinsurance, often colloquially referred to as “insurance for insurance companies,” is a contract of indemnity between a reinsurer and an insurer. In this contract, the insurance company, the cedent, transfers risk to the reinsurance company, and the latter assumes all or part of one or more insurance policies issued by the cedent. Reinsurance contracts may be negotiated either directly with a reinsurer or arranged through a third-party, i.e., a reinsurance broker or intermediary. Reinsurers themselves may also buy reinsurance protection, which is called “retrocession.” This is done primarily for the purpose of mitigating any further spread risk and reducing the impact of catastrophic loss events.
Overview: Reinsurance is an essential mechanism by which insurance companies manage risks and the amount of capital they must hold to support those risks. Insurers may use reinsurance to achieve an optimal targeted risk profile. In the reinsurance agreement, the reinsurer's obligation arises only when the company's liability under its original insurance policy or reinsurance agreement has been incurred. The extent of that obligation is defined by the specific terms and conditions of the applicable reinsurance agreement. Absent specific assent to the contrary, there is no privity of contract between the reinsurer and any party other than the company defined as the "reinsured" in the reinsurance agreement.
Reinsurance transactions in the insurance industry can become complicated. Companies may employ numerous reinsurance transactions with a variety of specific details. Several common reasons for reinsurance include: (1) Expanding the Insurance Company's Capacity; (2) Stabilizing Underwriting Results; (3) Financing; (4) Providing Catastrophe protection; (5) Withdrawing from a line or class of business; (6) Spreading of risk; and (7) Acquiring expertise.
While the U.S. reinsurance sector continues to be an important source of capacity for domestic insurers, state regulators have long recognized the need for both U.S. and non-U.S. reinsurance capacity to fulfill the needs of the U.S. marketplace. Consequently, the U.S. has developed a system of reinsurance regulation that has led to the development of an open, but secure, reinsurance market where most of the reinsurance premiums are reinsured outside the country.
The regulation of reinsurance in the U.S. takes into consideration the domicile of the reinsurer and whether the reinsurer is licensed in a U.S. jurisdiction. Licensed reinsurers are subject to the same state-based regulation as other licensed insurers. When an insurer cedes business to a licensed reinsurer, the cedent is permitted under regulatory accounting rules to recognize a reduction in its liabilities in the amount of ceded liabilities, without a regulatory requirement for the reinsurer to post any collateral to secure the reinsurer's payment of the reinsured liabilities. A reinsurer that is licensed to accept reinsurance in a state or territory is an Authorized Reinsurer.
Reinsurers that are not licensed in the United States—often referred to as “alien” or offshore companies—must post 100% collateral to secure the transaction, unless they are a Certified Reinsurer or a Reciprocal Jurisdiction Reinsurer. An insurer that is not licensed or otherwise approved to accept reinsurance is an Unauthorized Reinsurer. Companies that are domiciled in Qualified Jurisdictions can become Certified Reinsurers after completing additional review by the states and this status allows the reinsurers to reduce the collateral required. Additionally, companies that have a head office or are domiciled in Reciprocal Jurisdictions can become Reciprocal Jurisdiction Reinsurers if they meet the standards detailed in the Credit for Reinsurance Model Law (#785) and Credit for Reinsurance Model Regulation (#786), and this status will allow these companies to not post collateral.
Status: On June 25, 2019, the NAIC Executive (EX) Committee and Plenary adopted revisions to the Credit for Reinsurance Model Law (#785) and Credit for Reinsurance Model Regulation (#786), which implement the reinsurance collateral provisions of the Covered Agreements with the European Union (EU) and the United Kingdom (UK). These revisions create a new type of jurisdiction, which is called a Reciprocal Jurisdiction and eliminate reinsurance collateral requirements and local presence requirements for EU and UK reinsurers that maintain a minimum amount of own-funds equivalent to $250 million USD and a solvency capital requirement (SCR) of 100% under Solvency II. The revisions also provide Reciprocal Jurisdiction status for accredited U.S. jurisdictions and Qualified Jurisdictions if they meet certain requirements in the credit for reinsurance models. U.S. states must adopt these revisions prior to September 1, 2022 or face potential federal preemption by the Federal Insurance Office. To avoid preemption, the laws must be enacted prior to September 1, 2022, and must adhere exactly to the models as they have been adopted by the NAIC.
The most recent maps showing the state adoption progress of the 2019 revisions to Model #785 and Model #786 can be found on the Reinsurance (E) Task Force webpage.
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