What obligatory reinsurance is

Obligatory reinsurance is a type of treaty reinsurance in which the obligations of both parties are fixed in advance. The cedent is obliged to cede all risks falling within the terms of the contract, and the reinsurer is obliged to accept them within the agreed limits. Neither party selects risks one by one: the insurer cannot keep profitable policies and cede only problematic ones, and the reinsurer has no right to decline an individual risk if it conforms to the contract. The name comes from a Latin word meaning obligation.

How the mechanism works

The parties conclude a contract for a period — usually a year with renewal. It defines the portfolio: classes of insurance, risk classes, territory, maximum sums insured and exclusions. As soon as the cedent issues a policy that falls within this framework, the risk is automatically considered reinsured. The reinsurer learns of the risks from bordereaux — periodic lists of ceded policies, premiums and losses — and settlements are made on accounts for the agreed periods. An obligatory treaty may be proportional — quota share or surplus — or non-proportional, in the form of excess of loss.

Comparison with other forms

  • Facultative — each risk is offered and accepted separately, and both parties are free to decide. Flexible, but slow and expensive to administer. More in facultative reinsurance.
  • Facultative-obligatory (fac-oblig) — the cedent chooses which risks to cede, and the reinsurer is obliged to accept what is offered within the limits. Convenient for the cedent, but the reinsurer bears the risk of selection and therefore takes a stricter view of terms and price.
  • Obligatory — obligatory for both parties. The reinsurer receives a balanced portfolio without anti-selection, and the cedent receives guaranteed automatic capacity.

When it is used

  • the insurer has a stable flow of similar risks for which separate placement is inefficient;
  • there must be certainty that every new policy within the limits is protected immediately;
  • retention and capital adequacy standards must be met across the whole portfolio;
  • policies must be issued to clients quickly, without waiting for the market's response.

Advantages and limitations

An obligatory treaty provides automatic protection, lowers administrative costs and stabilises the result. The reinsurer sees the whole portfolio, not only its worst part, so the terms are, as a rule, more favourable than with facultative or facultative-obligatory forms. Limitations: the cedent also cedes risks that it could retain itself; the scope of the contract is strictly limited, and anything beyond it requires separate placement; if results deteriorate, the terms are revised at renewal; and the contract requires strict discipline in reporting.

Key terms of the contract

  • the portfolio and classes of insurance, territory, the list of exclusions;
  • the limit per risk and per event, the capacity of the treaty — the number of lines or the overall limit, and the share of each reinsurer;
  • the cedent's retention, reinsurance commission, profit commission;
  • premium and loss bordereaux, reporting frequency, payment deadlines, currency, and the procedure for paying large losses;
  • term, renewal and termination procedure — with liability on policies in force until they expire, or with transfer of the portfolio;
  • special grounds for early termination — for example, a material change in the position of one of the parties.

What data is needed for a quotation

  • the portfolio and classes of insurance to be included in the treaty, and the distribution by sums insured;
  • the desired limits, capacity and reinsurer's share;
  • the procedure for preparing bordereaux, reporting and settlements;
  • premium and loss statistics, exclusions, term and termination conditions.

How Polis Re helps

The Polis Re broker helps define the scope and limits of the treaty, prepare portfolio data, bring in reinsurers on the domestic and international market, agree the wording of exclusions and termination, and set up the exchange of bordereaux and settlements. Terms can be checked in the glossary. To discuss a treaty, send a reinsurance request.