Reason for 'substantially all' exception
How to understand the reason for the exception is to maintain access to reinsurance for profitable book of business? Thanks.
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How to understand the reason for the exception is to maintain access to reinsurance for profitable book of business? Thanks.
Comments
I double-checked the source text and it says what you said above:
So without this exemption, insurers would essentially be penalized for running a profitable company. Even if they protected themselves (and policyholders) with reinsurance, they would not get the favorable accounting treatment that goes along with having reinsurance.
In this section it mentions that this exception can be used in situations like quota share agreements with a large ceding percentage. I was working on Fall 2017 Q 28 from the NAIC.SSAP-62R section and part a asks you to identify whether the contract should qualify for Prospective, Retroactive or neither (reinsurance accounting treatment). I understand based on the battle card that this is prospective even though it was signed after the effective date; however, the sample solution also says "it has timing and underwriting risk." No information was given on the ceding percentage in the statement of the question. Did they just assume that the ceding percentage was high and apply the substantially all exception? Does the substantially all exception actually apply to all quota share agreements regardless of the ceding percent? Or did they not even apply the substantially all exception and instead apply some other risk transfer test? It seems like this question is saying all quota share agreements are considered a transfer of risk which does not really seem consistent with the Freihaut.Reins reading.
No need to overthink it. 2017.F.28.a is a carelessly written question. You can tell from the cursory sample solution. They just wanted you to regurgitate the list of conditions for reinsurance; the didn't bother to provide givens that would make it comply with these conditions.
Ok thank you. One last thing, can you just confirm if the substantially all exception really only applies to quota share contracts with a high ceding percent? I have seen a few different examiner reports where one of the accepted solutions for the substantially all exception was "the reinsurer would have to be in substantially the same position as the cedant." It seems like this would be the case for any quota share treaty, not just treaties where the ceding percent is very high. another example is "This usually apples to QS contract where a profitable line of business can be reinsured in order for ceding company to increase capacity." This also seems to be a benefit for all quota share treaties not just ones with a high ceding percent.
Observe the wiki note on this:
". . . 'Substantially All' exception: IF (significant loss NOT reasonably possible) BUT (reinsurer assumes 'substantially all' risk) THEN (risk transfer may still exist) . . . "
'Substantially All' exception is a remedy for significant loss not being possible. The latter may occur when premium is too high for the risk exposure. But if all of that risk exposure is transferred to the reinsurer, the rule says the arrangement will be considered reinsurance. So, it would have to be a high-ceding quota-share.
I can only reason the examiner meant "the reinsurer would have to be in substantially the same position as the cedent before the reinsurance agreement."