"Deposit back" in reinsurance

Discussion in 'SP2' started by fischer, Aug 1, 2009.

  1. fischer

    fischer Very Active Member

    Hi, can someone please explain to me the cash-flows for a "deposit back" arrangement in a reinsurance contract?
    My understanding is as follows:
    Consider a 3 year endowment assurance. Sum assured £750.
    The insurer (L) has an original terms reinsurance contract in place alongwith the deposit back arrangement.
    The insurer pays reinsurer (R) 50% of premium. In event of claim or maturity, the reinsurer will pay 50%.

    At end of 1st year:
    Required reserve is £250.
    The insurer has £125 and the reinsurer has £125.
    The reinsurer then deposits this back into the insurer's account, so the insurer has £250.

    At end of 2nd year:
    Required reserve is £500.
    The insurer has £375 (£250 from previous year + £125 from this year)
    The reinsurer has £125 (£0 from previous year + £125 from this year)
    The reinsurer then deposits this back into the insurer's account, so the insurer has £250.

    At end of 3rd year:
    Required reserve is £1,000.
    The insurer has £625 (£500 from previous year + £125 from this year)
    The reinsurer has £125 (£0 from previous year + £125 from this year)
    The reinsurer then deposits this back into the insurer's account, so the insurer has £750.

    Q01: Is my understanding correct here?

    Q02: If there is a claim, the reinsurer will pay the excess over the reserve held by the insurer, right?

    Q03: What's there in it for a reinsurer if it has to payback the cedant the premiums or reserves?
     
  2. Mark Willder

    Mark Willder ActEd Tutor Staff Member

    Yes, above example looks spot on (ignoring messy complications such as expenses and interest).

    The reserves will have been calculated to meet the expected claims and to set up the required reserves for the following year. However, if experience is worse than expected, the reinsurer will need to pay half the excess cost (as claims are shared 50/50 in your example).

    The reinsurer also receives half the premium. If the premium is 260, the reinsurer takes 130, but only has to pass over reserves of 125. Hence the reinsurer makes a profit of 5 each year.

    Best wishes

    Mark
     
  3. JamaicanJem

    JamaicanJem Ton up Member

    Hi Mark,

    I know this is an old post but why is £125 the amount the reinsurer and insurer have every year? I thought the reinsurer would contribute to the insurer whatever amount needed for the required reserve.
     
  4. Mark Willder

    Mark Willder ActEd Tutor Staff Member

    Yes, the reinsurer will contribute to the insurer its share of the required reserve, in this case 50%.

    The student in the original post gave an example of a 3 year regular premium term assurance with sum assured of 750. So ignoring interest, mortality and expenses, that will need a reserve of 250 in the first year, 500 in the second year and 750 in the final year. So the reserve goes up by 250 each year. The reinsurer needs to cover half of this, so 125. The numbers would be slightly different if we allowed for interest, mortality and expenses.

    Best wishes

    Mark
     
  5. JamaicanJem

    JamaicanJem Ton up Member

    Oh, Thanks Mark. The original poster had a 1,000 as the required year 3 reserve. It must be a typo.

    Regards.
     

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