Everyone knows the value of having an insurance policy on their vehicle and home and of having a life insurance policy. The insurance companies that issue these policies must also have insurance against possible losses and this is called reinsurance. Reinsurance refers to an insurance policy that an insurance provider purchases in order to insure all or part of the risks that it assumes in the various types of insurance policies that it sells to clients. To make the concept simpler to understand, an insurance provider transfers some of the risk to another insurer and pays the premiums attached to the policy.
An insurance company does not have reinsurance with only one insurance provider, though. There may be many different insurance policies involved in such a transaction so that one provider does not assume all the risks. Rather it is spread out so that one calamity will not bankrupt a company. With reinsurance, the insurance provider that does issue the reinsurance policy may also have reinsurance with a completely different provider and so extends the risk even further so that it is even more reduced.
Insurance providers take out reinsurance for many different reasons. The most common ones include:
– a greater degree of financial support in the sharing and assuming of risk
– a greater ability to sell large numbers of policies
– protection in times of catastrophic events, such as excessive damage due to a hurricane
– stabilization of the insurance sector of the economy
In the risk transfer aspect of reinsurance, by having all the company’s assets and policies insured with a reinsurance company, an insurance policy is able to take greater risks than normal. This allows the provider to offer special deals to clients in higher limits of protection or be able to offer high deductibles on insurance policies. Such an assumption of a portion or all of the risk allows the insurance company to be better able to absorb any losses that occur so that it does have the capital it needs in order to cover these losses.
Reinsurance policies exist for individual policies as well. An insurance provider may sell a policy to a customer and assume a great risk in doing so, but by reinsuring this policy with several companies then there is more than one company who can absorb a portion of the loss, if it does occur. Such a transaction, which is called facultative reinsurance, is usually reserved for policies that do not fit the norm and fall outside a standard policy.