4

Surplus Share

by Michael Hollenbach*

Characteristics

     Surplus share reinsurance is one of two forms of pro rata reinsurance (the other being quota share) whereby the ceding company (henceforth, "the company") cedes an equal proportion of its insurance liability and premium applicable to covered risks. Unlike quota share, surplus share allows the proportion of premium and liability ceded to vary, at the cedent's option, from risk to risk. In most other respects, surplus share and quota share function in the same fashion: according to the percentages agreed, the company and reinsurer share the liability, premium,and losses (beginning with the first dollar) from the reinsured business.

     While surplus share is relatively simple in concept, its element of variability can make it somewhat difficult to administer. In addition, the contracts that describe surplus share agreements typically rely on arcane jargon, the meaning of which is clear only to the initiate. By keeping in mind, however, the simple proportional (albeit in varying proportions) nature of this reinsurance, a drafter can produce clear and concise surplus share reinsurance contracts that can be easily understood by the reader.

     Under a surplus treaty the ceding insurer will cede a discretionary number of so-called "lines" as respects each risk, subject to a negotiated maximum number of lines to be ceded per risk and, usually, a maximum dollar amount of liability ceded per risk. A "line" constitutes nothing more than a multiple of one applied to the company's maximum possible net retention (or liability) as respects a given risk. Thus, if a company cedes one line on a particular risk, it has ceded to the treaty one times its net retained liability, or fifty percent of the total liability for that risk. Because the percentage of premium ceded on any one risk is the same as the percentage of liability ceded, a one-line cession requires the company to cede fifty percent of the applicable premium for that risk. If the company cedes four lines, it has ceded four times its net retained liability, or eighty percent of the liability and premium for that risk.


* Vice President and Principal, TOWERS PERRIN REINSURANCE, Mellon Bank Center, 1735 Market Street, Philadelphia, Pennsylvania 19103-7501. An autobiography appears at the end of the chapter.

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