Underlying Retention

Underlying retention meaning refers to the net amount of liability or risk that arises from insurance policy after the ceding organization reinsures the balance amount of the liability or risk.

The amount of underlying retention varies based on how the ceding company assesses the risks involved, while retaining parts of the insurance policy’s profitability and liability.

Reinsuring a policy means the ceding party should pay the reinsurer premiums, the amount of which is decided based on the insurer’s profits. The Underlying retention meaning, therefore, depends on the profitability and the potential risks associated with an insurance policy.

What is Reinsurance?

reinsurance also termed as stop-loss insurance or the insurance for insurers is a practice by which insurers transfer certain portions of risk portfolios to different parties through an agreement. It enables insurers to reduce the chances of paying a large Obligation, which may arise from an Insurance Claim.

In other words, reinsurance occurs when numerous Insurance companies share their risks of paying high obligations by purchasing insurance policies from other insurers. It helps them to limit their own loss in case of an accident or disaster. The practice enables insurers to remain solvent by recovering the amounts paid to their claimants either partially or wholly.

Underlying retention allows the insurer to avoid the payment of a reinsurance premium. An insurer will usually tend to retain their lowest-risk components or the policies that are the most profitable for them while reinsuring high-risk and less profitable policies.

Understanding Underlying Retention in Reinsurance

We can divide reinsurance into following categories -

Proportional Reinsurance

With proportional reinsurance, the reinsurer gets a prorated share based on all the policy premiums that the insurer has sold. When a policyholder makes a claim, the reinsurer bears a certain percentage of the losses incurred depending on a prior agreement.

The insurer also gets reimbursed for factors like business acquisition, processing, and writing costs.

Non-proportional Reinsurance

Under non-proportional reinsurance, the reinsurer will be held liable if the losses incurred on the insurer exceed a specified amount. This condition is known as the retention or priority limit.

Hence, the reinsurer won’t have a proportional share in the losses and premiums of the insurer. In this case, the priority or retention limit may vary depending upon either an entire risk category or any one type of risk.

A good example of non-proportional reinsurance coverage is the excess-of-loss reinsurance, in which the reinsurer covers those losses incurred on the insurer that exceed the retained limit.

Risk-attaching Reinsurance

Under this coverage, all the claims established during the specified effective period are covered, irrespective of whether or not the losses were incurred outside the coverage period. With a risk-attaching reinsurance policy, no coverage is offered for claims made outside the specified coverage period, even if one faced the losses when the contract was in effect.

Real-World Example of Underlying Retention

Let’s say that an insurance company has an INR 3,65,03,000 reinsurance treaty limit. Now, suppose it chooses to retain an insurance risk worth INR 1,46,01,200 as its underlying retention. That retained Portfolio comprises mainly policies of much lesser value and carries significantly lower risk.

Now, let’s say, the company wishes to retain claims lower than INR 73,00,600, which has relatively less risk in the company’s portfolio. On the other hand, high worth policies, carrying an average value of say INR 73,00,600 in payouts will be reinsured. In this case, the reinsurer saves money while paying their premiums for low-risk policies.