Reinsurance is essentially a specialist form of insurance transacted between professionals; hence many of the principles and practices applying to the conduct of insurance business equally apply to reinsurance. However, some principles have a different application in reinsurance
A simple definition of reinsurance, therefore, is that it is the acceptance by an insurer, known as a reinsurer, of all or part of the risk of loss of another insurer, called the ceding company.
Parties to a Reinsurance Contract
The insurance company and the reinsurer are the parties to a reinsurance contract. An insurance company will usually find itself exposed to large numbers of risks at a given period. These policies are legal contracts between the relevant policyholder and the insurance company. When the insurance company decides to spread its risks by way of reinsurance, it will reinsure a part of these risks with a reinsurer. Thus a reinsurance contract is between an insurance company and a reinsurer.
It is very important to note that the parties to the reinsurance contract do not include the policyholder. The policyholder only has a contract with the insurance company. Thus the policyholder has no rights against the reinsurer, and the reinsurer has no obligations to the policyholder
Principles of Reinsurance
In many places around the world where reinsurance is practised, the legal principles applicable to reinsurance are the same to insurance. From the perspective of the reinsured, the buyer of reinsurance cover, there is an obligation of utmost good faith and the reinsured must have an “insurable interest” in the risk being reinsured and the reinsured can only make a valid claim if the “principle of indemnity” is also satisfied.
Utmost Good Faith: it is natural that a greater degree of transparency should be expected in a reinsurance agreement than a simple commercial contract. Thus there is an obligation on the party (insurance company) seeking the cover to disclose all material facts so that the contract will accurately reflect the actual risk(s) being covered.
Insurable Interest: The insured must have an “insurable interest” in the subject matter of the policy, or such policy will be void as it will be considered gambling. An insured has an insurable interest in policy when they can show some type of financial benefit from the existence of the subject matter to be insured, or that they will suffer a pecuniary loss from the loss of such subject matter should the risk covered by the insurance policy occur. Equally a reinsured must have an “insurable interest” in the subject matter of the reinsurance. An example of a insurable interest can be seen in this situation – the reinsured wishes to obtain reinsurance to cover fire outbreak in a particular building, but it does not have any property or risks there, then the reinsurance will be considered null and void.
Indemnity: The principle of indemnity dictates that an insured or a reinsured should not profit from the cover it buys, but should only be compensated for its actual loss, thus settlement depends on the terms of the contract and the real amount of loss suffered