Stop-loss reinsurance

Definition

Stop-loss reinsurance is a form of coverage that protects insurers from catastrophic losses by capping the amount they must pay for claims over a specific period. This arrangement ensures that once losses exceed a certain threshold, the reinsurer will take over and cover the excess. It helps insurers manage their risk exposure while maintaining solvency and stability, allowing them to provide more comprehensive coverage to their policyholders.

5 Must Know Facts For Your Next Test

1. Stop-loss reinsurance is often used in health insurance and property-casualty insurance to limit potential losses.
2. Insurers can negotiate the attachment point, which is the loss amount that triggers the stop-loss coverage, based on their risk tolerance.
3. This form of reinsurance allows insurers to stabilize their cash flow by reducing volatility in claims payments over time.
4. Stop-loss reinsurance can be structured on either an aggregate or individual risk basis, depending on the insurer's needs and preferences.
5. The reinsurer's payment structure can vary, with some arrangements providing coverage on a per-incident basis while others cover total aggregate losses.

Review Questions

• How does stop-loss reinsurance help insurers manage risk and ensure financial stability?
  • Stop-loss reinsurance provides insurers with a safety net by limiting their exposure to catastrophic losses. When claims exceed a predetermined threshold, the reinsurer steps in to cover the excess, allowing the insurer to maintain its financial stability. This arrangement enables insurers to take on more risk when underwriting policies without jeopardizing their solvency, as they can rely on stop-loss coverage to mitigate extreme losses.
• Discuss the differences between stop-loss reinsurance and excess of loss reinsurance in terms of structure and purpose.
  • While both stop-loss and excess of loss reinsurance aim to protect insurers from significant losses, they differ in structure. Stop-loss reinsurance typically covers aggregate losses over a specific period, capping total payouts, while excess of loss reinsurance focuses on individual large claims that exceed a set limit. The purpose of stop-loss reinsurance is broader, addressing overall loss levels, whereas excess of loss primarily targets catastrophic incidents that could severely impact an insurer's finances.
• Evaluate the impact of stop-loss reinsurance on an insurer's decision-making process regarding underwriting and pricing strategies.
  • Stop-loss reinsurance influences an insurer's underwriting and pricing strategies by allowing greater flexibility in risk assessment. With this coverage, insurers can confidently underwrite policies that may involve higher risks since they have a cushion against extreme claims. Consequently, they may adjust premium rates based on expected loss ratios and incorporate the cost of stop-loss coverage into their pricing models. This strategy ultimately helps insurers balance competitiveness in the market while ensuring they remain financially viable even during adverse claim experiences.

Related terms

Reinsurer: A reinsurer is a company that provides financial protection to insurers by assuming some of their risks, typically through various types of reinsurance agreements.

Excess of Loss Reinsurance: Excess of loss reinsurance is a type of reinsurance where the reinsurer covers losses above a predetermined limit, protecting the insurer from high claims that could jeopardize its financial stability.

Loss Ratio:

The loss ratio is a measure used in insurance that represents the ratio of claims paid to premiums earned, indicating the profitability and performance of an insurer.