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amount of the reinsured policies; i.e., the reinsurer’s total
contractual liability, and (3) the amount for which the reinsurer
is at risk; i.e., the difference between the face amount of the
policies and the reserves.
Provisions for risk charges are commonplace in reinsurance
agreements to set the profit margin that a reinsurer expects to
earn on the agreement. A reinsurance agreement may state, for
example, that any renewal profits on the reinsured business will
first accrue to the reinsurer to the extent of the risk charge,
then be used to repay the reinsurer's ceding commission, and
then, to the extent of any excess, returned to the ceding company
through the experience refund provision. Risk transfer is not
eliminated through the use of a risk charge because a reinsurer
earns its charge only from actual renewal profits, if any. When
claims exceed revenues, the reinsurer suffers the loss.
Actual risk transfer is a fundamental principle of
reinsurance. When a purported reinsurance agreement transfers
little or no insurance risk, the agreement is not reinsurance,
but is the equivalent of a loan or some other type of financing
arrangement.
d. Termination
Reinsurance agreements usually give the ceding company the
unbridled discretion to terminate the agreement, either
immediately or after a stipulated number of years. In order to
exercise its right of termination, the ceding company must
usually pay the reinsurer its outstanding loss (if any) at the
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