Excess of Loss Reinsurance

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Excess of Loss Reinsurance: Definition, How It Works, and Benefits

What it is

Excess of loss reinsurance is a non-proportional form of reinsurance in which a reinsurer indemnifies the ceding insurer for losses that exceed a pre-agreed retention (attachment point). The reinsurer is responsible only for amounts above that limit, which protects the ceding insurer from large, unexpected losses and helps preserve its solvency.

How it works

  • The reinsurance contract specifies an attachment point (e.g., $500,000). Losses up to that amount are retained by the ceding insurer; losses above it are covered by the reinsurer.
  • Coverage can be structured to pay:
  • the full amount above the attachment point, or
  • a percentage share of losses above the attachment point (shared loss).
  • Contracts may apply on a per-event/per-loss basis or on an aggregate basis over the policy period. Some treaties use loss bands that change coverage as claims accumulate.
  • To limit exposure, the contract can also specify an upper limit for the reinsurer’s liability.

Simple examples

  • Full excess: Attachment point = $500,000. Aggregate losses = $600,000 → reinsurer pays $100,000.
  • Shared excess (50%): Attachment point = $500,000. Aggregate losses = $600,000 → reinsurer pays $50,000, ceding insurer pays $50,000.

Common structures

  • Per-event (or per-occurrence) excess: Covers losses from a single claim or event that exceed the attachment point.
  • Aggregate excess: Covers the accumulation of losses over a policy period once they exceed a specified aggregate threshold.
  • Facultative vs. treaty: Excess of loss can be arranged facultatively for individual risks or under a treaty covering a portfolio; both will specify limits to control reinsurer liability.

Pricing and contract considerations

  • Pricing often uses historical and projected loss measures, such as the burning-cost ratio.
  • Key contractual elements include the attachment point, limit of indemnity, whether coverage is full or shared, the measurement period (per-event vs aggregate), and any loss bands or exhaustion clauses.
  • Understanding contract language is critical—terms determine when the reinsurer pays and how much.

Benefits

  • Protects the ceding insurer from catastrophic or unusually large losses.
  • Stabilizes financial results and supports solvency margins by limiting downside exposure.
  • Frees capital and liquidity, allowing insurers to underwrite more policies without proportionally increasing reserves.
  • Flexible structures (full excess, shared excess, aggregate limits) let insurers tailor protection to their risk appetite and capital needs.

Key takeaways

  • Excess of loss reinsurance is non-proportional: the reinsurer pays only for losses above an agreed threshold.
  • Contracts can cover single events or aggregated losses and may require full or shared payment above the threshold.
  • It strengthens insurer solvency and liquidity, enabling broader underwriting capacity and greater resilience to major loss events.
  • Carefully review attachment points, limits, and other contract terms to ensure coverage matches risk-management objectives.

Excess of loss reinsurance is a central tool for transferring catastrophic and high-severity risk from insurers to reinsurers while balancing protection for cedents and exposure limits for reinsurers.