Reinsurance

Also called: Insurance for insurers · Topic: Financial Markets, Instruments, Insurance and Pensions · NCERT: Beyond NCERT

Meaning

Reinsurance is insurance for insurers. An insurance company (the ceding insurer) passes part of the risk it has taken on, together with part of the premium, to another company called the reinsurer. This way, one very large loss cannot sink the original insurer.

It matters because it lets insurers cover very large risks, such as factories, airports and disasters, while keeping their own losses within safe limits. It also spreads disaster losses across the global market.

Basic split: Total loss = Amount kept by the insurer (retention) + Amount paid by the reinsurer (ceded share)

Explanation

How it works

• Cession: the ceding insurer "cedes" (passes on) a share of a policy's risk to the reinsurer. It also passes on a matching share of the premium.
• Retention: this is the part of the risk the insurer keeps and pays for itself.
• The policyholder deals only with the original insurer.
• The customer's contract is with the insurer, not with the reinsurer.

• If a loss happens, the insurer must pay the customer in full, even if the reinsurer is late in paying.

• Retrocession: a reinsurer can pass part of its own risk to yet another reinsurer. Risk keeps getting spread wider this way.

Worked example

• An insurer covers a Rs 1,000 crore factory. It cedes 70% to a reinsurer.
• The factory is fully destroyed.
• The reinsurer pays 70% × Rs 1,000 crore = Rs 700 crore.

• The insurer pays its retention of 30% = Rs 300 crore.

• Without reinsurance, the insurer would have had to pay the full Rs 1,000 crore from its own funds. That one loss could wipe out its capital.

Types of reinsurance

• By how the deal is arranged:
• Facultative reinsurance: each large risk is negotiated separately, one policy at a time. For example, a single refinery or bridge is reinsured on its own.

• Treaty reinsurance: a standing agreement covers a whole class of business. For example, all fire policies written in a year are covered automatically.

• By how losses are shared:

• Proportional (quota share): the reinsurer takes a fixed share of every premium and every loss. The factory example above works this way.
• Non-proportional (excess of loss): the reinsurer pays only the part of a loss that goes above an agreed limit. This protects the insurer against rare but huge losses, such as a cyclone or an earthquake.

Why insurers buy it

• Protect capital: it caps how much one event, or many claims from one disaster, can cost the insurer.
• Write bigger policies: a small insurer can accept a very large risk and then pass on the excess.
• Keep profits steady: fewer years with sudden big losses.
• Get expertise: global reinsurers have data on pricing rare risks such as earthquakes and aviation.
• Demand for reinsurance rises when disasters become more frequent, when large infrastructure projects need cover, and when more people buy insurance.

In India

• Regulator: IRDAI (Insurance Regulatory and Development Authority of India), set up under the IRDA Act 1999. It regulates both insurers and reinsurers.
• GIC Re is the national reinsurer.
• Indian insurers must give it a fixed share of their business. This is called obligatory cession.

• This keeps part of the premium and the risk inside India instead of sending it abroad.

• Foreign reinsurers work in India through branches, including in GIFT IFSC (the International Financial Services Centre at Gandhinagar) [2].

• Sabka Bima Sabki Raksha (Amendment of Insurance Laws) Act 2025:
• Parliament passed it on 17 December 2025. It amends the Insurance Act 1938, LIC Act 1956 and IRDA Act 1999 [1].
• It cuts the Net Owned Fund (NOF) a foreign reinsurer must hold from Rs 5,000 crore to Rs 1,000 crore [2].
  • NOF is the reinsurer's own capital after losses are deducted.
  • A lower NOF means less capital is needed to open a branch in India.
  • So more foreign reinsurers can enter, and Indian insurers get more reinsurance capacity [2].
• It also raises the FDI limit in insurance companies from 74% to 100% [1][2].

• The Centre notified 5 February 2026 as the date the Act came into force [1].

• Why capacity matters for India: insurance penetration was only 3.7% in FY 2024-25, against a global average of about 7% [3]. To cover more homes, crops and infrastructure, insurers need reinsurers who will take on the large, concentrated risks.

Don't confuse with

• Co-insurance: several insurers share one risk directly, and each has its own contract with the policyholder. In reinsurance, the policyholder has a contract only with the original insurer and usually does not know a reinsurer is involved.
• Co-payment / deductible: here the policyholder bears part of the loss, to reduce moral hazard (people taking less care once they are insured). In reinsurance, the insurer passes part of the loss on to another company.
• Catastrophe (cat) bonds: these move disaster risk to capital-market investors, who lose their principal if the disaster happens. Reinsurance moves risk to another insurance company.
• Parametric insurance: this pays when an index, such as wind speed or rainfall, crosses a trigger, with no loss survey. Reinsurance is about who bears the risk, not what triggers the payment. A reinsurance contract itself can be either indemnity-based or parametric.

Prelims Hooks

• Reinsurance = insurance for insurers. The insurer that passes on risk is the ceding company. The share it keeps is its retention.
• GIC Re is India's national reinsurer. Obligatory cession means Indian insurers must pass a fixed share of their business to GIC Re.
• The Sabka Bima Sabki Raksha Act 2025 cut the NOF for foreign reinsurers from Rs 5,000 crore to Rs 1,000 crore [2].
• Trap: the NOF cut applies to foreign reinsurers' branches. The 100% FDI limit applies to insurance companies (of paid-up equity capital) [1][2].
• Foreign reinsurers operate in India through branches, including in GIFT IFSC [2].
• Reinsurers are regulated by IRDAI, not by the RBI or PFRDA (PFRDA regulates pensions).

Mains Points

• Reinsurance is the backbone of disaster risk finance.
• India pays for most disasters after they happen, from the budget.

• A deeper reinsurance market, together with parametric cover and cat bonds, moves part of this risk to global markets before a disaster and allows faster payouts (GS-III: disaster management).

• Closing the protection gap needs reinsurance capacity.

• With penetration at 3.7% against about 7% globally (FY 2024-25), expanding cover for crops, homes and infrastructure needs reinsurers who can absorb large risks [3].

• The lower NOF under the 2025 Act and branches in GIFT IFSC aim to bring in foreign capital and competition [2].

• There is a trade-off between keeping risk at home and spreading it abroad.

• Obligatory cession to GIC Re keeps premiums and capacity within India and supports a domestic reinsurer.
• Heavy dependence on one national reinsurer concentrates risk. Opening up to foreign reinsurers spreads risk worldwide, but sends premiums abroad. IRDAI has to balance the two.

Related concepts

• Insurance penetration
• Bancassurance
• Microinsurance
• Parametric insurance
• Catastrophe bonds
• Surety bond
• Composite insurance licence
• Defined benefit pension
• Defined contribution pension
• National Pension System

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