Insurers have been using loss portfolio transfers (“LPTs”) for decades for a host of reasons. An LPT is a great way to move a legacy book of business off the balance sheet. What is often forgotten is the interplay between the LPT and existing reinsurance contracts. This is especially so when the LPT is more retrocessional than reinsurance.
Reinsurers and retrocessionaires are not always in the loop while an LPT is being negotiated. When they learn about an LPT (sometimes from a press release) they may not be thrilled.
The LPT may affect various contract provisions in existing contracts. Some reinsurers and retrocessionaires may view an LPT of an entire book of business as a “get out of jail free card.” The question is whether that is, in fact, true. Of course, review of the relevant contracts and how they work together is critical to any analysis of whether an LPT changes anything about existing reinsurance or retrocessional relationships.
In a recent case, a New York federal court was asked to confirm a final arbitration award between a retrocedent and its retrocessionaire. In Continental Insurance Co. v. AXA Versicherung AG, No. 18-CV-7349 (VEC), 2019 U.S. Dist. LEXIS 583 (S.D.N.Y. Jan. 2, 2019), the retrocessionaire took the position that it was no longer obligated under its quota share retrocessional agreement with the retrocedent after the retrocedent entered into an LPT with a third-party. The arbitration panel issued a final award deciding that the LPT did not absolve the retrocessionaire of its responsibility to make retrocessional payments to the retrocedent. The court confirmed the final arbitration award.
While the court case did not involve the merits (the petition to confirm was unopposed) and the details of the arguments made at the arbitration were not set out in the opinion, it’s pretty clear why the arbitration panel ruled the way it did. Unless an LPT contains or is accompanied by a novation agreement, the retrocedent remains responsible under its existing reinsurance and retrocessional agreements. While the retrocedent’s obligations are shifted to a new reinsurer under an LPT, the retrocedent still remains on the hook under the existing contract in case the LPT reinsurer cannot perform. While this is more relevant to assumed business than ceded business, the same principle applies. An LPT generally does not alter an existing contract unless the original retrocessionaire has agreed to the transfer of all obligations itself in the form of a novation.
There are many scenarios where the outcome may differ because of specific contract wording. For example, the existing reinsurance or retrocessional contract could have had a retention warranty or special termination provision that might trigger upon the retrocedent entering into an LPT. Each circumstance is different and must be reviewed completely to determine if an LPT has any effect on the liabilities under existing reinsurance or retrocessional contracts.