Anyone unfamiliar with reinsurance would probably

be amazed to learn that, for years, transactions involving hundreds of millions of dollars have been concluded without the participants knowing exactly what was being bought and sold.

Larry P. Schiffer, an attorney with the international law firm LeBoeuf, Lamb, Greene & MacRae LLP, recently wrote on www.irmi.com that “premiums are paid, accounts are rendered, and losses are paid all before a final contract is actually signed by the parties.

“Sometimes the parties agree to end their relationship before the final contract wording is even agreed. . . . It was not so long ago that parties to a reinsurance contract would fail to finalize the contract wording even after years of dealing with each other.”

That must come to an end, preferably by the end of this year, says Great Britain’s chief insurance regulator, whose jurisdiction over London markets gives him global impact.

“Contract certainty” is the new imperative in reinsurance. The days are numbered where a broker or direct writer can submit a “slip” (similar to a binder), have the cedant and reinsurer “shake hands,” literally or figuratively, and the latter agreed to “follow the fortunes” of the former, with the details of a contract “to be agreed” at a later date.

Market practice

In the United States, the National Association of Insurance Commissioners (NAIC) has ruled that the final wording of a reinsurance contract must be completed and signed by the contracting parties within nine months of its inception to be treated as prospective, as opposed to retroactive, reinsurance for accounting purposes.

Market practice may be ahead of regulators, however.

“The reinsurance quote is no longer one paragraph. It’s three pages.”

A key component to contract certainty is the growing use of standardized wordings in reinsurance transactions.

“There is a much greater degree of standardization of wording in the market,” said Nigel Roberts, chairman of Aon’s marine specialty division, in remarks reported by Aon. “It is nonsense for skilled technicians to be spending their time on standard wordings.”

“Half to three-quarters of most reinsurance contracts today are constructed from common wordings,” says Dan Newsome, a vice president in the Philadelphia office of Aon Re Inc. Newsome adds, however, that some provisions in almost every contract are still negotiated individually.

BRMA’s role

The emphasis on standard wordings may draw more attention to an important entity in U.S. property/casualty reinsurance: the Brokers & Reinsurance Markets Association (BRMA), based in Park Ridge, Ill., a suburb of Chicago.

BRMA (pronounced like “Burma”) was founded in 1986 to develop ways for reinsurance brokers and broker markets to serve their clients more quickly and efficiently, and to compete more effectively with direct writers.

BRMA maintains a “Contract Wording Reference Book,” a catalogue of property/casualty reinsurance contract provisions, to help brokers and underwriters develop contracts more quickly by providing them with a compilation of clauses used in the marketplace.

In that respect, but with important differences, the BRMA catalogue of contract provisions serves some of the same purposes as the primary policy forms developed by AAIS and the Insurance Services Office (ISO), Jersey City, N.J.

BRMA’s approach differs from that of AAIS and ISO, however, in that BRMA does not provide complete model contracts. Also, BRMA may offer several different sample wordings for each contract provision, and makes no attempt to standardize them and no representations that one example is superior to another.

“BRMA doesn’t draft clauses, so BRMA doesn’t attempt to lead the industry in that regard,” says Pamela Parkos, BRMA’s executive director. “BRMA is used as a reference for provisions that reflect market conditions at the time they are catalogued.”

To be given a BRMA number designation, a clause must currently be in use at the time of inclusion, has to be used by more than one company, and has to be different in some substantive way from other provisions addressing the same topic.

In the world of reinsurance brokerage, parties to a contract can simply cite the number of a provision in the BRMA listing to indicate what wording they want for a provision in a contract being negotiated.

Defining terms

Most of the contract provisions catalogued by BRMA relate to the transaction between the insurer and reinsurer in matters such as contingent commission, salvage and subrogation, ultimate net loss, and others.

A small but growing number of the sample provisions, however, provide wording for how a reinsurer will treat certain types of losses directly addressed in underlying primary policies.

For example, BRMA includes provisions for defining what constitutes a “loss occurrence” for various perils.

For wind perils as well as most manmade perils (riot, civil commotion, vandalism, and malicious mischief), BRMA loss occurrence provisions treat all losses sustained within 72 hours (three days) that “aris[e] out of and [are] directly occasioned by the same event” to be a single loss occurrence.

For earthquake and for fire following earthquake, BRMA sample provisions allow only those losses sustained within 168 hours (seven days) of an earthquake to be considered part of a single loss occurrence.

To date, the “loss occurrence” provisions catalogued by BRMA have not had a widespread impact on underlying primary policies. So far at least, the latter have avoided a strict definition of “occurrence.”

Primary impact

According to Newsome, however, there has been a “marked interplay between reinsurance terms and the eventual revisions of insurance policies,” starting with the development of pollution exclusions.

One of the best examples of how reinsurance contract language can shape the underlying primary policies came when reinsurers quickly implemented terrorism exclusions following the Sept. 11th attacks.

Reinsurers responded to the attacks by implementing exclusions that used language (originating in London markets) which relied on the intentions of attackers to define the types of losses that would be excluded.

That language, in turn, directly molded the language first developed to define what constitutes an act of terrorism for insurance purposes in the United States. Although modified since then, the impact of that approach to terrorism is still evident.

Today, the BRMA catalogue includes examples of exclusions for mold, nuclear risks, pollution and seepage, and war and terrorism. Their inclusion suggests that reinsurers have wanted to provide their own definitions for certain property perils and liability claims that have arisen in recent decades.

Parkos cautions against inferring that reinsurers can or want to impose their definitions down to the policyholder level. “It is difficult to draw the conclusion that reinsurers are impacting primary insurance wordings,” she says.

But, as contract certainty becomes standard practice, any variation between what is covered under a primary policy and what is ceded under a reinsurance contract will be more clearly defined than in the past.

Primary carriers will then have to decide whether to modify the former to coincide with the latter.