US Legal - Taking it to the limit.

(From Reinsurance)

Byline: Peter Chaffetz and Steven Schwartz.

When a cedant pays a claim, one of the most important questions for reinsurers is how their contracts' limits apply. In some cases, this is an easy question. For example, if a cedant simply pays its limit for a single occurrence under a single policy effective for a single year, it should be simple to allocate the claim to reinsurers. Where the facts are more complicated, however, issues multiply.

An issue several courts have addressed recently relates to 'annualisation'.

The annualisation issue arises where a cedant has issued a multi-year policy. Specifically, the question is whether a single limit applies across the entire period of the policy, or whether the policyholder can obtain separate limits for each annual period of the policy. If separate annual limits are available under the underlying policy, are separate limits also available under the corresponding reinsurance?

Two recent US decisions discuss annualisation at the direct insurance and reinsurance levels. The two courts, however, reached opposite conclusions.

Part of the explanation may lie in differences in the wording of the contracts at issue. But it is also true that the court in the direct insurance case followed the pro-policyholder approach typical of many US courts. In contrast, the court in the reinsurance case clearly did not bend over backwards to favour the cedant.