Loss Portfolio Transfer (LPT)
What Is a Loss Portfolio Transfer (LPT)?
A loss portfolio transfer (LPT) is a reinsurance contract or agreement in which an insurer surrenders policies, frequently ones that have proactively incurred losses, to a reinsurer. In a loss portfolio transfer, a reinsurer expects and acknowledges an insurer's existing open and future claim liabilities through the transfer of the insurer's loss reserves. It is a type of alternative risk financing.
Understanding Loss Portfolio Transfers (LPT)
Insurers use loss portfolio transfers to eliminate liabilities from their balance sheets, with the most common reasons being to transfer risk from a parent to a captive or to exit a line of business. The liabilities may as of now exist, for example, claims that have been handled yet not yet paid, or may before long show up, for example, incurred yet not reported (IBNR) claims.
The insurer, who is otherwise called the cedent, really is selling the policies to the reinsurer. In deciding the amount paid by the reinsurer, the time value of money is thought of, thus the insurer gets not exactly the dollar amount than of the reserves — and the overall ultimate amount that could be paid out.
Nonetheless, when an insurer utilizes a loss portfolio transfer, it is likewise transferring timing risk and investment risk. The last option implies the risk that the reinsurer will produce less investment income when losses from claims are paid surprisingly quick. On the off chance that the reinsurer becomes wiped out or can't satisfy its obligations, the insurer will in any case be responsible for payments made to its policyholders.
LPT reinsurers will frequently assume command over dealing with claims in light of the fact that the profit they can cause will to a great extent be directed by their ability to runoff claims for not as much as book value. If a LPT reinsurer will accept loss reserve assets for not as much as book value, it empowers the ceding entity to understand an immediate profit at the initiation of cover. This means that by going into a LPT, the ceding company has some possibility of expanding its capital resources as well as diminishing its regulatory capital requirement.
The transferred liabilities in a LPT might have a place with a single class of business, a region, a policyholder, or an accident year.
Illustration of a Loss Portfolio Transfer (LPT)
For instance, say that an insurance company has set to the side reserves to cover liabilities from the [workers' compensation](/laborers compensation) policies that it has guaranteed. The present value of those reserves is $5 million. As of now, the $5 million is probably going to cover each of the losses it might experience, however the insurer may ultimately have claims in excess of the reserves. So it goes into a loss portfolio transfer with a reinsurer, who assumes control over the reserves. The reinsurer is currently responsible for paying claims. Be that as it may, it can utilize the reserves to create a return greater than the claims it might need to pay.
Why Insurers Use Loss Portfolio Transfers (LPT)
Insurers use loss portfolio transfers to immediately monetize any reserves that they have set to the side to pay out claims. This can be a critical draw in the event that the insurer has over-reserved, which can occur assuming its actuarial models have driven it to lay out premiums and reserves for future losses that breeze up being greater than its loss experience.
Reinsurers like accepting loss portfolio transfers since they don't take on underwriting risk, and can utilize the reserves to produce an investment income greater than the losses they are committed to pay.
Features
- A loss portfolio transfer (LPT) is a reinsurance treaty where an insurer surrenders policies and the loss reserves to pay them to a reinsurer.
- LPTs permit insurers to eliminate liabilities from their balance sheets, hence reinforcing them, and to transfer risk.
- Reinsurers gain the chance to create investment income from the transferred reserves, frequently at a huge profit.
