Monday, July 28, 2008

Commutation Endorsements

Commutations are, basically, early terminations of insurance (actually, commutations are commonly part of reinsurance treaties; I'd guess that they're pretty rare in insurance) in return for a mutually agreed upon level of consideration. The parties to the commutation agreement intend to terminate the agreement and to "unwind" the insurance transaction at a mutually agreed “as of” effective date. After the commutation is complete, there is no ongoing insurance coverage in place and future risks are borne on a net basis by the former insured. {It is possible that a new insurer may be brought in to handle the prospective risks through a new insurance arrangement; however, this can be problematic based on market conditions and other factors. For example, if the underlying business is performing poorly, the replacement terms (if available) might be onerous and restrictive.}

The reasons for a commutation vary. They may include a strategic goal of the insurers to exit the line of business or perceived processing intensity of the underlying insurance and a desire to get rid of the processing burden as quickly as possible.

Commutations may be risky given the inherent variability of loss reserve development and the emerging pattern of reported claims.

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