Sharing by a fixed fraction
The first guide in this rung established the cast: a primary insurer, the cedant, hands part of its risk to a reinsurer through a treaty, choosing how much to keep and how much to pass on — its retention and cession. This guide zooms in on the cleanest possible way to draw that line. Proportional reinsurance means the two parties agree on a fraction and then share *everything* by that fraction: the same slice of every premium dollar collected, and the same slice of every claim dollar paid. It is co-ownership of the policy, not a safety net stretched under part of it.
That single design choice — premium and loss travel together in the same ratio — is what makes proportional treaties so easy to reason about. If the reinsurer is owed 30% of the losses, it is also owed 30% of the premium; the deal cannot quietly transfer risk in one direction while leaving the money behind. Contrast this with the excess-of-loss treaties you will meet in the next guide, where the reinsurer only steps in once a loss climbs above a threshold. There, premium and loss do *not* move in lockstep, and the pricing is far subtler. Proportional is the place to start precisely because the arithmetic is honest and visible.
Quota share: one fraction for everything
The plainest proportional treaty is quota share. The cedant and reinsurer pick a single percentage and apply it to the entire book, every policy alike. A 30% quota share means: of every policy — the 5,000-dollar shopfront and the 5-million-dollar factory both — the reinsurer takes 30% of the premium and pays 30% of any claim. The insurer keeps 70% of each, top to bottom. There is no judgement, no sorting, no per-policy decision: one knob, turned once, governs the whole portfolio.
What does the cedant get for this? Three things at once. Its results grow steadier, because a fixed slice of every fluctuation now lands on someone else's books — recall from the foundations rung that risk pooling tames volatility, and quota share lets a small insurer borrow the reinsurer's much larger pool. It frees up capital, because regulators require less backing for premium and risk you no longer carry. And it can let a young or capital-light company write more business than its own balance sheet could otherwise support, since it is effectively renting the reinsurer's capacity. That last use — quota share as a growth and financing tool — is why it is sometimes the very first treaty a new insurer buys.
Surplus share: proportions that vary by policy size
Surplus share keeps the proportional spirit — premium and loss still split by a fraction — but lets the fraction *change from one policy to the next*. The cedant first sets a retention it is comfortable holding on any one risk, called a line, say 1 million. For any policy at or below that line, the insurer keeps the whole thing; the reinsurer is not involved at all. For a policy larger than the line, the insurer keeps its 1 million line and cedes the *surplus* above it, and the share is whatever fraction that surplus represents of the policy's total sum insured.
Make it concrete with a surplus share treaty whose line is 1 million. A 1-million policy: kept entirely, 0% ceded. A 4-million policy: keep 1 million, cede 3 million, so the cession fraction is 75% — and every premium dollar and every claim dollar on that policy then splits 25% / 75%. A 10-million policy: keep 1 million, cede 9 million, a 90% cession. Notice the elegance: the *small* policies stay fully with the insurer (no premium needlessly given away), while the *large* policies are cut down to a comfortable retained slice. The reinsurer absorbs more of exactly the policies that threaten to dominate the book.
Surplus-share treaty, retained line = 1,000,000
Sum insured Keep (line) Cede (surplus) Cedant's share
----------- ----------- -------------- --------------
1,000,000 1,000,000 0 100%
4,000,000 1,000,000 3,000,000 25%
10,000,000 1,000,000 9,000,000 10%
The SAME share then applies to premium AND loss on that policy.
Example: the 4M policy pays a 2M claim -> cedant pays 25% = 500,000,
reinsurer pays 75% = 1,500,000; premium split the same way.There is a price for this finesse. Surplus share is administratively heavier: someone must record the sum insured of every policy and compute its individual cession, where quota share needs only one number for the entire book. Treaties usually cap how many lines the reinsurer will accept — a "nine-line surplus" over a 1-million line, for instance, covers cessions up to 9 million, so a policy worth 20 million still leaves the insurer over-exposed and needing yet another arrangement. Surplus share buys a more even retained book; it pays for it in paperwork and in a ceiling on the very largest risks.
The ceding commission: paying back the cost of selling
Here is a wrinkle that puzzles newcomers. Under proportional reinsurance the reinsurer takes, say, 30% of the premium — but that premium is *gross*, and the cedant has already spent real money to bring it in: broker commissions, underwriting staff, policy issuance, the whole machinery of acquiring a customer. The reinsurer did none of that work, yet it is collecting its share of the premium that paid for it. Left uncorrected, the reinsurer would be over-rewarded and the cedant would be out of pocket on the very costs that made the business exist. The fix is the ceding commission.
A ceding commission is money the reinsurer pays *back* to the cedant on the premium it receives, reimbursing the cedant's acquisition costs (and usually leaving a little margin on top). Suppose the reinsurer takes 30% of a 1,000-dollar policy, so 300 dollars of ceded premium, and the treaty sets a 25% ceding commission. The reinsurer then pays 25% of that 300 — that is 75 dollars — back to the cedant. Net, the reinsurer has effectively paid only 225 for its 30% share of the risk, and the cedant is reimbursed for the selling effort it alone performed. The commission flows opposite to the premium: premium goes up to the reinsurer, commission comes back down to the cedant.
Choosing between them — and an honest caveat
So when does a cedant reach for quota share and when for surplus? Quota share suits a *young, growing, or volatile* book where the goal is broad relief, capital, and capacity, and where the policies are not wildly different in size — its simplicity and low cost are the draw. Surplus share suits a *mature, uneven* book of mostly modest risks dotted with a few large ones: it lets the insurer keep all the small premium it can comfortably afford and shed only the dangerous excess. Many real programs run both — a quota share for general smoothing, a surplus on top to shave the largest peaks — and almost every program tops the structure off with non-proportional cover for the true catastrophes.