What Is Follow The Settlements?

Follow the settlements is a clause in a reinsurance contract that indicates how a ceding insurance company will allocate a settlement to its reinsurers.

What exactly is a ceding company? A ceding company is an insurance company that passes the part or all of its risks from its insurance policy portfolio to a reinsurance firm, as selected by the insurance company.

The allocation outlined in a follow-the-settlement clause is dependent on whether the reinsurance agreement is facultative reinsurance or treaty reinsurance.

Key Takeaways

  • Follow the settlements is a clause in a reinsurance contract.
  • Follow the Settlements means that a reinsurance company agrees to follow all settlements made by an original insurer.
  • When a ceding insurer has a long relationship with a specific single reinsurer, the process of follow-the-settlements clause usually simple.
  • When reinsurers agree to take on specific policies, they are responsible for the losses associated with them.
  • A follow-the-settlements clause is usually taken favorably in a court of law.

Understanding Follow The Settlements

Follow the settlements is a clause in which a reinsurance company agrees to follow all settlements made by an original insurer arising out of and in connection with the original insurance.

When an insurance company underwrites a policy, it agrees to indemnify the policyholder when a claim is made. In exchange for taking on this risk, it receives a premium. As insurers underwrite more and more policies, their risk exposure grows. In order to reduce this exposure, an insurer may enter into an agreement with a reinsurance company.

In exchange for a portion of the insurance company's premiums, a reinsurer will take on some of the insurer’s risks. Reinsurers are responsible for the losses associated with the policies that they have agreed to take on.

A follow-the-settlements clause is a narrower version of a follow-the-fortunes clause, although the two phrases are often used interchangeably.

When an insurance company settles a claim, it notifies the appropriate reinsurers about the settlement and begins the process of recouping funds from the reinsurers to cover losses. If the ceding insurer has worked with a single reinsurer for a long period of time, this process is usually straightforward.

In other cases, such as a mass tort settlement in which numerous plaintiffs sue one or several defendants, the ceding insurer may have worked with several reinsurers over many policy years and periods. The insurer will allocate the losses across the different reinsurers according to the follow-the-settlement clause.

Challenging an Allocation Settlement

The following settlement clause limits a reinsurance company's ability to challenge how the ceding insurer allocates the settlement. This is useful because the reinsurer and ceding insurers' interests may not always completely align, even though both parties generally prefer to reach the best settlement possible.

Generally, courts approve of a follow-the-settlements clause. Why? Because as long as the ceding insurer acts reasonably and in good faith because it reduces the likelihood that the ceding insurer will resort to lawsuits in order to determine allocation, which can hurt claimants by delaying settlement payments.