What Is an Hourly Clause?
An hourly clause, also known as an hours clause, is a provision in a reinsurance contract requiring the time at which a loss occurs to be reported, and, sometimes, restricting coverage to a certain time frame. Hourly clauses are most commonly found in catastrophe reinsurance property policies.
- Hourly clauses restrict the timeframe for claims in a catastrophe reinsurance contract.
- Reinsurers analyze several parameters related to a catastrophe, including its potential frequency and severity, to narrow down the window of time for a claim.
- Hourly clauses occurring within the defined time frame in multiple contracts for the reinsured may be aggregated, depending on the contract's language.
- An hourly clause usually benefits the reinsurer as it reduces their liability amount.
Understanding an Hourly Clause
An hourly clause is one of the specific contract terms reinsurers use to limit coverage and reduce their exposure to losses. It is not usually a separate clause in a reinsurance contract, but included as part of the occurrence definition.
In a reinsurance contract, the reinsurer agrees to indemnify the insurer up to a loss limit in exchange for a portion of the premium that the insurer collects through its underwriting activities. Reinsurers examine the potential frequency and severity of claims and the likelihood that a loss will occur and build that into pricing and risk models.
In the case of catastrophe reinsurance, the intermittence and unpredictability of natural catastrophes can make modeling difficult, and in response to this reinsurers often include terms that limit the scope of coverage.
These terms narrow the definition of what types of catastrophes are covered by, for example, defining catastrophes as those caused by natural and not man-made means. In this case, a naturally occurring earthquake will trigger coverage but an earthquake triggered by drilling a well would not.
They may also include hourly clauses. Reinsurers use hourly clauses to narrow the amount of time after a catastrophe begins that damage will be covered. This limits the amount of time that losses will be accepted relative to the time an insurable event occurs.
For example, an hourly clause may indicate that only damages sustained within four hours of an earthquake are covered by the reinsurance contract. Typically, the time period is fixed at 72 or 168 hours. More recently, hourly clauses have seen an increase in time periods.
Hourly Clause: Restrictive or Expansive?
Determining the time that a loss occurs relative to an insurable event can be difficult, especially if losses are widespread. While reinsurers like to limit their exposure through hourly clauses, insurance companies often view such terms as onerous and will seek out reinsurers who are willing to exclude this type of term from a reinsurance treaty.
But an hourly clause isn't always restrictive. In some instances, it might allow the reinsured to aggregate multiple losses so as to recover from its reinsurers where otherwise this might not have been possible due to various reasons, such as owing to the particular excess level in a contract. For example, damages occurring due to hurricanes in two separate geographical regions can be aggregated into a single claim even though they may have been defined in separate contracts.
Example of an Hourly Clause
Assume Reinsurer ABC has an hourly clause in its contract with Insurance Company BDF. The hourly clause is for 72 hours. During the summer, Hurricane Bilbao strikes the west coast of Florida, devastating many towns over a 120 hour period.
The total payout for insurance claims ceded to Reinsurer ABC for the 120 hour period is $11 million; however, because of the hourly clause, Reinsurer ABC will only provide a payout for claims that occurred within a 72 hour period. Insurance Company BDF decides which 72 hour period to choose, maximizing the payout they will receive, however, they will not receive a payout for the full amount of $11 million.
Insurance Company BDF decides to choose the 72 hour period after the second day of Hurricane Bilboa, the time when the most damage occurred, and will receive a payout of $7 million.
In this example, Reinsurer ABC benefited from the hourly clause as they were not liable for the total damages.