What is a time clause?
A time clause, also called a hours clause, is a provision of a reinsurance contract requiring declaration of when a loss occurs and, sometimes, limiting coverage to a certain period. Time clauses are most often found in catastrophe reinsurance real estate policies.
Key points to remember
- Hour clauses limit the duration of claims in a catastrophe reinsurance contract.
- Reinsurers analyze several parameters related to a catastrophe, including its potential frequency and severity, to reduce the window of time for a loss.
- The time clauses appearing within the period defined in several contracts for the reinsured can be aggregated, depending on the language of the contract.
- A time clause generally benefits the reinsurer because it reduces the amount of its liability.
Understand a time clause
A time clause is one of the specific contractual clauses that reinsurers use to limit coverage and reduce their exposure to loss. This is usually not a separate clause in a reinsurance contract, but a clause included in the occurrence definition.
In a reinsurance contract, the reinsurer agree to compensate the insurer up to a loss limit in exchange for a portion of the prime that the insurer collects through its subscription Activities. Reinsurers look at the potential frequency and severity of claims and the likelihood of a claim occurring and incorporate this into pricing and risk models.
In the case of catastrophe reinsurance, the intermittency and unpredictability of natural disasters can make modeling difficult, and in response to this reinsurers often include conditions that limit the extent of coverage.
These terms restrict the definition of the types of disasters covered, for example by defining disasters as those caused by natural and not man-made means. In this case, a natural earthquake will trigger the blanket, but an earthquake triggered by drilling a well will not.
They may also include time clauses. Reinsurers use hour clauses to reduce the time after the onset of a catastrophe during which damage will be covered. This limits the length of time that losses will be accepted relative to when an insurable event occurs.
For example, a time clause may indicate that only damages suffered within four hours of an earthquake are covered by the reinsurance contract. Typically, the period is set to 72 or 168 hours. More recently, time clauses have experienced an increase in delays.
Time clause: restrictive or expansive?
Determining when a claim occurs relative to an insurable event can be difficult, especially if claims are extensive. While reinsurers like to limit their exposure through hourly clauses, insurance companies often view these terms as onerous and seek reinsurers who are willing to exclude these types of terms from a reinsurance treaty.
But a time clause is not always restrictive. In some cases, this could allow the reinsured to aggregate multiple losses in order to recover from their reinsurers when this would not otherwise have been possible for various reasons, such as the particular deductible level in a contract. For example, damage caused by hurricanes in two distinct geographic regions may be aggregated into one claim even if they may have been defined in separate contracts.
Example of a time clause
Suppose reinsurer ABC has a time clause in its contract with insurance company BDF. The time clause is 72 hours. During the summer, Hurricane Bilbao hits the west coast of Florida, devastating many cities over a 120 hour period.
Full payment of insurance claims ceded to the reinsurer ABC for the 120-hour period is $11 million; however, due to the hour clause, the ABC reinsurer will only pay out for claims that occur within a 72-hour period. The BDF insurance company decides which 72-hour period to choose, maximizing the payment it will receive, however, it will not receive payment for the full $11 million.
Insurance company BDF decides to choose the period of 72 hours after the second day of Hurricane Bilboa, when the most damage occurred, and will receive a payment of 7 million dollars.
In this example, the reinsurer ABC benefited from the hourly clause because it was not liable for all the damage.
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