Category: Reinsurance fundamentals · Reviewed by Tim Roche, Director · PI & Commercial · Last reviewed 2026-06-05
A bad debt provision in reinsurance — known under Solvency II as the counterparty default adjustment — reduces the reinsurance recoverable asset on a cedant’s balance sheet to reflect the expected loss from non-payment by reinsurer counterparties. It is calculated by reference to the credit quality, collateral position and recoverability profile of each reinsurer.
Category: Reinsurance fundamentals Also known as: counterparty default adjustment, CDA, reinsurance default adjustment Related concepts: reinsurance recoverable, collateralised reinsurance Related legislation: Solvency II Directive 2009/138/EC; IFRS 17
The bad debt provision is computed at counterparty level, taking account of: the expected probability of default of the reinsurer (typically by reference to its credit rating, internal credit assessment or financial strength rating from AM Best, S&P, Moody’s or Fitch); the expected loss given default (LGD), reflecting any recovery from collateral, ILS structure or insolvency dividend; and the projected payment profile of the recoverable. The product of probability of default, LGD and exposure profile gives the expected loss, which is deducted from the gross recoverable.
For non-collateralised exposures to investment grade reinsurers (typically AM Best A- or better, S&P A or better), the provision is typically 0.5 per cent to 2 per cent of the gross recoverable, increasing sharply for unrated or sub-investment grade reinsurers.
Solvency II Article 81 requires the cedant to allow for expected losses due to default of the reinsurer counterparty in valuing reinsurance recoverables [1]. The Commission Delegated Regulation (EU) 2015/35 prescribes the methodology, including the formula for the expected default adjustment based on probability of default and the modified duration of the recoverable.
IFRS 17 requires the cedant to recognise the impact of counterparty credit risk on the measurement of reinsurance contracts held, with the adjustment recognised in the income statement as it changes.
Cedants typically refresh their bad debt provision at each reporting date by reference to current ratings, recent insolvencies in the reinsurer market, and the cedant’s own collection experience. A material downgrade or insolvency of a reinsurer (such as the run-off of Reliance Insurance, Stirling Covent Garden or the collapse of HIH) can produce a step change in provision.
For Apex clients the bad debt provision on the cedant’s outwards reinsurance is not directly visible at policyholder level but affects the cedant’s net solvency position and its capacity to absorb losses.
An illustrative example: a UK insurer carries £200m of reinsurance recoverables across a panel of 15 reinsurers. The largest counterparty (Munich Re, AA- rated) accounts for £40m, with a 0.5 per cent default provision (£0.2m). A smaller, unrated Bermudian reinsurer accounts for £15m, secured by a fully funded trust account; the provision on this exposure is nil. A run-off reinsurer with case-by-case recoveries accounts for £10m with a 25 per cent provision (£2.5m). The total bad debt provision across the portfolio is £4.5m.
This entry is part of the Apex Insurance Wiki. Last reviewed by Matt Bartlett on 2026-06-05. Next review: 2026-12-05.
Apex Insurance Brokers Limited. Authorised and regulated by the Financial Conduct Authority, FRN 724952. Registered in England and Wales, Companies House 07014570. This entry provides general information about UK insurance concepts and is not regulated advice. Consult your insurance broker on your specific position.
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