Sunset clause

A sunset clause sets a date beyond which a claim can no longer be presented to the reinsurer, even if it occurred during the cover period and even if it would be covered on the merits. The period runs from treaty expiry and typically ranges from three to ten years. It solves the problem of the open-ended tail. A losses occurring treaty on a long-tail line leaves the reinsurer exposed to notifications arriving fifteen or twenty years later: it ties up reserves and capital with no closing horizon, and cannot close any underwriting year. By bounding the reporting window, the clause lets the reinsurer close an account. The cost falls entirely on the cedant, which is left holding every claim reported late, including those whose lateness is not its doing. Regulators and auditors watch it closely and check that the cedant reserves for this implicit retention rather than treating it as a nil risk. The London Market Excess (LMX) spiral, which hit Lloyd's Names in the late 1980s and early 1990s, shows what the absence of a sufficiently strict clause can cost. Extremely slow-developing US asbestos and pollution claims kept resurfacing in chains of retrocession between syndicates long after many believed the accounts closed. Cumulative losses exceeded eight billion pounds sterling for Names, whose liability was at the time unlimited. The episode made shorter, stricter sunset clauses the norm in retrocession.