Simply put, reinsurance is the insurance purchased by insurance companies.

There are two types of reinsurance: facultative and treaty. Facultative is reinsurance for a specific account, such as the Mackinac Bridge. Treaty reinsurance is on a class of business an insurance company sells, such as homeowners insurance.

All insurance companies purchase reinsurance and it is a large expense they incur. In the event of catastrophic losses such as tornados, earthquakes, hurricanes, and flooding, many insurance companies will be forced to turn in claims to their reinsurers, which could drive the cost of reinsurance up, which is then passed on to policyholders.

Reinsurance is important because it goes to the essence of insurance, which is spreading the risk.