PENN-AMERICA INSURANCE COMPANY
                           PENN-STAR INSURANCE COMPANY
                              Hatboro, Pennsylvania
        and any additional company established or acquired by the Company


                       property catastrophe excess of loss
                         reinsurance program no. 26-002
              reinsuRance contract nos. 36881/36882/36883/36884-002










                                   PREPARED BY


                                 WILLIS RE INC.

                                                                      Willis

<PAGE>




                         PENN-AMERICA INSURANCE COMPANY
                           PENN-STAR INSURANCE COMPANY
                              Hatboro, Pennsylvania
        and any additional company established or acquired by the Company


                       property catastrophe excess of loss
                         reinsurance program no. 26-002
              reinsuRance contract nos. 36881/36882/36883/36884-002

<TABLE>
<CAPTION>

                                                                  Contract Participation
                                                --------------------------------------------------------
REINSURERS                                         1st Excess  2nd Excess     3rd Excess     4th Excess
                                                -------------- ------------ -------------- -------------

Domestic Reinsurers
<S>                                                    <C>          <C>            <C>           <C>
American Agricultural Insurance Company                3.000%       5.000%         5.000%        5.000%
Converium Reinsurance (N.A.), Inc.                    12.500%      15.000%        20.000%       25.000%
Everest Reinsurance Company                           25.000%      25.000%        20.000%       20.000%
PXRE Reinsurance Company                              20.000%      20.000%        15.000%       11.000%
Shelter Mutual Insurance Company                       3.000%       3.000%         2.750%        2.750%

Bermuda Reinsurers
XL Re Ltd.                                             3.000%      10.000%        15.000%       11.000%

International Reinsurers
Converium Ltd. (Zurich)                                8.000%       9.000%        12.000%       15.000%
Hannover Rueckversicherungs-AG                        12.500%      10.000%         7.500%        7.500%
Sirius International Insurance Corporation             3.000%       3.000%         2.750%        2.750%
                                                -------------- ------------ -------------- -------------

TOTAL                                                 90.000%     100.000%       100.000%      100.000%

</TABLE>

                                                                      Willis
<PAGE>




                                TABLE OF CONTENTS


ARTICLE                                                                   PAGE
-------                                                                   ----

I                   BUSINESS COVERED                                       1
II                  THIRD PARTY RIGHTS                                     1
III                 EXCLUSIONS                                             2
IV                  TERM                                                   3
V                   TERRITORY                                              3
VI                  DEFINITIONS                                            3
                           "Declaratory Judgment Expense"                  3
                           "Gross Net Written Premium Income"              4
                           "Loss Adjustment Expense"                       4
                           "Loss Occurrence"                               4
                           "Policy" or "Policies"                          6
                           "Ultimate Net Loss"                             6
VII                 AMOUNT OF COVERAGE AND RETENTION                       6
VIII                NET RETAINED LIABILITY                                 7
IX                  OTHER REINSURANCE                                      7
X                   NOTICE OF LOSS AND LOSS SETTLEMENTS                    7
XI                  PREMIUM                                                8
XII                 REINSTATEMENT                                          8
XIII                SALVAGE AND SUBROGATION                                9
XIV                 CURRENCY                                               9
XV                  UNAUTHORIZED REINSURANCE                               9
XVI                 ACCESS TO RECORDS                                     11
XVII                OFFSET                                                11
XVIII               ERRORS AND OMISSIONS                                  12
XIX                 BINDING ARBITRATION                                   12
XX                  INSOLVENCY                                            13
XXI                 SERVICE OF SUIT                                       13
XXII                TAXES                                                 14
XXIII               FEDERAL EXCISE TAX                                    14
XXIV                GOVERNING LAW                                         15


                                                                 Willis
<PAGE>

XXV                 CONFIDENTIALITY                                       15
XXVI                SEVERABILITY                                          15
XXVII               AGENCY AGREEMENT                                      15
XXVIII              INTERMEDIARY                                          16
                    Pools, Associations & Syndicates Exclusion Clause
                    Insolvency Funds Exclusions Clause
                    North American War Exclusion Clause (Reinsurance)
                    Nuclear Incident Exclusion Clause - Physical Damage -
                    Reinsurance - U.S.A.
                    Terrorism Exclusion Clause
                    Exhibit A

                                                                 Willis

<PAGE>





                       PROPERTY CATASTROPHE EXCESS OF LOSS
                         REINSURANCE PROGRAM NO. 26-002
              reinsurance contract nos. 36881/36882/36883/36884-002
                                (the "Contract")

                                     between

                         PENN-AMERICA INSURANCE COMPANY
                           PENN-STAR INSURANCE COMPANY
                              Hatboro, Pennsylvania
        and any additional company established or acquired by the Company
                                 (the "Company")

                                       and

                   THE SUBSCRIBING REINSURER(S) EXECUTING THE
                     INTERESTS AND LIABILITIES AGREEMENT(S)
                                 ATTACHED HERETO
                                (the "Reinsurer")




                                    ARTICLE I
                                    ---------

BUSINESS COVERED
---------------

By this Contract the  Reinsurer  agrees to reinsure the liability of the Company
under its Policy or Policies in force at the  effective  time and date hereof or
issued or renewed at or after the effective time and date, and classified by the
Company  as  Property  business,  including  but not  limited to Fire and Allied
Lines;  Inland Marine;  Commercial  Multiple Peril  (Property  Coverages  only);
Businessowners  (Property  Coverages only); and Commercial and Private Passenger
Automobile Physical Damage (excluding Collision but including  Garagekeepers and
Garage Physical Damage  Coverages  only),  subject to the terms,  conditions and
limitations hereafter set forth.


                                   ARTICLE II
                                   ----------

THIRD PARTY RIGHTS
------------------

This  Contract  is solely  between  the  Company  and the  Reinsurer,  and in no
instance  shall any other party have any rights  under this  Contract  except as
expressly provided otherwise in the INSOLVENCY ARTICLE.

                                                                 Willis

<PAGE>


                                   ARTICLE III
                                   -----------

EXCLUSIONS
----------

The following shall be excluded from the scope of this Contract:

A. Assumed treaty reinsurance other than:

       (1)  Reinsurance  from  the  Company's   affiliated   companies  (i.e.,
            companies which are under common management or common ownership of
            the Company),

       (2) Local  agency  reinsurance  on a share  basis  accepted in the normal
           course of business,

       (3) Reinsurance assumed from State and County Mutuals;

B.     Pools,  Associations and Syndicates pursuant to the "Pools,  Associations
       and Syndicates Exclusion Clause," attached hereto;

C.     Insolvency  Funds pursuant to the  "Insolvency  Fund  Exclusion  Clause,"
       attached hereto;

D.     War Risks pursuant to the "War Exclusion Clause," attached hereto;

E.     Nuclear Incident pursuant to the "Nuclear Incident Exclusion Clause -
       Physical Damage - Reinsurance - U.S.A.," attached hereto;

F.     Losses  arising out of Extra  Contractual  Obligations  and/or  Excess of
       Original Policy Limits Judgments.

       The term "Extra Contractual  Obligations" is defined as those liabilities
       not covered  under any other  provision of this  Contract and which arise
       from the  handling  of any  claim on  business  covered  hereunder,  such
       liabilities  arising  because  of, but not  limited  to,  the  following:
       failure by the Company to settle within the Policy limit, or by reason of
       alleged or actual negligence, fraud or bad faith in rejecting an offer of
       settlement  or in the  preparation  of the defense or in the trial of any
       action  against its insured or in the  preparation  or  prosecution of an
       appeal consequent upon such action.

       The  term  "Excess  of  Original  Policy  Limits"  is  defined  as  those
       liabilities  which arise in connection with any judgment in excess of the
       limit of the  original  Policy,  such loss in excess of the limit  having
       been  incurred  because of failure  by the  Company to settle  within the
       Policy limit or by reason of alleged or actual negligence,  fraud, or bad
       faith in rejecting an offer of  settlement or in the  preparation  of the
       defense  or in the trial of any  action  against  its  insured  or in the
       preparation or prosecution of an appeal consequent upon such action.

G.     Losses in respect of overhead  transmission  and  distribution  lines and
       their supporting structures, other than those on or within 300 meters (or
       1,000 feet) of the insured  premises.  It is  understood  and agreed that
       public utilities extension and/or suppliers'  extension and/or

                                                                 Willis

<PAGE>

       contingent  business  interruption  coverages  are not  subject  to this
       exclusion,  provided  that  these  are not  part of a  transmitters'  or
       distributors' Policy;

H.     Pollution to the extent that it is excluded under the Company's  original
       Policies;

I.     Rolling stock business;

J.     Satellite business;

K.     Insurance on growing crops;

L.     Difference in Conditions coverage, however styled;

M.     Boiler and Machinery business.

N.     Terrorism pursuant to the "Terrorism Exclusion Clause," attached hereto.


                                   ARTICLE IV
                                   ----------

TERM
----

A.     This  Contract  shall become  effective at 12:01 a.m.,  Eastern  Standard
       Time, January 1, 2002, as respects losses occurring at or after that time
       and date, and shall continue in effect until 12:01 a.m., Eastern Standard
       Time, January 1, 2003.

B.     If this Contract expires or is terminated while a Loss Occurrence covered
       hereunder is in progress,  the  Reinsurer's  liability  hereunder  shall,
       subject to the other terms and conditions of this Contract, be determined
       as if the entire Loss  Occurrence had occurred prior to the expiration or
       termination  of this  Contract,  provided  that  no  part  of  that  Loss
       Occurrence  is  claimed  against  any  renewal  or  replacement  of  this
       Contract.


                                    ARTICLE V
                                    ---------

TERRITORY
---------

The  territorial  limits of this Contract  shall be identical  with those of the
Company's Policies.


                                   ARTICLE VI
                                   ----------

DEFINITIONS
-----------

A.     "Declaratory Judgment Expense"

       Shall mean all  expenses  incurred  by the Company in  connection  with a
       declaratory  judgment  action brought to determine the Company's  defense
       and/or indemnification obligations that are allocable to a specific claim
       subject to this Contract. Declaratory

                                                                      Willis
<PAGE>

       judgment expense shall be deemed to have been incurred on the date of the
       original loss (if any) giving rise to the declaratory judgment action.

B.     "Gross Net Written Premium Income"

       Shall be defined as gross written  premiums plus any additional  premiums
       and less any return  premiums on the Policies  reinsured  hereunder,  and
       less premiums paid for reinsurances,  recoveries under which inure to the
       benefit of this Contract.

C.     "Loss Adjustment Expense"

       Shall mean all costs and expenses  allocable to a specific claim that are
       incurred  by the  Company in the  investigation,  appraisal,  adjustment,
       settlement,  litigation,  defense or appeal of  specific  claims  covered
       under the Policies reinsured  hereunder,  including court costs and costs
       of supersedeas and appeal bonds, and including a) pre-judgment  interest,
       unless  included  as part of the  award  or  judgment;  b)  post-judgment
       interest;  c) legal  expenses  and  costs  incurred  in  connection  with
       coverage  questions  and  legal  actions  connected  thereto,   including
       Declaratory Judgment Expense (as defined herein); and d) a pro rata share
       of salaries  and  expenses of Company  field  employees,  and expenses of
       other  Company  employees who have been  temporarily  diverted from their
       normal and  customary  duties and  assigned  to the field  adjustment  of
       losses covered by this Contract. Loss Adjustment Expense does not include
       unallocated loss adjustment expense.  Unallocated loss adjustment expense
       includes,  but is not limited to,  salaries  and  expenses of  employees,
       other than (d) above, and office and other overhead expenses.

D.     "Loss Occurrence"

       Shall mean the sum of all individual  losses  directly  occasioned by any
       one  disaster,  accident or loss,  or series of  disasters,  accidents or
       losses arising out of one event,  which occurs  anywhere in the world but
       limited in the United  States of America  and the  Dominion  of Canada to
       within the area of one state of the United  States or  province of Canada
       and  states or  provinces  contiguous  thereto  and to one  another.  The
       duration and extent of any one "Loss  Occurrence" shall be limited to all
       individual losses sustained by the Company occurring during any period of
       168 consecutive hours arising out of and directly  occasioned by the same
       event. The term "Loss Occurrence" shall be further defined as follows:

       1.     As regards windstorm, hail, tornado, hurricane, cyclone, including
              ensuing collapse and water damage, all individual losses sustained
              by the Company occurring during any period of 72 consecutive hours
              arising out of and directly occasioned by the same event. However,
              the event need not be limited to one state or  province  or states
              or provinces contiguous thereto.

       2.     As  regards  riot,  riot  attending  a  strike,  civil  commotion,
              vandalism and malicious mischief,  all individual losses sustained
              by the Company occurring during any period of 72 consecutive hours
              within   the  area  of  one   municipality   or  county   and  the
              municipalities or counties  contiguous  thereto arising out of and
              directly  occasioned
                                                                      Willis

<PAGE>


              by the same event.  The maximum  duration of 72 consecutive  hours
              may be extended in respect of individual losses which occur beyond
              such 72  consecutive  hours during the continued  occupation of an
              insured's premises by strikers, provided such occupation commenced
              during the aforesaid period.

       3.     As regards earthquake (the epicenter of which need not necessarily
              be within the  territorial  confines  referred  to in the  opening
              paragraph of this Article) and fire following directly  occasioned
              by  the  earthquake,  only  those  individual  fire  losses  which
              commence  during  the  period  of  168  consecutive  hours  may be
              included in the Company's "Loss Occurrence."

       4.     As regards "Freeze," only individual losses directly occasioned by
              collapse,  breakage of glass and water damage  (caused by bursting
              of frozen pipes and tanks) may be included in the Company's  "Loss
              Occurrence."

       5.     As regards  "Cyberrisk,"  losses arising,  directly or indirectly,
              out of:

              a.    the use or misuse of the Internet or similar facility;

              b.    any electronic transmission of data or other information;

              c.    any malicious  code,  that goes by the name computer  virus,
                    worm, logic bomb, or Trojan horse;

              d.    the  use or  misuse  of any  Internet  address,  Website  or
                    similar facility; or

              e.    any data or other information posted on a Website or similar
                    facility;

              do not in and of themselves constitute an event unless arising out
              of one or more of the following perils:

              fire, lightning,  explosion,  aircraft or vehicle impact,  falling
              objects, windstorm, hail, tornado, cyclone, hurricane, earthquake,
              volcano, tsunami, collapse, flood, freeze, ice or weight of snow.

       For all "Loss  Occurrences,"  except as referred to under sub-paragraph 2
       above,  the  Company may choose the date and time when any such period of
       consecutive  hours  commences,  provided  that it is not earlier than the
       date and time of the  occurrence of the first  recorded  individual  loss
       sustained by the Company arising out of that disaster,  accident, or loss
       and  provided  that only one such period of 168  consecutive  hours shall
       apply  with  respect to one event,  except for those  "Loss  Occurrences"
       referred to in  sub-paragraph  1 above,  where only one such period of 72
       consecutive  hours shall apply with respect to one event,  regardless  of
       the duration of the event.

       As respect those "Loss Occurrences" referred to in sub-paragraph 2 above,
       if the disaster,  accident or loss  occasioned by the event is of greater
       duration  than 72  consecutive  hours,  then the  Company may divide that
       disaster, accident, or loss into two or more "Loss Occurrences," provided
       no two periods  overlap and no  individual  loss is included in more

                                                                 Willis
<PAGE>

       than one such period and provided that no period  commences  earlier than
       the date and time of the occurrence of the first recorded individual loss
       sustained by the Company arising out of that disaster, accident or loss.

       No individual  losses  occasioned by an event that would be covered by 72
       hours clauses may be included in any "Loss Occurrence"  claimed under the
       168 hours provision.

E.     "Policy" or "Policies"

       Shall  mean  all  binders,   policies,  and  contracts  of  insurance  or
       reinsurance  which are  issued by or on  behalf  of the  Company,  all as
       respects the business  covered under this  Contract,  as set forth in the
       BUSINESS COVERED ARTICLE.

F.     "Ultimate Net Loss"

       Shall mean the actual  loss,  including  pre-judgment  interest  which is
       included as part of the award or judgment, Loss Adjustment Expense, which
       amounts  are  paid  or to be  paid by the  Company  on its  net  retained
       liability  after  making   deductions  for  all   recoveries,   salvages,
       subrogations and all claims on inuring  reinsurance,  whether collectible
       or not;  provided,  however,  that, in the event of the insolvency of the
       Company,  payment by the Reinsurer  shall be made in accordance  with the
       provisions of the INSOLVENCY  ARTICLE.  Nothing herein shall be construed
       to mean that losses  under this  Contract are not  recoverable  until the
       Company's Ultimate Net Loss has been ascertained.


                                   ARTICLE VII
                                   -----------

AMOUNT OF COVERAGE AND RETENTION
--------------------------------

A.     The Company  shall retain under each excess layer in respect of each Loss
       Occurrence that amount of Ultimate Net Loss of the "Company's  Retention"
       stated in Item 1 of Exhibit A corresponding to such excess layer.

B.     The Reinsurer  shall then be liable under such excess layer in respect of
       each Loss  Occurrence  that amount of Ultimate  Net Loss in excess of the
       "Company's Retention";  however, such amount shall not exceed 100% of the
       "Each  Loss  Occurrence   Limit"  as  stated  in  Item  2  of  Exhibit  A
       corresponding to such excess layer.

C.     Furthermore,  the limit of liability of the  Reinsurer  under each excess
       layer in respect of Ultimate Net Loss amounts  recoverable  hereunder for
       all Loss Occurrences covered under this Contract shall not exceed 100% of
       the  "Limit  for all Loss  Occurrences"  as stated in Item 3 of Exhibit A
       corresponding to such excess layer.

D.     The coverage hereunder is subject to at least two risks being involved in
       the same Loss Occurrence.

E.     The Company shall be the sole judge of what constitutes each risk.

                                                                      Willis
<PAGE>


F.     "Company  Retention" shall be satisfied if this amount is retained by the
       Company or any  affiliated  company  under  common  management  or common
       ownership of the Company.


                                  ARTICLE VIII
                                  ------------

NET RETAINED LIABILITY
----------------------

A.     This  Contract  applies  to only that  portion  of any  Policy  which the
       Company  retains  net for its own  account  (prior  to  deduction  of any
       underlying  reinsurance  specifically permitted in this Contract) and, in
       calculating  the amount of any loss  hereunder  and also in computing the
       amount or amounts in excess of which this Contract attaches, only loss or
       losses in respect of that portion of any Policy which the Company retains
       net for its own account shall be included.

B.     The amount of the Reinsurer's  liability hereunder in respect of any loss
       shall not be  increased  by reason of the  inability  of the  Company  to
       collect from any other  Reinsurer(s),  whether  specific or general,  any
       amounts  which may have become due from such  Reinsurer(s),  whether such
       inability  arises  from the  insolvency  of such  other  Reinsurer(s)  or
       otherwise.


                                   ARTICLE IX
                                   ----------

OTHER REINSURANCE
-----------------

Applicable to the Second, Third and Fourth Layers only

A.     The Company shall maintain in force other  reinsurance,  recoveries under
       which shall inure to the benefit of this Contract.

B.     The  Company  shall  be  permitted  to  carry   underlying   reinsurance,
       recoveries  under which shall inure  solely to the benefit of the Company
       and be entirely  disregarded  in applying all of the  provisions  of this
       Contract.


                                    ARTICLE X
                                    ---------

NOTICE OF LOSS AND LOSS SETTLEMENTS
-----------------------------------

A.     The Company shall advise the  Reinsurer  promptly of all losses which may
       result in a claim  hereunder and of all subsequent  developments  thereto
       which may materially affect the position of the Reinsurer.


                                                                      Willis
<PAGE>


B.     When so requested in writing,  the Company  shall afford the Reinsurer or
       its  representatives an opportunity to be associated with the Company, at
       the  expense of the  Reinsurer,  in the  defense  of any  claim,  suit or
       proceeding involving this reinsurance,  and the Company and the Reinsurer
       shall  cooperate in every  respect in the defense of such claim,  suit or
       proceeding.

C.     All loss  settlements  made by the Company  that are within the terms and
       conditions of the Policy,  except as otherwise provided in this Contract,
       shall be binding  upon the  Reinsurer.  Upon the  Reinsurer's  receipt of
       satisfactory  proof of loss,  the Reinsurer  agrees to pay within 45 days
       following its receipt thereof its share of each such loss settlement.


                                   ARTICLE XI
                                   ----------

PREMIUM

A.     The  premium  to be paid to the  Reinsurer  for each  layer  of  Property
       Catastrophe Excess of Loss Reinsurance provided by this Contract shall be
       calculated by multiplying  the "Premium Rate" stated in Item 6 of Exhibit
       A to the Gross Net  Written  Premium  Income  corresponding  to each such
       excess layer.

B.     For  each  layer  of  Property  Catastrophe  Excess  of Loss  Reinsurance
       provided by this  Contract,  the Company  shall pay to the  Reinsurer the
       "Annual  Deposit  Premium"  stated in Item 4 of  Exhibit  A,  payable  in
       amounts set forth as "Quarterly Installments" stated in Item 5 of Exhibit
       A, on or before January 1, 2002; April 1, 2002; July 1, 2002; and October
       1, 2002, corresponding to each such excess layer.

C.     Within 90 days  following the  expiration of this  Contract,  the Company
       shall  furnish to the  Reinsurer a statement  of the premium due for each
       excess layer  calculated in accordance  with paragraph A of this Article,
       and any  additional  premium due the Reinsurer or return  premium due the
       Company shall be remitted promptly.


                                   ARTICLE XII
                                   -----------

REINSTATEMENT
-------------

A.     Each claim  hereunder,  as respects  each layer of  Property  Catastrophe
       Excess  Reinsurance  provided  by this  Contract,  reduces  the  limit of
       liability under such excess layer from the time of occurrence of the loss
       by the amount of the claim  paid,  which  amount is hereby  automatically
       reinstated  and  in  consideration  of  payment  by  the  Company  of  an
       additional  premium  calculated by multiplying the final adjusted premium
       under such  excess  layer by the  percentage  that the amount of limit of
       liability  so  reinstated  bears to the total  amount of limit  liability
       provided (i.e.,  the "Reinsurer's  Each Loss Occurrence  Limit" stated in
       Item  2 of  Exhibit  A)  regardless  of the  unexpired  portion  of  this
       Contract.  Such additional  premium shall be paid by the Company when any
       loss payments are made by the Reinsurer.  Nevertheless,  the  Reinsurer's
       liability  under  each  excess  layer  shall  never  exceed  100%  of the
       "Reinsurer's  Each Loss  Occurrence  Limit" stated in Item 2 of Exhibit

                                                                      Willis

<PAGE>


       A and 100% of the "Reinsurer's Limit for all Loss Occurrences"  stated in
       Item 3 of Exhibit A.

B.     In the event a reinstatement  premium  becomes due hereunder  before such
       time as the actual  premium has been  calculated  (as provided for in the
       PREMIUM  ARTICLE),  the Company  shall pay to the Reinsurer a provisional
       reinstatement  premium  based  on  the  deposit  premium  hereunder.  The
       provisional reinstatement premium shall be adjusted as soon as the actual
       premium has been established.


                                  ARTICLE XIII
                                  ------------

SALVAGE AND SUBROGATION
-----------------------

The Reinsurer  shall be credited with salvage or subrogation  recoveries  (i.e.,
reimbursement  obtained or recovery  made by the Company,  less Loss  Adjustment
Expense  incurred in obtaining  such  reimbursement  or making such recovery) on
account of claims and settlements involving reinsurance  hereunder.  Salvage and
subrogation  recoveries  thereon  shall always be used to  reimburse  the excess
carriers in the reverse order of their priority according to their participation
before being used in any way to reimburse the Company for its primary loss.  The
Company hereby agrees to enforce its rights to salvage or  subrogation  relating
to any  loss,  a part of  which  loss was  sustained  by the  Reinsurer,  and to
prosecute all claims arising out of such rights.


                                   ARTICLE XIV
                                   -----------

CURRENCY
--------

A.     Whenever the word  "Dollars"  or the "$" sign  appears in this  Contract,
       they  shall  be  construed  to  mean  United   States   Dollars  and  all
       transactions under this Contract shall be in United States Dollars.
B.     Amounts  paid or received by the Company in any other  currency  shall be
       converted  to United  States  Dollars at the rate of exchange at the date
       such transaction is entered on the books of the Company.


                                   ARTICLE XV
                                   ----------

UNAUTHORIZED REINSURANCE
------------------------

(Applies  only to a  Reinsurer  who does not  qualify  for full  credit with any
insurance regulatory authority having jurisdiction over the Company's reserves.)

A.     As regards Plicies or bonds issued by the Company coming within the scope
       of this  Contract,  the  Company  agrees that when it shall file with the
       insurance regulatory authority or set up on its books reserves for losses
       covered  hereunder  which it shall be  required by law to set up, it will
       forward to the  Reinsurer a  statement  showing  the  proportion  of such

                                                                      Willis
<PAGE>


       reserves  which is applicable  to the  Reinsurer.  The  Reinsurer  hereby
       agrees to fund such reserves in respect of known outstanding  losses that
       have been reported to the Reinsurer and allocated loss adjustment expense
       relating  thereto,  losses and allocated loss adjustment  expense paid by
       the Company but not  recovered  from the  Reinsurer,  plus  reserves  for
       losses incurred but not reported,  as shown in the statement  prepared by
       the Company  (hereinafter  referred to as "Reinsurer's  Obligations")  by
       funds withheld,  cash advances or a Letter of Credit. The Reinsurer shall
       have the  option of  determining  the method of  funding  provided  it is
       acceptable to the insurance  regulatory  authorities having  jurisdiction
       over the Company's reserves.

B.     When funding by a Letter of Credit, the Reinsurer agrees to apply for and
       secure  for  timely  delivery  to the  Company  (in  accordance  with the
       Company's reporting requirements) a clean,  irrevocable and unconditional
       Letter of Credit issued by a bank and containing provisions acceptable to
       the  insurance  regulatory   authorities  having  jurisdiction  over  the
       Company's  reserves in an amount equal to the  Reinsurer's  proportion of
       said reserves.  Such Letter of Credit shall be issued for a period of not
       less than one year, and shall be automatically extended for one year from
       its date of expiration or any future  expiration  date unless 30 days (60
       days where  required by insurance  regulatory  authorities)  prior to any
       expiration date the issuing bank shall notify the Company by certified or
       registered  mail that the issuing  bank elects not to consider the Letter
       of Credit extended for any additional period.

C.     The Reinsurer  and Company  agree that the Letters of Credit  provided by
       the  Reinsurer  pursuant to the  provisions of this Contract may be drawn
       upon at any time,  notwithstanding  any other provision of this Contract,
       and be utilized by the Company or any successor,  by operation of law, of
       the Company including, without limitation, any liquidator, rehabilitator,
       receiver or conservator of the Company for the following purposes, unless
       otherwise provided for in a separate Trust Agreement:

       1.     to  reimburse  the Company for the  Reinsurer's  Obligations,  the
              payment of which is due under the terms of this Contract and which
              has not been otherwise paid;

       2.     to make refund of any sum which is in excess of the actual  amount
              required to pay the Reinsurer's Obligations under this Contract;

       3.     to  fund  an  account   with  the  Company  for  the   Reinsurer's
              Obligations.  Such  cash  deposit  shall  be held  in an  interest
              bearing  account  separate  from the Company's  other assets,  and
              interest  thereon not in excess of the prime rate shall  accrue to
              the benefit of the Reinsurer;

       4.     to pay the  Reinsurer's  share of any other  amounts  the  Company
              claims are due under this Contract.

D.     In the event the amount  drawn by the  Company on any Letter of Credit is
       in excess of the actual amount  required for 1 or 3 or, in the case of 4,
       the actual amount determined to be due, the Company shall promptly return
       to the Reinsurer the excess amount so drawn.  All

                                                                      Willis
<PAGE>



       of  the  foregoing  shall  be  applied  without   diminution  because  of
       insolvency on the part of the Company or the Reinsurer.

E.     The issuing bank shall have no  responsibility  whatsoever  in connection
       with the propriety of withdrawals  made by the Company or the disposition
       of funds withdrawn,  except to ensure that withdrawals are made only upon
       the order of properly authorized representatives of the Company.

F.     At  annual  intervals,  or more  frequently  as  agreed  but  never  more
       frequently than quarterly, the Company shall prepare a specific statement
       of the  Reinsurer's  Obligations,  for the sole  purpose of amending  the
       Letter of Credit, in the following manner:

       1.     If the statement shows that the Reinsurer's Obligations exceed the
              balance of credit as of the statement  date, the Reinsurer  shall,
              within 30 days  after  receipt  of notice of such  excess,  secure
              delivery  to the Company of an  amendment  to the Letter of Credit
              increasing the amount of credit by the amount of such difference.

       2.     If, however, the statement shows that the Reinsurer's  Obligations
              are less than the balance of credit as of the statement  date, the
              Company  shall,  within 30 days after  receipt of written  request
              from the  Reinsurer,  release  such  excess  credit by agreeing to
              secure an amendment to the Letter of Credit reducing the amount of
              credit available by the amount of such excess credit.


                                   ARTICLE XVI
                                   -----------

ACCESS TO RECORDS
-----------------

The Company shall place at the disposal of the Reinsurer and the Reinsurer shall
have  the  right  to  inspect  through  its  authorized  representative,  at all
reasonable  times during the term of this  Contract and  thereafter,  the books,
records  and  papers  of the  Company  pertaining  to the  reinsurance  provided
hereunder and all claims made in connection therewith.


                                  ARTICLE XVII
                                  ------------

OFFSET
------

The Company  and the  Reinsurer,  each at its option,  may offset any balance or
balances,  whether on account of premiums,  claims and losses,  loss expenses or
salvages due from one party to the other under this Contract; provided, however,
that in the event of the  insolvency  of a party  hereto,  offsets shall only be
allowed in accordance with applicable statutes and regulations.

                                                                      Willis
<PAGE>


                                  ARTICLE XVIII
                                  -------------

ERRORS AND OMISSIONS
--------------------

Any  inadvertent  delay,  omission or error shall not be held to relieve  either
party  hereto  from any  liability  which would  attach to either  party if such
delay,  omission or error had not been made,  provided such omission or error is
rectified upon discovery.


                                   ARTICLE XIX
                                   -----------

BINDING ARBITRATION
-------------------

A.     If any dispute shall arise between the parties to this  Contract,  either
       before or after its termination,  with reference to the interpretation of
       this Contract, including the formation or validity thereof, or the rights
       of either party with respect to any transactions under this Contract, the
       dispute shall be referred to three (3) arbitrators.  One arbitrator is to
       be chosen by each  party  and the third by the two so  chosen.  If either
       party  refuses or neglects to appoint an  arbitrator  within  thirty (30)
       days after the receipt of written notice from the other party  requesting
       it to do so, the requesting  party may nominate two (2)  arbitrators  who
       shall choose the third.

B.     In the event the  arbitrators  do not agree on the selection of the third
       arbitrator within thirty (30) days, each arbitrator shall name three (3),
       of whom the other arbitrator shall decline two (2) and the decision shall
       be made by drawing lots.  All  arbitrators  shall be executive or retired
       officers of insurance or reinsurance companies or underwriters at Lloyd's
       of London, not under the control of either party to this Contract.

C.     If more than one  Reinsurer  is  involved in the same  dispute,  all such
       Reinsurers shall constitute and act as one party for the purposes of this
       Article,  provided,  however, that nothing herein shall impair the rights
       of such  Reinsurers  to assert  several,  rather than joint,  defenses or
       claims, nor be construed as changing the liability of the Reinsurer under
       the terms of this Contract from several to joint.

D.     Each party shall submit its case to the  arbitrators  within  thirty (30)
       days  of  the  appointment  of the  arbitrators.  The  arbitrators  shall
       consider this Contract an honorable engagement rather than merely a legal
       obligation; they are relieved of all judicial formalities and may abstain
       from following the strict rules of law. The decision of a majority of the
       arbitrators  shall be final  and  binding  on both  the  Company  and the
       Reinsurer.  Judgment may be entered upon the award of the  arbitrators in
       any court having jurisdiction.

E.     Each party  shall bear the fee and  expenses of its own  arbitrator,  one
       half of the fees and the expenses of the third arbitrator and one half of
       the other expenses of the arbitration.  In the event both arbitrators are
       chosen by one party, the fees of the arbitrators shall be equally divided
       between parties.

F.     Any such arbitration  shall take place in Hatboro,  Pennsylvania,  unless
       some other location is mutually agreed upon by the parties.

                                                                      Willis
<PAGE>


                                   ARTICLE XX
                                   ----------

INSOLVENCY
----------

A.     In the event of the insolvency of the Company,  this reinsurance shall be
       payable  directly  to  the  Company  or  to  its  liquidator,   receiver,
       conservator or statutory successor upon demand, with reasonable provision
       for  verification,  on the basis of the liability of the Company  without
       diminution  because of the  insolvency  of the  Company  or  because  the
       liquidator,  receiver,  conservator or statutory successor of the Company
       has failed to pay all or a portion of any claim.  It is agreed,  however,
       that the liquidator,  receiver, conservator or statutory successor of the
       Company  shall give written  notice to the Reinsurer of the pendency of a
       claim against the Company  indicating the Policy or bond reinsured  which
       claim would  involve a possible  liability  on the part of the  Reinsurer
       within a reasonable time after such claim is filed in the conservation or
       liquidation  proceeding  or in the  receivership,  and  that  during  the
       pendency of such claim,  the  Reinsurer  may  investigate  such claim and
       interpose,  at its own expense,  in the proceeding where such claim is to
       be adjudicated, any defense or defenses that it may deem available to the
       Company or its liquidator,  receiver, conservator or statutory successor.
       The expense thus incurred by the Reinsurer  shall be chargeable,  subject
       to the approval of the Court,  against the Company as part of the expense
       of  conservation  or liquidation to the extent of a pro rata share of the
       benefit which may accrue to the Company solely as a result of the defense
       undertaken by the Reinsurer.

B.     Where  two or more  Reinsurers  are  involved  in the  same  claim  and a
       majority  in interest  elects to  interpose  defense to such  claim,  the
       expense  shall  be  apportioned  in  accordance  with  the  terms of this
       Contract as though such expense had been incurred by the Company.

C.     It is further agreed that, in the event of the insolvency of the Company,
       the  reinsurance  under this  Contract  shall be payable  directly by the
       Reinsurer to the Company or its  liquidator,  receiver,  conservator,  or
       statutory  successor,  except as provided  by Section  4118(a) of the New
       York  Insurance  Law or  except  (a)  where  this  Contract  specifically
       provides another payee of such reinsurance in the event of the insolvency
       of the Company or (b) where the Reinsurer  with the consent of the direct
       insured or insureds has assumed such Policy obligations of the Company as
       direct  obligations of the Reinsurer to the payee under such policies and
       in substitution for the obligations of the Company to such payees.

D.     In the event of the insolvency of the Company or companies  listed in the
       designation of "Company"  under this  Contract,  this Article shall apply
       only to the insolvent company.


                                   ARTICLE XXI
                                   -----------

SERVICE OF SUIT
---------------

(Applicable  if the  Reinsurer is not domiciled in the United States of America,
and/or is not  authorized  in any State,  Territory  or  District  of the United
States where authorization is required by insurance regulatory authorities).


                                                                      Willis
<PAGE>


A.     It is  agreed  that in the event the  Reinsurer  fails to pay any  amount
       claimed  to be  due  hereunder,  the  Reinsurer,  at the  request  of the
       Company,  will  submit  to the  jurisdiction  of any  court of  competent
       jurisdiction   within  the  United   States.   Nothing  in  this  Article
       constitutes  or  should  be  understood  to  constitute  a waiver  of the
       Reinsurer's  rights to  commence  an  action  in any  court of  competent
       jurisdiction in the United States, to remove an action to a United States
       District  Court,  or to seek a  transfer  of a case to  another  court as
       permitted by the laws of the United  States or of any state in the United
       States.

B.     Further,  pursuant to any statute of any state,  territory or district of
       the United States which makes provision  therefor,  the Reinsurer  hereby
       designates the party named in its Interests and Liabilities Agreement, or
       if no  party  is  named  therein,  the  Superintendent,  Commissioner  or
       Director of Insurance or other officer  specified for that purpose in the
       statute, or his successor or successors in office, as its true and lawful
       attorney upon whom may be served any lawful  process in any action,  suit
       or  proceeding  instituted  by  or  on  behalf  of  the  Company  or  any
       beneficiary hereunder arising out of this Contract.


                                  ARTICLE XXII
                                  ------------

TAXES
-----

In consideration  of the terms under which this Contract is issued,  the Company
will not claim a  deduction  in respect of the  premium  hereon  when making tax
returns,  other than income or profits tax returns, to any state or territory of
the United States of America or the District of Columbia or Canada.


                                  ARTICLE XXIII
                                  -------------

FEDERAL EXCISE TAX
------------------

(Applicable to those  Reinsurers,  excepting  underwriters at Lloyd's London and
other Reinsurers  exempt from Federal Excise Tax, who are domiciled  outside the
United States of America.)

A.     The  Reinsurer  has agreed to allow for the purpose of paying the Federal
       Excise Tax the  applicable  percentage of the premium  payable hereon (as
       imposed  under  Section 4371 of the Internal  Revenue Code) to the extent
       such premium is subject to the Federal Excise Tax.

B.     In the  event  of any  return  of  premium  becoming  due  hereunder  the
       Reinsurer will deduct the applicable  percentage  from the return premium
       payable  hereon and the Company or its agent should take steps to recover
       the tax from the United States Government.


                                                                      Willis
<PAGE>


                                  ARTICLE XXIV
                                  -------------

GOVERNING LAW
-------------

This  Contract  shall  be  governed  as  to  performance,   administration   and
interpretation by the laws of the State of Pennsylvania,  exclusive of the rules
with respect to conflicts of law,  except as to rules with respect to credit for
reinsurance in which case the applicable rules of all states shall apply.


                                   ARTICLE XXV
                                   -----------

CONFIDENTIALITY
---------------

The  Reinsurer,  except with the express prior  written  consent of the Company,
shall not directly or indirectly,  communicate, disclose or divulge to any third
party,  any knowledge or  information  that may be acquired  either  directly or
indirectly as a result of the  inspection of the  Company's  books,  records and
papers.  The  restrictions  as  outlined  in this  Article  shall  not  apply to
information   which  is  already  in  the  public  domain  or  communication  or
disclosures  that the Reinsurer is required to make to its  statutory  auditors,
retrocessionaires,  legal counsel,  parent company,  arbitrators involved in any
arbitration procedures under this Contract or disclosures required upon subpoena
or other duly-issued order of a court or other governmental agency or regulatory
authority.


                                  ARTICLE XXVI
                                  ------------

SEVERABILITY
------------

If any provision of this Contract should be invalid under  applicable  laws, the
latter shall  control but only to the extent of the conflict  without  affecting
the remaining provisions of this Contract.


                                  ARTICLE XXVII
                                  -------------

Agency Agreement
----------------

If more than one  reinsured  company is named as a party to this  Contract,  the
first named  company will be deemed the agent of the other  reinsured  companies
for  purposes  of  sending  or  receiving  notices  required  by the  terms  and
conditions  of this  Contract and for  purposes of  remitting  or receiving  any
monies due any party.

                                                                      Willis
<PAGE>


                                 ARTICLE XXVIII
                                 --------------

INTERMEDIARY
------------

Willis Re Inc., 11 Penn Center,  Suite 2700,  1835 Market Street,  Philadelphia,
Pennsylvania  19103 is hereby  recognized as the  intermediary  negotiating this
Contract  and  through  whom  all  communications   relating  thereto  shall  be
transmitted  to  the  Company  or the  Reinsurer.  However,  all  communications
concerning  accounts,  claim  information,  funds and inquiries  related thereto
shall be  transmitted  to the Company or the Reinsurer  through  Willis Re Inc.,
5420 Millstream  Road,  Suite 200, P.O. Box 3000,  McLeansville,  North Carolina
27301-3000.  Payments  by the  Company  to  Willis  Re Inc.  shall be  deemed to
constitute  payment to the  Reinsurer and payments by the Reinsurer to Willis Re
Inc.  shall be deemed to  constitute  payment to the Company  only to the extent
that such payments are actually received by the Company.





IN WITNESS  WHEREOF,  the  Company  by its duly  authorized  representative  has
executed this Contract as of the date specified below:

Signed this __________________ day of _________________________________, 2002.

PENN-AMERICA INSURANCE COMPANY
PENN-STAR INSURANCE COMPANY


By____________________________________________________



                                                                      Willis
<PAGE>


                POOLS, ASSOCIATIONS & SYNDICATES EXCLUSION CLAUSE
                -------------------------------------------------

SECTION A:
---------

EXCLUDING:

         (a)      All Business  derived  directly or  indirectly  from any Pool,
                  Association or Syndicate  which  maintains its own reinsurance
                  facilities.

         (b)      Any Pool or Scheme  (whether  voluntary or  mandatory)  formed
                  after  March 1,  1968 for the  purpose  of  insuring  Property
                  whether on a  country-wide  basis or in respect of  designated
                  areas. This exclusion shall not apply to so-called  Automobile
                  Insurance Plans or other Pools formed to provide  coverage for
                  Automobile Physical Damage.

SECTION B:
----------

It is agreed that business written by the Company for the same perils,  which is
known at the time to be insured by, or in excess of underlying amounts placed in
the following Pools, Associations, or Syndicates, whether by way of insurance or
reinsurance, is excluded hereunder:

         Industrial Risk Insurers,
         Associated Factory Mutuals,
         Improved Risk Mutuals,
         Any Pool,  Association  or  Syndicate  formed  for the  purpose of
                  writing Oil, Gas or  Petro-Chemical  Plants  and/or Oil or Gas
                  Drilling Rigs,
         United States Aircraft  Insurance Group,
         Canadian  Aircraft  Insurance Group,
         Associated  Aviation Underwriters,
         American   Aviation  Underwriters.

SECTION B does not apply:

         (a)      Where the Total  Insured  Value over all interests of the risk
                  in question is less than $250,000,000.

         (b)      To interests  traditionally  underwritten  as Inland Marine or
                  Stock and/or Contents written on a Blanket basis.

         (c)      To Contingent Business  Interruption,  except when the Company
                  is  aware  that  the key  location  is known at the time to be
                  insured in any Pool,  Association  or  Syndicate  named above,
                  other than as provided for under Section B (a).

         (d)      To risks as follows:

                  Offices,   Hotels,    Apartments,    Hospitals,    Educational
                  Establishments,   Public   Utilities   (other  than   Railroad
                  Schedules)  and  Builder's  Risks  on  the  classes  of  risks
                  specified in this subsection (d) only.

Where this Clause attaches to catastrophe  excesses,  the following Section C is
added:

SECTION C:
----------

NEVERTHELESS the Reinsurer  specifically  agrees that liability  accruing to the
Company from its participation in residual market  mechanisms  including but not
limited to:

                                                                      Willis

<PAGE>


         (l) The following so-called "Coastal Pools":

                  ALABAMA INSURANCE  UNDERWRITING  ASSOCIATION FLORIDA WINDSTORM
                  UNDERWRITING    ASSOCIATION   ("FWUA")   LOUISIANA   INSURANCE
                  UNDERWRITING  ASSOCIATION  MISSISSIPPI WINDSTORM  UNDERWRITING
                  ASSOCIATION NORTH CAROLINA INSURANCE UNDERWRITING  ASSOCIATION
                  SOUTH  CAROLINA  WINDSTORM AND HAIL  UNDERWRITING  ASSOCIATION
                  TEXAS WINDSTORM INSURANCE ASSOCIATION
                                                    AND
         (2)      All "FAIR Plan" and "Rural Risk Plan" business
                                                    AND
                  The  Florida   Property   and  Casualty   Joint   Underwriting
                  Association  ("FPCJUA"),  the Florida Residential Property and
                  Casualty  Joint  Underwriting  Association  ("RPCJUA") and the
                  California Earthquake Authority (CEA)

         for all perils  otherwise  protected  hereunder  shall not be excluded,
         except, however, that this reinsurance does not include any increase in
         such liability resulting from:

         (i)      The inability of any other  participant in such "Coastal Pool"
                  and/or  "FAIR Plan" and/or  "Rural Risk Plan" and/or  Residual
                  Market Mechanisms to meet its liability.

         (ii)     Any claim  against  such  "Coastal  Pool"  and/or  "FAIR Plan"
                  and/or "Rural Risk Plan" and/or Residual Market Mechanisms, or
                  any participant therein, including the Company, whether by way
                  of  subrogation  or otherwise,  brought by or on behalf of any
                  Insolvency  Fund (as defined in the Insolvency  Fund Exclusion
                  Clause incorporated in this Contract).

SECTION D:
---------

         (1)      Notwithstanding  Section C above, in respect of the CEA, where
                  an  assessment  is made  against the  Company by the CEA,  the
                  Company  may  include  in the  Ultimate  Net  Loss  only  that
                  assessment   directly   attributable  to  each  separate  loss
                  occurrence  covered  hereunder.  The Company's initial capital
                  contribution  to the CEA shall not be included in the Ultimate
                  Net Loss.

         (2)      Notwithstanding  Section  C above,  in  respect  of the  FWUA,
                  FPCJUA and RPCJUA,  where an  assessment  is made  against the
                  Company  by  the  FWUA,  the  FPCJUA,   the  RPCJUA,   or  any
                  combination  thereof,  the  maximum  loss that the Company may
                  include  in the  Ultimate  Net  Loss in  respect  of any  loss
                  occurrence hereunder shall not exceed the lesser of:

                  (a)      The  Company's  assessment  from the relevant  entity
                           (FWUA,  FPCJUA and/or RPCJUA) for the accounting year
                           in which the loss occurrence commenced, or

                  (b) The product of the following:

                           (i)      The Company's  percentage  participation  in
                                    the relevant  entity for the accounting year
                                    in which the loss occurrence commenced; and

                           (ii) The relevant  entity's total losses in such loss
occurrence.

Any  assessments  for  accounting  years  subsequent  to that in which  the loss
occurrence  commenced  may not be included in the Ultimate  Net Loss  hereunder.
Moreover,  notwithstanding  Section C above,  in respect of the FWUA, the FPCJUA
and/or the RPCJUA,  the Ultimate Net Loss hereunder shall not include any monies
expended to purchase or retire bonds as a  consequence  of being a member of the
FWUA,  the FPCJUA  and/or the RPCJUA.  For the  purposes of this  Contract,  the
Company  may  not  include  in the  Ultimate  Net  Loss  any  assessment  or any
percentage  assessment  levied by the FWUA, the FPCJUA and/or the RPCJUA to meet
the  obligations of an insolvent  insurer member or other party,  or to meet any
obligations  arising from the deferment by the FWUA, FPCJUA and/or RPCJUA of the
collection of monies.

                                                                     Willis
<PAGE>



                       INSOLVENCY FUNDS EXCLUSIONS CLAUSE
                       ----------------------------------




This  Contract  excludes:  All  liability of the Company  arising,  by contract,
operation of law, or otherwise,  from its  participation or membership,  whether
voluntary or involuntary, in any insolvency fund. "Insolvency Fund" includes any
guaranty  fund,  insolvency  fund,  plan,  pool,  association,   fund  or  other
arrangement, howsoever denominated,  established or governed, which provides for
any  assessment of or payment or assumption by the Company of part or all of any
claim, debt, charge, fee or other obligation of an insurer, or its successors or
assigns, which has been declared by any competent authority to be insolvent,  or
which is otherwise deemed unable to meet any claim, debt, charge,  fee, or other
obligation in whole or in part.

                                                                      Willis
<PAGE>



                NORTH AMERICAN WAR EXCLUSION CLAUSE (REINSURANCE)
     `          -------------------------------------------------



As regards  interests which at time of loss or damage are on shore, no liability
shall attach hereto in respect of any loss or damage which is occasioned by war,
invasion,   hostilities,   acts  of  foreign  enemies,   civil  war,  rebellion,
insurrection, military or usurped power, or martial law or confiscation by order
of any government or public authority.

This War Exclusion Clause shall not,  however,  apply to interests which at time
of loss or damage  are  within the  territorial  limits of the United  States of
America  (comprising the fifty States of the Union and the District of Columbia,
its territories and  possessions  including the  Commonwealth of Puerto Rico and
including  Bridges between the U.S.A.  and Mexico provided they are under United
States ownership),  Canada, St. Pierre and Miquelon, provided such interests are
insured under  policies,  endorsements  or binders  containing a standard war or
hostilities or warlike operations exclusion clause.

Nevertheless,  this Clause shall not be  construed  to apply to riots,  strikes,
civil commotion,  vandalism, malicious damage including acts committed by agents
of any  government,  party or  faction  engaged  in war,  hostilities,  or other
warlike  operation,  provided  such  agents  are  acting  secretly  and  not  in
connection  with any operations of military or naval armed forces in the country
where the interests insured are situated.


                                                                      Willis
<PAGE>


   NUCLEAR INCIDENT EXCLUSION CLAUSE - PHYSICAL DAMAGE - REINSURANCE - U.S.A.
   ---------------------------------------------------------------------------


1)     This  Agreement  does not cover  any loss or  liability  accruing  to the
       Reinsured,  directly or indirectly,  and whether as Insurer or Reinsurer,
       from any  Pool of  Insurers  or  Reinsurers  formed  for the  purpose  of
       covering Atomic or Nuclear Energy risks.

2)     Without in any way  restricting  the  operation of paragraph  (1) of this
       Clause,  this Agreement does not cover any loss or liability  accruing to
       the  Reinsured,   directly  or  indirectly  and  whether  as  Insurer  or
       Reinsurer, from any Insurance against Physical Damage (including business
       interruption or  consequential  loss arising out of such Physical Damage)
       to:

       I.     Nuclear reactor power plants  including all auxiliary  property on
              the site, or

       II.    Any other nuclear  reactor  installation,  including  laboratories
              handling   radioactive   materials  in  connection   with  reactor
              installations, and "critical facilities" as such, or

       III.   Installations  for  fabricating  complete  fuel  elements  or  for
              processing  substantial  quantities of "special nuclear material,"
              and for reprocessing, salvaging, chemically separating, storing or
              disposing of "spent" nuclear fuel or waste materials, or

       IV.    Installations  other than those  listed in  paragraph 2) III above
              using  substantial  quantities  of  radioactive  isotopes or other
              products of nuclear fission.

3)     Without in any way  restricting  the  operations  of paragraphs 1) and 2)
       hereof,   this  Agreement  does  not  cover  any  loss  or  liability  by
       radioactive   contamination  accruing  to  the  Reinsured,   directly  or
       indirectly,  and whether as Insurer or  Reinsurer,  from any insurance on
       property  which is on the same site as a nuclear  reactor  power plant or
       other nuclear  installation and which normally would be insured therewith
       except that this paragraph 3) shall not operate

              a)    where the Reinsured  does not have knowledge of such nuclear
                    reactor power plant or nuclear installation, or
              b)    where said insurance contains a provision excluding coverage
                    for  damage  to  property   caused  by  or  resulting   from
                    radioactive  contamination,  however caused. However, on and
                    after 1st,  January 1960, this  sub-paragraph  b) shall only
                    apply provided the said radioactive  contamination exclusion
                    provision  has been  approved  by the  Government  Authority
                    having jurisdiction thereof.

4)     Without in any way restricting the operations of paragraphs 1), 2) and 3)
       hereof,   this  Agreement  does  not  cover  any  loss  or  liability  by
       radioactive   contamination  accruing  to  the  Reinsured,   directly  or
       indirectly,  and whether as Insurer or Reinsurer,  when such  radioactive
       contamination is a named hazard specifically insured against.

5)     It is  understood  and agreed that this Clause  shall not extend to risks
       using radioactive  isotopes in any form where the nuclear exposure is not
       considered by the Reinsured to be the primary hazard.

6)     The term "special  nuclear  material"  shall have the meaning given it in
       the Atomic Energy Act of 1954, or by any law amendatory thereof.

7)     Reinsured to be sole judge of what constitutes:

       a) substantial quantities, and

       b) the extent of installation, plant or site.

NOTE:  Without in any way restricting the operations of paragraph 1) hereof,  it
       is understood and agreed that:

       a)     all policies  issued by the Reinsured on or before 31st,  December
              1957,  shall be free from the application of the other  provisions
              of this Clause until expiry date or 31st, December 1960, whichever
              first occurs  whereupon  all the  provisions  of this Clause shall
              apply,
       b)     with respect to any risk located in Canada  policies issued by the
              Reinsured on or before 31st, December 1958, shall be free from the
              application  of the other  provisions  of this Clause until expiry
              date or 31st, December 1960,  whichever first occurs whereupon all
              the provisions of this Clause shall apply.

12/12/57
N.M.A. 1119

                                                                      Willis
<PAGE>


                           TERRORISM EXCLUSION CLAUSE
                           --------------------------

A.     This  Contract  does not  cover  any loss or damage  caused  directly  or
       indirectly  by  Terrorism,  including  action in  hindering  or defending
       against an actual or expected incident of Terrorism.  Such loss or damage
       is  excluded  regardless  of any other  cause or event  that  contributes
       concurrently or in any sequence to the loss.

B.     "Terrorism"  as  used  herein  shall  mean  activities  against  persons,
       organizations or property of any nature:

       1. That involve the following or preparation for the following:

              a.    Use or threat of force or violence;

              b.    Commission or threat of a dangerous act; or

              c.    Commission  or  threat  of an act  that  interferes  with or
                    disrupts  an  electronic,  communication,   information,  or
                    mechanical system; and

       2. When one or both of the following applies:

              a.    The effect is to  intimidate  or coerce a government  or the
                    civilian  population or any segment  thereof,  or to disrupt
                    any segment of the economy; or

              b.    It  appears  that the  intent is to  intimidate  or coerce a
                    government, or to further political, ideological, religious,
                    social or  economic  objectives  or to express  (or  express
                    opposition to) a philosophy or ideology.

C.  Furthermore,  a loss  will  be  deemed  Terrorism  when  one or  both of the
following applies:

       1.     The total sum of all  damages  to all  types of  property  (in the
              United States,  its territories and  possessions,  Puerto Rico and
              Canada)  sustained  by all  persons and  entities  affected by the
              Terrorism (and including business interruption losses sustained by
              owners or  occupants  of such  damaged  property),  whether or not
              insured, exceeds $25,000,000; and/or

       2.     The Terrorism involves the use, release or escape of pathogenic or
              poisonous   biological   or  chemical   materials  or  of  nuclear
              materials,  or directly or indirectly  results in nuclear reaction
              or radiation or radioactive contamination.

D.     With regard to paragraph  C.1., for the purpose of determining  the total
       sum of all  damages  to all  types of  property,  multiple  incidents  of
       Terrorism  which occur  within a  seventy-two  hour period and that which
       appear to be  carried  out in  concert  or to have a related  purpose  or
       common leadership shall be considered one incident of Terrorism.

E.     Notwithstanding the foregoing, a loss will not be deemed Terrorism if the
       Federal  Government  or  other  applicable  governmental  authority  have
       determined it not to be Terrorism.

                                                                     Willis
<PAGE>




                                    EXHIBIT A
                                    ---------

                                     to the

                         PENN-AMERICA INSURANCE COMPANY
                           PENN-STAR INSURANCE COMPANY

       Property Catastrophe Excess Of Loss Reinsurance Program No. 26-002
               Comprised of Contracts 36881/36882/36883/36884-002

                   For the Period 12:01 a.m., January 1, 2002
                         To 12:01 a.m., January 1, 2003

<TABLE>
<CAPTION>

                                                              1st Excess         2nd Excess     3rd Excess        4th Excess
                                                               36881-002         36882-002       36883-002         36884-002
                                                              -----------      -----------     ------------      -----------
<S>  <C>                                                      <C>              <C>              <C>              <C>
Item 1   Company's Retention                                  $ 1,000,000      $ 2,000,000      $ 5,000,000      $11,000,000

Item 2   Reinsurer's Each Loss Occurrence Limit (100% of)     $ 1,000,000      $ 3,000,000      $ 6,000,000      $14,000,000

Item 3   Reinsurer's Limit for all Loss Occurrences           $ 2,000,000      $ 6,000,000      $12,000,000      $28,000,000
         during the term (100%)

Item 4   Annual Deposit Premium                               $   262,500      $   390,000      $   390,000      $   455,000

Item 5   Quarterly Installments                               $    65,625      $    97,500      $    97,500      $   113,750

Item 6   Premium Rate (GNWPI)                                       0.574%           0.853%           0.853%           0.996%

Item 7   Minimum Premium                                      $   210,000      $   312,000      $   312,000      $   364,000

</TABLE>


           The  amounts  and  percentages  stated  above  apply to each
           Subscribing  Reinsurer  to  the  extent  of  the  percentage
           participation(s)   stated  in  the  Subscribing  Reinsurer's
           Interests and Liabilities Agreement attached hereto.

                                                                       Willis