Terrorism Risk Insurance Act Déjà Vu

Renewal of TRIA likely to go down to the wire, again

It’s becoming a familiar song: the Federal Terrorism Risk Insurance Act (TRIA) is once again due to expire on Dec. 31, 2007, and as of this writing, no long- or short-term successor program has been decided upon or finalized.

The popular consensus is that TRIA will be renewed in some form, likely for a longer term than the current plan. Congress has been holding hearings regarding the merits of a TRIA renewal, but as was the case in 2005, the decision to renew the federal backstop is expected to go down to the wire at the end of this year. And of course, the usual regulatory bodies, along with brokers, agents and insurers, have been weighing in on the issue. While it is expected that TRIA will renew once again, it will most likely be different. It will therefore be worthwhile to examine what is currently covered by TRIA, and compare it to what countries other than the United States do to insure terrorism, in order to properly evaluate how the United States should proceed.

History
The Terrorism Risk Insurance Act, passed by Congress in November 2002, created a three-year program whereby the federal government shared the cost of a foreign terrorist attack in the United States producing at least $5 million in insured losses. In hindsight, it is generally acknowledged that the original intent of TRIA was to provide the U.S. insurance industry with a transition period, allowing insurers time to develop the capacity to provide terrorism insurance with no government involvement.

Then at the end of 2005, with TRIA expiration just days away, Congress passed a two-year extension with certain modifications that President George W. Bush signed into law on Dec. 22. The coverage triggers increased from $5 million to $50 million in 2006, and then to $100 million in 2007.

The extension also provided that the risk retained by insurers increase substantially, both in the deductible layer and in the vertical coinsurance layer. Previously, each insurer’s deductible was set at 7 percent of its previous year’s direct earned premium for 2003, at 10 percent for 2004, and at 15 percent for 2005. The TRIA extension increased the deductible to 17.5 percent of direct earned premium for 2006, and 20 percent for 2007.

The insurance marketplace remained responsible for bearing 10 percent of all losses exceeding the deductible, with the federal government bearing the remaining 90 percent; the same structure as the previous TRIA.

Under the TRIA extension, the lines of coverage affected by TRIA were slightly modified — commercial automobile, surety, burglary, theft and professional liability were now excluded, while directors and officers liability was covered.

An interesting development since 2005 has been increased regulator scrutiny of insurers required to potentially retain more risk in the event of an incident covered by TRIA. The increases in deductible and coinsurance have led to heightened insurer sensitivity to aggregate exposures, which has led to a capacity strain in major metropolitan areas.

A.M. Best has also begun using these aggregates in assessing insurers’ financial stability, leading to further strain. It has become evident that for some insurers, particularly those providing property coverage for real estate clients in large metropolitan areas, their capacity is based on whether TRIA does or does not exist.

Coverage triggers
Another key component of TRIA debated and up for evaluation at this year’s renewal is the coverage trigger. Currently for coverage to apply the law states that a covered act of terrorism must be committed by individuals acting on behalf of foreign interests, and as part of an effort to influence the policy or conduct of the United States. The act must also be certified by the treasury secretary, secretary of state and attorney general. So an act by a U.S. national would not be covered under the current TRIA plan, though separate products have emerged to cover this exposure.

In addition, legislative proposals for a TRIA renewal are also evaluating inclusion of nuclear, biological, chemical and radiological incidents, which are not presently covered.

Since TRIA’s inception, the U.S. government has reiterated its intent was to encourage the insurance industry to develop terrorism insurance without government involvement. However, a September 2006 report published by The President’s Working Group on Financial Markets stated the existence of TRIA has negatively affected the development of a more robust market for terrorism insurance. The insurance industry argues TRIA is the reason they can offer terrorism coverage in the first place, and without TRIA, there would be no private market for terrorism insurance.

In a press release on March 7, Allan Hubbard, director of the National Economic Council, stated that “The president believes that, in the long run, TRIA is not needed.” He said that the Bush administration believes that TRIA should not be expanded, and while TRIA should not be eliminated “immediately,” stressed that the administration believes it should be eliminated eventually. Hubbard feels more focus should go to creation of a natural catastrophe insurance fund.

Non-U.S. terrorism insurance schemes
These debates in the United States are a bit more extreme than terrorism insurance arrangements in place in other countries, where schemes have been developed combining private insurers and local governments.

For example, in Austria, a terrorism pool has been in operation since 2004, with voluntary participation, that provides terrorism coverage up to a set limit.

In France, terrorism is covered by a reinsurance pool where terrorism risk above a certain retention level must be “ceded.” All insurers are members of the pool, which is backed by a government-owned reinsurer.

In Germany, it’s a similar situation: private insurers cede coverage above a set limit to a pool that in turn cedes all its risk to other reinsurers up to a certain aggregate; above that the government kicks in.

In the Netherlands, a terrorism reinsurance company reinsures member companies who retain a portion of the risk with coverage limited per member and in the aggregate.

The United Kingdom has a private market plan overseen by the government. In 1993, the U.K. government formed a mutual reinsurance pool for terrorist coverage following the bombings by the Irish Republican Army. Insurance companies charge rates set by the pool and the primary insurer pays the entire claim for terrorist damage but is reimbursed by the pool for losses in excess of a certain amount per event/per year based on its share of the total market.

The question then becomes, what is the best long-term solution to terrorism insurance exposure in the United States?

The Risk and Insurance Management Society (RIMS) issued a position paper in December 2006 stating that the majority of its membership believes that a private/public partnership provides the best alternative. While RIMS members’ first choice would be a complete private market solution, they feel that the last four years demonstrate that the private insurance market alone cannot respond adequately.

Current debate
There are several debates being waged at present in the U.S. House and Senate regarding TRIA renewal. The American Civil Liberties Union is presently urging both to include group life insurance at renewal. Attachment points and the current “United States vs. non-United States” distinction are also being debated, as well as some conclusion and/or modification as to whether the $100 billion limit is a soft or hard cap. This is even more important in the debate over nuclear, biological, chemical and radiological (NBCR), which is being waged on a second front as potential financial ramifications for the U.S. government, insurers, or both could be significant.

The possibility of separating out losses resulting from weapons of mass destruction has also been discussed. Therefore, NCBR is not a simple add-on to TRIA and may require a financial structure different than the NCBR terrorism risks. Otherwise, the rates may be significantly higher, which could adversely impact the overall client take-up rate for TRIA.

TRIA renewal
With more hearings scheduled for the Senate Financial Services Committee, TRIA’s renewal is very much on Sen. Christopher Dodd’s, D-Conn., radar screen, though with summer recess no final decision is expected before the Fall. However arguments are being made for the format it will have.

At a hearing of the House Financial Services Subcommittee on Capital Markets, Insurance and Government Sponsored Enterprises held in March in New York, elimination of the distinction between foreign and domestic terrorist attacks was a focus, along with the need for a long-term solution. Sen. Charles Schumer, D-N.Y., outlined four major points in his testimony for lawmakers to consider: the extension should be permanent or, at the very least, last for no less than 15 years; NBCR threats should be covered; there should be sufficient capacity for densely populated areas that are deemed high-risk; and lawmakers need to move quickly.

Other proposals were presented, such as Congress permitting tax-deferred reserving for insurers to create a dedicated pool of capital for terrorism insurance, as presented by New York State’s acting insurance superintendent Eric Dinallo.

Then at the end of April, disputes surfaced as the House Financial Services Committee began hearings. The first issue involved a potential concession to “make available” coverage for NBCR, which insurers fear could open the door for catastrophic claims.

The other issue has to do with the size of the current $100 million trigger, as smaller insurers continue to be concerned that they will be unable to satisfy their terrorism exposures for smaller events with this trigger level.

The bottom line is, while TRIA’s renewal seems to slowly be taking shape it will not be finalized until the Fall.

Robert Meder is a vice president in the New York City office of Hilb Rogal & Hobbs, and Steven Sachs is senior vice president and managing director of the National Real Estate Practice for Hilb, Rogal & Hobbs.