After the terrorist attacks on September 11th, the government passed legislation designed to partially insure cities and businesses from losses caused by future acts of terrorism.
The legislation is due to expire at the end of 2005, amid debate in Congress, the insurance industry and consumer organizations as to how much terrorism coverage should be provided, by whom, and how necessary it really is.
The Terrorism Risk Insurance Act (TRIA), passed by Congress in 2002, mandates that the government assume responsibility for claims from a terrorist attack if the damage claims exceed $5 million dollars, and if the Treasury Secretary deems the incident to fit the definition of a terrorist attack. The attack must be made by a foreign entity, and must be deliberately designed to coerce policy changes in the government by threatening American citizens.
Most property and casualty insurance providers fled the terrorism insurance market after September 11th, causing rates to skyrocket.
At the time, TRIA was meant to act as a "backstop" to prevent businesses from suffering spiraling economic losses in a catastrophic terrorism attack. But now the Bush Administration is objecting to the extension of TRIA, apparently preferring that private insurers take up more of the slack and develop a "pool" out of which to pay claims.
The only problem is that private insurers are not very eager to dive into that pool.
Or, as one industry newsletter put it, "a complete private market hasn't developed and the federal act must be renewed on December 31, 2005."
Premium Problems and Deductible Debates
Prior to September 11th, terrorism coverage was included in property and casualty policies.
"Insurance companies considered the risk so low that they did not identify or price potential losses from terrorist activity separately from the general property and liability coverage provided to businesses," insurance expert Richard Hillman told the General Accounting Office.
"But after the September 11th attacks, insurance companies recognized that their risk exposure was both real and potentially enormous," Hillman added.
The 9/11 attacks caused insured losses of over $32 billion, leading many property and casualty insurers to exit the market rather than risk financial ruin attempting to cover claims that couldn't be accurately predicted, yet could cause tremendous damage.
In the words of Steve Lehmann, former vice president for property and casualty at the American Academy of Actuaries, "Even building a new risk model to define the scope of potential losses from acts of terrorism will be extremely difficult.
TRIA was passed hastily by Congress in October 2002 to provide a "net" for businesses and property owners to rely on in case of another terrorist attack. Currently, it insures losses up to 90 percent, while the principal insurer pays a deductible and "a 10 percent quota share of all reinsured losses."
The government recoups its losses through what is called "terrorism insurance risk-spreading premiums." This means the insurance provider spreads out the costs by subjecting policyholders to a premium surcharge, up to a cap of 3 percent of the affected claim. Insurers that don't charge risk premiums can be hit with penalties of up to $1 million.
In other words, the government pays for losses caused by terrorism with taxpayer money, then gets its money back by forcing insurers to charge policyholders extra money for their own coverage.
TRIA is not without problems. It specifically excludes acts of domestic terrorism from its coverage, as well as any sort of chemical, biological, radiological, or nuclear (CBRN) attack. So if a new Timothy McVeigh got his hands on a dirty bomb or a suitcase nuke and destroyed a major city, the survivors' losses wouldn't be covered by TRIA.
A study by the Rand Corporation's Terrorism Risk Management Policy Center charges that TRIA's "rates at current low levels are likely to lead to widespread uninsured losses, which would slow recovery and magnify the economic consequences."
The Political View
The Bush Administration has announced its intent to let TRIA expire at the end of 2005, as an inducement to private insurers to step in and offer affordable terrorism insurance coverage for business owners.
Treasury Secretary John Snow testified before Congress on July 14th that, "continuation of the program in its current form is likely to hinder the further development of the insurance market by crowding out innovation and capacity building."
However, private insurers do not believe that the market can effectively support terrorism insurance coverage without some kind of Federal backing. The National Association of Insurance Commissioners (NAIC) has repeatedly petitioned Congress to extend the act in order to provide more time for the industry to study the Treasury Department's recommendations and roll out a plan that more effectively merges Federal insurance coverage with market-based plans.
The American Academy of Actuaries urged Congress to extend the life of TRIA in order to prevent significant economic losses to the insurance industry and the inability of businesses to purchase or renew policies without suffering financial hardship.
"Much of the resistance in the GOP and in the White House comes more from ideological reasons than any company's bottom line. Republicans just don't like seeing the federal government ... in private markets," an insurance insider said.
Consumers Divided
Consumers are also divided over the terrorism insurance issue. Several tax reform organizations, including the National Taxpayers' Union and Taxpayers for Common Sense oppose TRIA, saying it exposeses taxpayers to "billions of dollars in liabilities for the next terrorist attack that occurs on U.S. soil."
The Consumer Federation of America stated that the insurance industry has reported record gains and reserves since 2002, and that "taxpayers should no longer be required to give away billions of dollars in free reinsurance to an industry that is financially flush.
Even representatives of the insurance industry have agreed that it is hard to justify not requiring the payment of premiums for the coverage.
Regional Issues
Debate also rages over which parts of the country are more at risk for terrorist attacks, and if premiums should be charged at the same rate for residents of major cities such as New York and Washington, D.C., and for lower-risk cities and states in the Midwest and South.
Twenty-one members of New York's Congressional delegation wrote to House Financial Services Committee chairman Michael Oxley (R-OH) urging him to act swiftly to extend TRIA and prevent, in their words, "less terrorism insurance written by insurers, higher prices and lower policyholder take-up."
Global Solutions
The United States isn't the only country wrestling with how to fund terror insurance. Many European nations are debating their own plans to reimburse businesses and individuals harmed by terrorist acts.
One potential solution utilized by the British government and major insurers is "Pool Re", a joint investment program in which the government collects surcharges on insurance premiums upfront, and "pools" those into a fund to cover losses from terrorist attacks.
In the wake of the London bombings of July 2005, Pool Re's reserves could be tapped to cover the damages, as it was claiming a fund of 2 billion pounds, or $3.5 billion in U.S. dollars. In the event that a catastrophic attack or event exhausts the Pool Re reserve, the Treasury will act as the "last resort" source for funding claims and payouts.
The German government recently extended its guarantee to "backstop" insurance claims from terrorist activity through 2007. The combination of the government's assistance with the German insurance companies' contributions provides a pool of 10 billion euros, or $12 billion in U.S. dollars.
Whatever solutions Congress and the insurance industry agree upon, there are a few undeniable facts.
First, there will be another terrorist attack on American soil.
Second, someone's going to have to pay for the damages and losses that result.
With the Terrorism Reinsurance Act due to expire on New Year's Eve, the time for finding a solution is running out.
