Federal Role in Terrorism Insurance
The Committee on Insurance Law
The Association of the Bar of the City of New York
June 2002


Federal Role in Terrorism Insurance

Transitional Federal Assistance for Commercial Property and Casualty Coverage Needed to Promote Economic Growth 1

Introduction:

This report examines the circumstances contributing to the current crisis in commercial property and casualty insurance and the responses emerging at the state and federal levels. The report concludes that congressional action is needed for losses due to terrorism to restore stability to the commercial property and casualty marketplace and identifies the principles that should govern such a plan. Specifically, the report endorses a general transitional plan developed in the United States Senate as most closely adhering to the principles espoused herein.

Side-by-side comparisons are provided concerning the leading congressional proposals for a federal role in coverage from losses arising from terrorism (including the endorsed Senate plan) as well as more detailed analysis of the proposals' strengths and weaknesses.

Summary:

One of the more serious economic problems caused by the September 11 terrorist attacks against the United States is the sharply reduced availability of commercial property and casualty insurance for losses arising out of acts of terrorism. In addition to the unfathomable tragic loss of life and numbers of persons injured in these attacks, we also experienced unprecedented losses to property and business activities that were covered by insurance. Confronted with a perpetual threat of additional attacks and the potential for crippling financial hardship or insolvency resulting from further acts, insurers and reinsurers have been compelled to diminish their exposure to terrorist-related losses. As a result, insurers are forgoing coverage altogether, excluding coverage for acts of terrorism where permissible, or charging substantially more for coverage.

These exclusions and increased costs are felt throughout our entire economy, from a small businessman on a rural community street corner to a major urban real estate developer. For many, the non-availability of insurance will mean greater uncertainty in protecting business investments from external and often uncontrollable threats. Some businesses are simply forgoing such investments. For others, it may mean their banks are unwilling to lend to endeavors that lack insurance coverage to protect collateral. 2 For many, increased premium costs or security measures could be the difference between a business succeeding or closing its doors. For all of us, it means a national economy that is less vigorous and prosperous than it could be. This point was underscored in three recent reports issued in Congress. The first report was conducted by the General Accounting Office and presented as testimony before the House Financial Service Committee.3 The report noted the growing difficulties in the availability of terrorism coverage and stated that this could create an economic drag slowing economic recovery and growth. Two additional reports issued by the Joint Economic Committee echoed these concerns and stated that a temporary federal program to pay for insurance losses related to terrorism was appropriate.4

It is entirely feasible, perhaps likely, that over time, the commercial insurance marketplace will make the necessary adjustments to the new reality of terrorist threats within our borders and produce abundant product offerings at prices lower than today. Indeed, the "hardening" of the insurance marketplace has attracted billions in new capital. Nevertheless, this infusion of new capital is just a small percentage of potential exposures to losses arising from acts of terrorism and long-term adjustments remain several months if not years away

Consequently, government intervention at the national level appears to be the only short-term mechanism available that would have an effective impact in mitigating the extreme shocks experienced in insurance markets as a result of September 11th, and promoting a more stable economic environment that is favorable to investment and growth. The need for federal intervention is so compelling that Federal Reserve Chairman Alan Greenspan and the Wall Street Journal have endorsed the concept.

The Committee on Insurance Law of the Association of the Bar of the City of New York also endorses the need for federal intervention based on the following principles:

  • Terrorism insurance should not be federalized in toto and should rely on the existing system of private coverage from the issuance of policies to the administration of claims.
  • Government assistance should take the form of direct assistance to pay claims of insureds resulting from catastrophic losses above a sufficient amount of retained losses assumed by private insurers.
  • Government assistance should build upon existing principles governing private insurance, such as the need for due diligence and risk management in minimizing risks.
  • Costs of the program should be shared by all stakeholders in an efficient commercial insurance market, including insurance companies, insurance buyers, and the general public.
  • Insurer retention amounts should be apportioned fairly among the insurance industry.
  • Federal assistance should extend to all acts of terrorism, regardless of origin (foreign or domestic) and include those acts of unknown origin (e.g., anthrax attacks).
  • The bill should provide an explicit and effective preemption of inconsistent state laws governing acts of terrorism.
  • To date, the legislation coming closest to meeting those objectives was drafted in the U.S. Senate, but never introduced (see discussion on "Senate Compromise" below). Although this legislation contains many technical flaws and could be improved, it should serve as the cornerstone for any additional congressional action.

    Background:

    Prior to September 11th, despite experience with terrorist attacks overseas, the anti-government bombing of a federal office building in Oklahoma City, and an earlier attack on the World Trade Center, the threat of terrorism in the United States continued to be perceived as a remote threat. There was little urgency concerning such risks. From a macroeconomic perspective, there was reasonable justification for this position since the resulting costs to the insurance industry from these previous events were relatively small. As a result, acts of terrorism were largely ignored in domestic commercial property and casualty insurance policies. Losses from terrorist acts were treated no differently from losses from fire or a truck going through a storefront window. Similarly, reinsurance for most domestic property and casualty policies did not account for potential losses arising from acts of terrorism.

    With hindsight, it's easy to argue that this was a mistake. Perhaps acts of terrorism should have been treated just like acts of war and excluded from coverage. Perhaps a separate premium should have been charged for terrorism coverage. Some insurers believed that an act of terrorism was an act of war, and fell outside coverage under war exclusions.

    While economists, historians, regulators, and other public officials can debate in perpetuity the wisdom of the approach taken through September 10th, no one can argue that our understanding of the world changed on September 11th. Not only did the attacks vividly demonstrate the vulnerability of domestic targets to terrorism, they also illustrated the tremendous extent of damage that could be caused through terrorist aggression. Thousands of workers were killed or injured. Others may have been exposed to harmful substances. Numerous properties and businesses were destroyed or impaired. Downtown Manhattan was immobilized for an extended period of time. Insurance claims resulting from these losses are now estimated to range from $30 billion to $50 billion-by far, the largest insurance loss in history! 5 These striking facts could no longer be ignored-and they were not.

    Almost immediately following September 11th, major reinsurers announced their intention to discontinue coverage for terrorist-related losses upon their next treaty-renewal dates (January 1, 2002 in many cases). Reinsurers simply did not have the capacity to pay for another terrorist attack. In turn, without a mechanism to spread the costs of insuring the risks of terrorism, direct insurers announced their intention to similarly exclude coverage for losses resulting from acts of terrorism. Moreover, where terrorism coverage continued to be available, the new realities of the insurance marketplace dictated higher premiums for insurance consumers.

    Many direct insurers, however, faced a problem not experienced by their reinsurers: state regulation of rate and forms. Reinsurance is a mechanism utilized by direct insurers to spread their own risk, and as a general matter, the States do not regulate reinsurance itself. Thus, while reinsurers were free to exclude coverage from terrorism at the earliest dates permitted under their treaties with direct insurers, direct insurers faced the requirement of obtaining state-by-state approval of exclusions and rate increases.

    State Activity:

    State insurance regulators, acting primarily through the National Association of Insurance Commissioners (NAIC), immediately recognized these emerging problems. While concerned about limiting the availability of insurance coverage for acts of terrorism, regulators also clearly understood that additional terrorist attacks would threaten the solvency of numerous insurance companies.

    While remaining hopeful that a federal response could be developed, the NAIC approved an interim solution, comprising a limited exclusion for terrorism related losses under commercial policies. In general, the NAIC recommended that terrorism exclusions should apply if aggregate losses resulting from an act of terrorism exceeded $25 million for interrelated events in a 72-hour period. In the event the federal government did enact an adequate solution, the exclusions would expire within 15 days of enactment.

    Language developed by Insurance Services Office, Inc. (ISO), which provides statistical, actuarial, and underwriting information to the property and casualty industry, served as the foundation for this NAIC decision. As of May 10, 2002, final ISO language was approved in 45 states for general liability, commercial property, business owners, farm, crime, commercial inland marine, boiler and machinery, and commercial umbrella policies. This language defines term "terrorism" with sufficient scope to cover most terrorist acts irrespective of source. In addition, it allows more permissive exclusions for certain types of terrorist acts and consequences. Other states have approved additional ISO language covering commercial auto policies and some states have even addressed personal lines, although the NAIC saw no need to adopt exclusions for personal insurance products.6 However, states encompassing a large portion of the national insurance market have not acted. 7

    New York State:

    The New York State Insurance Department and its Superintendent, Gregory V. Serio, have done a remarkable job in dealing with the numerous matters arising just blocks away from their main office. Nowhere was the impact of September 11th felt more directly than in New York City and the Department has managed the aftermath, including assisting victims and their families with utmost diligence and professionalism.

    Going forward, a blue ribbon commission is planned to analyze and assess the impact of September 11th on the New York insurance market and determine the legislative/regulatory needs of the state to address their findings. Unlike the majority of other states, New York has not approved the ISO terrorism exclusion language, which it views as overly broad, and will examine and approve such exclusions on a case-by-case basis. While the Department is working on a Circular Letter to provide insurers with better guidance as to how this case-by-case analysis will be applied, it remains unclear how this will work in practice. At this time, no exclusions have been approved. Moreover, New York State statutes further restrict an insurer's ability to place terrorism exclusions on certain types of policies. 8

    Federal Activity:

    Reacting to an impending insurance crisis, numerous proposals focussing on property and casualty insurance were put forth in Washington to address the problem. Not surprisingly, these proposals were as different as the varied members comprising the White House, Congress, and the many interest groups affected by the federal government's handiwork. Consequently, although sharp disagreement over liability issues is widely viewed as the primary obstacle to developing a legislative response, it is important to recognize that divergent opinions on several other important issues will render it difficult to reach an effective resolution.

    Currently, two proposals have drawn the most serious consideration in Congress. The first is H.R. 3210, which was approved by the House on November 29, 2001 by a vote of 227-193. The other is known as the "Senate Compromise," which is reported to have the backing of Senate Banking Committee Chairman Paul Sarbanes (D-MD), the Committee's Ranking Member, Phil Gramm (R-TX), the U.S. Treasury, and a sizable portion of the insurance industry.

    For analytical purposes, however, it is useful to keep other proposals in mind. As with most legislation, the two leading bills reflect an evolutionary process that incorporates certain features of other plans and is likely to include a few more if the legislative process moves this year. Moreover, insurance markets and state regulatory responses to terrorism have evolved since these proposals were first presented. Therefore, while general agreement may persist on the need for federal assistance, buyers, sellers, and regulators of insurance products may bring new perspectives and concerns to the debate. 9

    Following are general descriptions of the major terrorism insurance proposals, including the two leading plans. A more in-depth critique of H.R. 3210 and the Senate Compromise also is provided, as well as a side-by-comparison of these two leading bills.

    Major Proposals:

    Following is a general description and background on the five major proposals before Congress.

    1) Pool Re (Insurance Industry Proposal):

    This was the first terrorism insurance proposal put on the table. It was a straight admission by the industry that it did not have the resources to pay for or commit to covering future catastrophic terrorist events without government help.

    Modeled after a British government-backed facility, under this plan the U.S. Government would authorize creating a nationally chartered mutual insurance company that would offer reinsurance to members of the company. Member companies would pay into the mutual "pool" and the pool, in turn, would purchase reinsurance from the federal government to cover losses in excess of a designated aggregate amount. The proposal contemplated commercial property and casualty covers, but could have been modified to include personal property and casualty lines as well.

    The Pool Re concept entailed numerous operational and regulatory questions, which could have taken months to resolve. This included how to define the term "terrorism," whether participation in the pool should be mandatory or voluntary, and who should serve as the principal regulator of the nationally chartered mutual company.10 When the White House put forth its own streamlined proposal, the Pool Re concept was put aside.

    2) White House Plan

    In general, the White House proposed a three-year plan, covering personal and commercial property and casualty lines. The plan entailed an 80 to 90 percent federal share of payment for all terrorism related claims, starting with the first dollar in Year One, and up to $100 billion in claims in each year of the program. The Treasury Department endeavored to make its responsibilities primarily ministerial; its job was to pay the federal government's share of claims as insurers submitted them.

    However, to the extent the White House was willing to commit tax dollars to paying a share of claims, it was not willing to make those payments in today's civil litigation liability regime. Consequently, numerous limits were proposed on claims eligible for federal compensation, such as prohibiting claims for punitive damages. Terrorism was not defined.

    The White House was motivated primarily by concerns of significant adverse economic consequences resulting from decreased business activity and investment due to a lack of insurance availability. Rather than rush into an uncertain legislative scheme or take on a significant federal regulatory role, the Treasury Department viewed its goal as reassuring the marketplace that terrorism coverage would be available in the short-term while the markets and/or government worked on a more rational long-term solution.


    3) Sarbanes-Gramm-Dodd: (the "Senate Compromise") 11

    These three Senators reached a tentative bipartisan agreement on a modified version of the White House proposal, although Senators Sarbanes and Dodd may have sought modifications to the more restrictive liability limits contained in their draft proposal circulated to outside parties.

    The principal difference with the White House proposal was Senator Gramm's insistence that the industry assume a substantial deductible before any federal monies were provided. Later versions of the bill established a one-year program (with an option for an additional year) covering personal and commercial property and casualty policies with an industry deductible of $10 billion ($15 billion in Year Two) apportioned among insurers on the basis of market share of gross premium written. While federal aid was capped at its share of $100 billion in losses during each year of the program, insurers were freed from liability for losses exceeding that amount. Personal property and casualty lines were covered only to the extent an insurer opted into the program within 21 days of enactment. State law was preempted concerning the definition of terrorism and on prior approval of rates and forms.

    Covered terrorism was limited to terrorist acts committed by foreign entities.

    4) H.R. 3210 (Oxley Bill; Passed by House):

    After several iterations, this bill passed the House on November 29 along primarily party lines, 227-193.12 Considered a "backstop" rather than a taxpayer "bailout" of the insurance industry, this bill enjoyed unusual support from both taxpayer and consumer rights groups. The "bailout" was avoided by characterizing federal assistance as a "loan" rather than direct aid. Although some Members of Congress expressed reservations over whether this type of program would work and voiced support for a Senate-like approach, the House felt it was necessary to "move the ball forward" and that it had the opportunity to revisit the issue in 2002.

    In general, the bill provided what was characterized as a federal loan facility to pay 90 percent of aggregate terrorism related losses exceeding a certain amount. These "loans" are in the nature of a capital injection, which is to be paid back by assessments on the industry as a whole. That is, an individual insurance borrower does not repay the full "loan" amount. Rather, the federal "loans" would be repaid through assessments against all participating insurers on the basis of market share. If losses exceeded $20 billion, surcharges could be imposed on policies in order to repay any federal assistance. Total "loans" over the life of the program could not exceed $100 billion. The program would run for two years with an option to extend up to two more years.

    Somewhat similar to the Sarbanes-Gramm-Dodd proposal, covered terrorism also was limited to terrorist acts initiated by an "international terrorist group" as opposed to foreign entities. The House also had strict limits on damages, limited jurisdiction to federal courts, and had a partial preemption of state laws.

    The House bill appears to make it mandatory for commercial property and casualty insurers to participate in the reimbursement program.

    5. S. 1753 (Hollings):

    This was the most pro-consumer bill proposed. Although it received little attention, Senator Hollings crafted a plan that fell within his jurisdiction as Chairman of the Senate Commerce Committee by creating a leading role for the Commerce Department and the Federal Trade Commission (FTC).

    S. 1753 established a three-year program that would be funded prospectively up to $50 billion by a three-percent tax on gross written premium of covered lines (these costs could be passed on to policyholders). An additional premium could apply to insurers with a lower credit standing. If losses exceeded $50 billion, the program would be funded through direct federal aid up to $100 billion. For the first $50 billion in losses covered by the premium tax, insurer retention would be equal to its "average gross direct written premiums and policyholders' surplus for covered lines" for the most recent calendar year. Up to 90 percent of losses beyond this retention amount would be eligible for federal reimbursement. If losses exceeded $50 billion, the federal government would pay 90% of losses in Year One and 80% in Years Two and Three above the retention amount.

    Other provisions included the establishment of a Commerce Department led commission on rates. In addition, the FTC was authorized to review mandated reports from insurers on rate setting for covered lines for purposes of uncovering unfair methods of competition or unfair or deceptive act affecting commerce under the Federal Trade Commission Act.

    The bill required mandatory offers of coverage for commercial property and casualty lines and voluntary participation for most personal property and casualty coverage.

    Conclusion:

    The insurance industry may lack sufficient capital to cover losses arising from another catastrophic terrorist attack. Furthermore, the serious threat of additional attacks has made insurance coverage for terrorism, particularly commercial property and casualty risks, less readily available and significantly more expensive. This disruption to insurance markets negatively impacts business investment and harms our nation's economic performance. Temporary federal assistance is needed to restore stability to insurance markets and promote economic growth; Congress should pass legislation to achieve this goal. While additional changes are warranted to improve the bill, the Senate Compromise most closely reflects the principles sought by the Committee on Insurance Law of the Association of the Bar of the City of New York and should serve as the foundation for any action Congress takes on this urgent matter.



    1. This report was approved by the Committee on Insurance Law prior to the U.S. Sentate's June 18 passage of a new terrorism insurance bill (S.2600). However, since S.2600 closely approximates the "Senate Compromise" described by the Committee, the report's discussion and analysis remains timely and relevant.
    2. See, e.g., Four Times Square Associates LLC v. CIGNA Investors Inc., et al, New York Supreme Court, County of New York, 107745-02-in ongoing litigation, a building's mortgage holder notified the building owner that it was in default because its insurance policy no longer covered terrorism risks. The mortgage holder sought to seize millions of dollars in rent from the owner in order to pay for terrorism coverage.
    3. How Much are Americans at Risk Until Congress Passes Terrorism Insurance Protection? Hearing before the Subcommittee on Oversight and Investigations of the House Financial Services Committee, 107th Cong. (2002) (statement of Richard J. Hillman, Director, Financial Markets and Community Investment, General Accounting Office).
    4. Joint Economic Committee, 107th Cong., The Economic Costs of Terrorism (2002) and Economic Perspectives on Terrorism Insurance (2002).
    5. The prior most costly event, Hurricane Andrew, resulted in losses totaling approximately $18 billion.
    6. A strong argument can be made that the same terrorism-related factors affecting the commercial insurance market also apply to personal lines. For example, a stolen nuclear device exploded in Midtown Manhattan could kill or injure hundreds of thousands of people and cause extraordinary disruptions to a collapse in national life and health insurance markets. While it's understandable to view this concern as the least of our worries in the event of such attack, there appears to be no rational basis for distinguishing personal and commercial lines in terms of potential exposure. In any event, personal insurance continues to be widely available at competitive prices and there is not a similar sense of urgency to act as exists for commercial markets.
    7. The States not approving the ISO language are California, Georgia, Florida, Texas, and New York. The District of Columbia and Puerto Rico approved the ISO filing.
    8. See, e.g., N.Y. Ins. Law 3404 (McKinney 2000) relating to fire insurance.
    9. An additional consideration is the federal budget. Since budget surpluses no longer exist in the near term, any costs associated with terrorism insurance assistance will have to compete more fiercely with other budget allocations.
    10. The same operational and regulatory questions plague the other proposals as well. However, these questions were more pronounced in establishing Pool Re, which entailed the industry's creation of an entirely new insurance company. In this setting, far greater attention was given to resolving underlying substantive details compared to the Executive/Legislative branch proposals, which deferred most open questions to the Secretary.
    11. Senator Paul Sarbanes (D-MD) is Chairman of the Senate Banking, Housing, and Urban Affairs Committee, whose jurisdiction covers most financial institutions. Senator Phill Gramm (R-TX) is the Committee's ranking Republican member while Senator Christopher Dodd (D-CT) also is a Committee member. Their proposal has gone through several changes. For purposes of this discussion, a draft circulated on December 14, 2001 that had tacit approval from the Treasury Department is analyzed.
    12. House Democrats objected most strongly to the House Republican leadership's inclusion of liability limits. Without such limits, the bill would have enjoyed broader support.





    H.R. 3210--House Passed Bill

    A. Status

    On November 29, 2001, the full House approved H.R. 3210 by a vote of 227-193.

    B. Overview

    The House bill, which applies to most commercial property and casualty lines, contains a number of favorable provisions. However, on balance, the measure's weaknesses overwhelm its benefits. The bill is fundamentally flawed in several respects. In addition to establishing a highly complex, uncertain, and arguably unworkable administrative structure, its fundamental tenets constitute bad public policy for promoting efficient insurance markets.

    Specifically, the bill provides federal assistance to a harmed insurer in the form of "loans" that are to be repaid through assessments on all insurers and surcharges on policyholders. Essentially, it federalizes the worst features of the state guaranty on a massive scale. The Secretary of Treasury (the "Secretary") has broad discretion in how assessments or surcharges are applied and can potentially shift millions of dollars of liability from one company to another without any clear standards. Moreover, the program is mandatory, meaning that insurers have no choice to opt-out of the program even if it offers little or no benefit to the insurer.

    C. Policy Concerns

    Following is a summary of major underlying policy concerns.

  • A Loan Program Inadequately Addresses Threat Facing Insurers
  • The primary insurance threat posed by terrorism is the risk of unacceptable losses and is not confined to short-term liquidity issues. A loan program is unlikely to attract sufficient capital for purposes of providing complete coverage for terrorism losses.

  • Guaranty Fund Model is Wrong Approach
  • The House loan program borrows from the state guaranty fund model in socializing the risk of terrorism losses across all commercial property and casualty insurers without any attempt to assess the underwriting quality of insurers providing terrorism coverage. The state guaranty fund system has been subject to longstanding criticism for requiring well-run and well-capitalized insurers to subsidize substandard practices of poorly run insurers. Not only does the House bill federalize this inefficient practice, it does so at levels of exposure never remotely experienced at the state level.

  • No Coverage for Domestic Terrorism/Acts of Unknown Origin
  • The definition of "act of terrorism" appears to apply only to acts committed with support of internationally recognized terrorist group(s). While an argument exists that the Secretary has discretion to extend the definition of terrorism to include terrorist acts of domestic origin, the argument is uncertain.

  • Compulsory Insurer Participation:
  • Despite the bill's flaws, insurers are forced into the program with no choice.

  • Losses Exceeding $100 Billion Are Not Addressed
  • Federal assistance is capped at $100 billion, but insurers could be liable for losses above that amount. The bill offers no guidance for dealing with events causing in excess of $100 billion in damages other than calling upon Congress to address the matter.

  • State Preemption is Inadequate
  • Preemption of prior state approval of rates and the definition of terrorism is helpful, but does adequately address insurer exposure to terrorism losses compelled by the States, especially where no federal assistance is provided.

    D. Operational Concerns

    These items pertain to problems in administering the program.

  • Definition of Insurer
  • The bill remains unclear whether commercial insurers are to be evaluated on a company by company basis or as a collection of affiliates, including non-insurance affiliates.

  • Definition of Terrorism
  • The bill creates uncertainty as to what types of terrorist acts will be eligible for federal coverage.

  • Uncertain Applicability to Offshore Insurers and Reinsurers
  • The bill is to be applied by the Secretary as "appropriate" to offshore or non-admitted entities providing commercial property and casualty coverage and reinsurance. There is no indication of how this would work in practice.

  • Surcharges are Discretionary/Assessments May be Altered
  • The Secretary has tremendous discretion on which policies to impose surcharges to policyholders and how much. A lack of clear standards could lead to an unintended and inequitable allocation of program costs, including the possibility that the Secretary could charge insurers themselves to pay surcharges.

    Similarly, the Secretary has tremendous discretion concerning the manner and method of implementing assessments against insurers.


    E. Positive Components

    Following are some positive aspects of the bill.

  • Distinguishing Professional Liability Insurance
  • The bill does not include the types of commercial lines that are less vulnerable to terrorism losses, such as directors and officers professional liability. This will prevent liability policies not significantly exposed to terrorism losses from subsidizing property policies.

  • Workers' Compensation Covered for Acts of War
  • States require insurers to pay workers' compensation claims, even if resulting from an act of war. While the House bill generally excludes any federal assistance resulting from acts of war, an exception is made for workers' compensation.









    Senate Compromise


    A. Status

    The "Senate Compromise" refers to a draft bill dated December 14, 2001. This bill was almost brought to the Senate floor at the conclusion of the 1st Session of the 107th Congress.


    B. Overview

    The Senate bill is far superior to the House bill in providing a clear federal backstop for catastrophic terrorism losses and limiting insurer liability for losses above $100 billion. Nonetheless, the bill contains a number of technical/policy problems, including a failure to cover domestic acts of terrorism and inadequate preemption of state law.


    C. Policy Concerns

    Following is a summary of major concerns relating to underlying policy concerns.

  • No Coverage for Domestic Terrorism/Acts of Unknown Origin
  • The definition of act terrorism excludes domestic acts of terrorism and appears to exclude those acts of unknown origin. There is no reason to exclude such acts of terrorism whose consequences can be as devastating as any foreign-sponsored terrorist attack.

  • Compulsory Insurer Participation
  • Insurers must "make available" commercial property and casualty coverage for terrorism covered under the bill. It's unclear whether an insured must buy the coverage.

  • Terms/Pricing Under Mandatory Coverage Unclear:
  • Since the bill requires terrorism coverage on terms that do not "differ materially from the terms, amounts, and other coverage limitations applicable to losses arising from events other than acts of terrorism," this could be construed to prevent pricing differentials based on enhanced terrorist risks. For example, should buildings in a two-block radius of the Empire State Building be subject to higher rates for losses arising from acts of terrorism against this landmark versus compared to properties in other locations?

  • Applicability of In-Force Reinsurance Agreements Inconsistent with Use of Gross Premiums in Calculating Individual Company Deductible
  • The bill reduces the federal share of compensation in the event in-force reinsurance agreements pay for amounts in excess of an insurer's share of covered losses. However, an insurer's deductible is still calculated on a gross basis instead of net. This unfairly impacts insurers who pay significant premiums to reinsurers unless the Secretary makes an adjustment as authorized under the bill.

  • Federal Coverage Excluded for Punitive Damages
  • Punitive damages are not eligible for federal reimbursement, meaning that to the extent such damages are awarded and covered under existing policies, insurers could be on the hook for the full amount in the event of a terrorist act.

  • Bill Does Not Distinguish Professional Liability Insurance
  • The bill does not exclude the types of commercial property and casualty lines that are less vulnerable to terrorism losses, such as professional liability. The result is that these professional liability policies will subsidize property policies in terms of the individual company deductibles .

  • Workers' Compensation Not Covered for Acts of War
  • Workers' compensation, which cannot be excluded from insurance coverage under state law for acts of war, is not separately addressed in this bill and placed on equal footing with workers' compensation losses resulting from acts of terrorism.

  • State Preemption is Inadequate
  • Preemption of prior state approval of rates and the definition of terrorism is helpful, but does adequately address insurer exposure to terrorism losses compelled by the States, especially where no federal assistance is provided.

  • Authority of the Federal Trade Commission
  • Since the bill clearly relates to the business of insurance and provides for the submission of reports to the FTC, would this create an avenue for the Federal Trade Commission to apply federal unfair trade practice/competition restrictions under the FTC Act to insurers?


    D. Operational Concerns

    These items pertain to problems in administering the program.

  • What is a "Participating Insurance Company?
  • The bill's language is awkward and suggests that an insurer must be collecting premiums to be covered under the program, but also appears to include such company's affiliates and subsidiaries. Consequently, the extent of affiliate/subsidiary coverage under the bill is unclear.

  • Federal Court Jurisdiction Unclear and Exclusive Federal Claims Limited
  • The bill creates an exclusive federal cause of action for terrorism-generated claims, but is limited to property damage, personal injury, or death. In addition, the bill appears to allow such actions to be brought originally in state court.

  • Premium Disclosures Required for Policies In-Force
  • The bill requires that, within 90 days of enactment, insurers must disclose the premium charged for terrorism losses covered under the federal program for policies in-force. This may not be administratively possible.

  • Freedom of Information Concerns Related to Books and Records: The Secretary of Treasury may have access to an insurer's books and records related to the federal program irrespective of state laws restricting such access. It's unclear to what extent such records can be disclosed to individuals under federal freedom of information laws or congressional document requests.
  • E. Positive Components

    Following are some positive aspects of the bill.

  • Limits on Liability for Losses Exceeding $100 Billion:
  • Insurers are not liable for terrorism losses covered by the program exceeding $100 billion. While it's unclear how Congress would address losses above this amount, this limitation acknowledges the practical constraints in requiring insurers to assume terrorism risks, even where federal assistance is provided.





    Maura M. Caliendo, Esq. (Chair)
    Heidi A. Lawson-Roche, Esq. (Secretary and Terrorism Working Group Member)
    Frank A. Alerte, Esq.*
    Robert A. Ansehl, Esq.
    Andrea J. Baron, Esq.
    Peter H. Bickford, Esq.
    Wayne Cimons, Esq. (Ad Hoc Member and Terrorism Working Group Member)
    Nancy H. Corbett, Esq.
    Terence Paul Cummings, Esq. (Terrorism Working Group Member)
    Donald T. DeCarlo, Esq.
    Ivan J. Dolowich, Esq.
    Brian T. Fitzpatrick, Esq.
    Jonathan Gardner, Esq.
    Kathleen M. Golden, Esq.
    Martin D. Haber, Esq.
    David Anthony Know Harland, Esq.
    Andre E. Harlfinger, Esq.
    Peter E. Heyward, Esq.
    Geoffrey R. Kaiser, Esq.
    Laurie A. Kamaiko, Esq.
    Ann Kramer, Esq.
    William D. Latza, Esq.
    Ellis R. Mirsky, Esq.
    Roger M. Moak, Esq. (Terrorism Working Group Member)
    Ernest T. Patrikis, Esq. (Terrorism Working Group Chair)
    Alan S. Rachlin, Esq.*
    Allan E. Reznick, Esq.
    Alan B. Rosenbloom, Esq. (Terrorism Working Group Member)
    Scott R. Schaffer, Esq.
    Paula-Jane Seidman, Esq
    Evan Shapiro, Esq.
    Patricia A. Taylor, Esq.
    John M. Toriello, Esq.
    Lance A. Warrick, Esq.
    Alexander H. Whiteaker, Esq.
    Earl S. Zimmerman, Esq. (Terrorism Working Group Member)

    * Abstain




    Side-by-Side Report


    Issue H.R. 3210 Senate Compromise* Comments
    Covered Lines
  • Primary commercial P&C and surplus lines, excluding professional liability-type lines.
  • Applies as
  • appropriate
  • to offshore or non-admitted entities.
  • Insurer must have been offering coverage prior to 9/11/01 (except for losses covered through a pool/securitization).
  • All Property and Casualty insurers, including surplus lines
  • Secretary may extend program to self-insurance arrangements operating prior to September 11, 2001.
  • The exclusion of professional liability lines in the House measure makes sense because most of these lines are not affected by acts of terrorism.

  • The Senate bill includes professional liability lines and and includes them in determining an insurer's retention and/or assessments and surcharges
  • Mandatory or Voluntary Insurer Participation
  • Mandatory: Commercial P&C and surplus lines must participate in the loan program for terrorism coverage.
  • Same for commercial P&C lines.
  • Voluntary for personal lines, but decision to participate must be made within 21 days of enactment.
  • Terrorism coverage must not "differ materially" from terms, amount, or other coverage limitations applicable to non-terrorism losses
  • Although there appears to be no insurer mandate to offer terrorism coverage in the House bill, there appears to be no escape from participation in the loan repayment program.

  • The Senate bill seems to suggest that differential pricing may not be permitted on the basis of terrorism risk exposure.
  • Mandatory or Voluntary Participation by Insured
  • Insureds are not required to purchase terrorism coverage.
  • Unclear. Participating insurers are required to "make available" coverage for terrorism.
  •  
    What will the Federal Government Cover under the Backstop?
  • Commercial P&C claims arising from acts of terrorism, net of reinsurance or retrocessional insurance.
  • Excludes professional liability insurance (e.g., E&O, D&O).
  • Commercial and personal P&C claims arising from acts of terrorism.  
    What Is NOT Covered?
  • Any life or health insurance (study called for on life insurance).
  • Federal crop insurance.
  • Private mortgage insurance.
  • Any life or health insurance
  • The language in both bills suggests that accident and health policies are excluded. Despite attempts to gain clarification on this issue, , none was forthcoming.
  • What is "Terrorism" for Purposes of Coverage?
  • An unlawful act causing harm to a person, property, or entity in the United States that is committed by a person(s) or association(s) recognized (at any time) by the Department of State or Secretary of Treasury as an international terrorist group or having conspired with such group with the purpose to influence the policy or conduct of the US Government or any segment of the US economy by coercion.
  • Excludes acts of war with an exception for workers' compensation.
  • A violent act that is dangerous to human life, property, or infrastructure resulting in damage within the U.S. (or domestic air carrier outside the US); AND
  • Committed by an individual(s) acting on behalf of a foreign person or interest as part of an effort to coerce the US civilian population or influence the policy or affect the conduct of the US Government by coercion.
  • Language in the House bill suggests a remote possibility that the Secretary of Treasury could allow reimbursement for domestic sources of terrorism.

  • Not extending coverage for domestic sources of terrorism or acts of unknown origin is a major flaw in both bills. For example, would costs associated with the anthrax outbreak be covered
  • Who Determines Act of Terrorism?
  • Secretary of Treasury in consultation with Secretary of State and Attorney General.
  • The Secretary's determination also includes whether the act occurred during the period covered by federal assistance.
  • The Secretary of Treasury certifies such act in "concurrence" with the Secretary of State and Attorney General  
    Judicial Review of Determination No No  
    Notable Exceptions/Additions to Acts of Terrorism
  • Includes damages incurred outside the U.S. by a U.S. air carrier or domestic flag vessel.
  • Excludes acts/events committed in the course of a war declared by Congress
  • Excludes acts/events resulting in less than $5 million in aggregate damages.
  • Covers workers' compensation losses resulting from acts of wars.
  • Includes damages incurred outside the U.S. by a U.S. air carrier.
  • Excludes acts of war
  • Excludes acts causing less than $5 million in aggregate damages
  • Does not cover workers' compensation losses from acts of war.
  • Under state law, insurers are prohibited from denying workers' compensation claims arising from acts of war. This argues for a federal backstop for such lines.

  • Failure to extend such coverage will discourage continued availability of workers' compensation coverage.
  • How is Federal Support Provided?
  • Once a triggering event has occurred, the federal government will pay a share of covered losses.
  • Although federal payments will be tied to specific policies issued by individual insurers, the payments are deemed a
  • loan
  • to the commercial P&C industry as a whole.
  • The President must request the funding from Congress before it is provided.
  • The federal government pays a direct share of covered losses.
  • The House bill is designed to avoid any taxpayer financing of a federal terrorism insurance support system.
  • What is a Triggering Event?
  • Federal aid is triggered two ways:
    1) Industry-wide Trigger: All insurer losses exceed $1 billion; or
    2) Individual Insurer Trigger: Industry-wide losses exceed $100 million AND an individual insurer's losses exceed 10% of capital AND 10% of net premium written by that insurer.
  • Federal aid is triggered whenever covered losses exceed a company's deductible (see below)
  • The House bill provides a greater subsidy to smaller insurers
  • What is the Cost-Sharing Arrangement between the Federal Government and Insurers?
  • Under the industry trigger, each company has a retention of $5 million and the federal government loans 90% of an insurer's losses above that amount.
  • For an individual company trigger, the federal government loans 90% of an insurer's losses above a retention amount equal to 10% of net written premium.
  • There is an industry-wide retention for each year of the program ($10 billion in Year 1 and $15 billion in Year 2).
  • Each participating company is assigned a deductible as its share of the industry-wide retention. This is equal to market share based on gross property and casualty premium written two years prior to a terrorist event.
  • In both years the federal government will pay 80% of the costs above a company's deductible if aggregate industry losses do not exceed $10 billion and 90% of that portion of aggregate losses exceeding $10 billion.
  • The Senate bill calculates an insurer's deductible without regard to reinsurance.
  • Is Reinsurance Covered?
  • The bill defines a commercial insurer to include reinsurers and states that the Secretary of Treasury is to apply the provisions of the act to reinsurers as appropriate.
  • Reinsurers are not covered

  • Federal payments to participating insurers are to be reduced for any amounts received through reinsurance that exceeds the participating insurers' share of claims under the program.
  • Such reinsurance contracts must have been in-force on the date of enactment up to the date of renewal, amendment, or the contract's one-year anniversary date, whichever is earlier.
  • The reinsurance agreements must have been in place when the program was enacted.
  • The common understanding is that the House intended to include reinsurance, but would allow the Secretary to work the details.

  • To simplify administrative matters, the Senate excluded reinsurance except for offsetting federal payments for reinsurance agreements already in force.

  • The ultimate treatment of reinsurance will have a tremendous influence on the allocation of insurer deductibles, assessments, and surcharges
  • Program Duration
  • Two years with an option to extend one or two additional years.
  • Extension requires a Secretarial report to Congress stating that such extension is needed.
  • One year with an option for the Secretary of Treasury to extend for one additional year upon a finding that continued market uncertainty exists and extending the program would stabilize the market and facilitate a transition to a viable private market.
  • Congress and the White House is insistent that any federal program be transitional and temporary in nature.
  • Is Federal Aid Capped? Federal aid is capped at $100 billion. Federal aid is capped at the federal share of insured losses totaling $100 billion in each year of the program. Both houses call upon Congress to address losses exceeding $100 billion.
    (this is for each year of the program in the Senate bill).
    Cap on Insurer Liability None Participating insurers are not liable for any amount exceeding $100 billion in aggregate losses. While clearly desirable to the insurance industry, it's unclear how the Senate cap on insurer liability above $100 billion would work
    How Is Federal Share of Losses Repaid?
  • The federal share is repaid through
  • assessments
  • on insurers or surcharges on policyholders.
  • For federal assistance up to $20 billion, the assessment for each commercial insurer is based on an insurer's market share of net written premium to the aggregate written premium for the year the assessment is imposed.
  • Individual insurer assessments are capped at 3% of net written premium for the assessment year (the amount above 3% would be reallocated among other insurers).
  • Industry-wide payments for assessments may be spread out over time, with a cap for actual payments in Year One at $5 billion and $10 billion in Years 2 and 3 if the program is extended.
  • Additional provisions are included to spread out payments in the event of multiple events.
  • For federal assistance exceeding $20 billion, the Secretary is authorized (after weighing numerous factors) to impose surcharges on commercial P&C policies. Such surcharges cannot exceed 3% of the premium for such policy.

  • No payback required, although the federal share may be reduced by any reinsurance received by a participating insurer.
  • The House proposal is badly flawed. In addition to being extraordinarily complex to administer, it creates perverse underwriting incentives and gives the Secretary tremendous discretion to allocate program costs among insurers and insureds as he sees fit.

  • Allocating assessments on the basis of market share will generate problems similar to those caused by the current state guaranty fund system, i.e., sound underwriters will subsidize the mistakes of bad underwriters
  • Requirements to Participate in Program
  • Insurers must have been offering commercial P&C prior to September 11 (unless otherwise provided under a common pool not under the control of any commercial insurer)
  • Insurers must provide policyholders clear and conspicuous disclosure of premium charged for losses covered under the federal program and the federal share of such losses
  • The disclosure applies to policies in force and must be provided within 90 days of enactment.
  •  
    Regulatory Responsibilities of the Treasury Secretary The Secretary has broad responsibility for running all aspects of the program, particularly the calculation of assessments and surcharges. Generally the same.
  • The White House seeks a minimalist role for the Treasury Department.

  • In the House bill, the Secretary of Treasury possesses tremendous power to allocate any federal costs among parties of his choosing.
  • Business Interruption Covered, but not defined. Covered and defined as:
  • Coverage of losses for temporary relocation and ongoing expenses (including ordinary wages) where physical damage is such that the insured cannot open for business
  • Physical damage to other property
  • totally prevents
  • customers or employees from gaining access to the business premises.
  • Government prevents employee/customer access by shutting down an area due to physical or environmental damage
  • Excludes lost profits except for small businesses.
  • Going forward from 9/11, business interruption issues may require additional investigation, particularly as it relates to a business's ability to continue operating electronically when physical access to its property is denied.
  • Civil Money Penalties
  • The Secretary may assess civil money penalties up to $1 million for any violation of the Act, (including regulations), failing to pay assessments, collecting or remitting surcharges, or intentionally providing erroneous information relating to premiums or claims.
  • Opportunity for a hearing.
  • Secretary may assess civil money penalties for any violation of the act or any regulation, rule, or order relating to the submission of false or misleading claims or failing to pay any required reimbursements under the program
  • Adequate due process protections are essential.
    Federal Subrogation Rights Yes, with respect to any claim paid by the US under the Act. Same  
    State Preemption and Other State Law Matters
  • Preempts state laws concerning coverage for acts of terrorism if an insurer provides such coverage in accordance with definitions and regulations promulgated in connection with this Act.
  • Preempts state laws preventing recovery of assessments.
  • Preempts all state laws (including prior approval) imposing condition precedents for offering commercial P&C coverage for acts of terrorism, EXCEPT, for filing requirements.
  • Urges states (through the NAIC) to adopt uniform definitions for acts of terrorism and guidelines for terrorism reserves and disclosures for pricing and terms related to terrorism coverage.
  • If states fail to adopt such guidelines, the Secretary of Treasury is authorized to establish guidelines for reserves and directed to establish guidelines for disclosure (in consultation with the NAIC).
  • The Secretary is directed to consult with the NAIC on implementing the Act, including entering agreements with state insurance regulators to collect assessments and surcharges and investigate and audit claims.
  • Makes federal definition of
  • act of terrorism
  • the exclusive definition for purposes of compensation under the Act and preempts state definitions that are inconsistent with definition to the extent applicable to any type of insurance covered by the Act.
  • No prior approval or waiting period for rates.
  • States can still invalidate a rate as excessive, inadequate, or unfairly discriminatory.
  • Uneven state regulatory activity in the aftermath of Congress's inability to pass a bill has reinforced the need for uniformity and broad preemption of state requirements concerning terrorism should be provided.

  • The largest markets of California, New York, Texas, and Florida have refused to approve terrorism loss exclusions while other states have limited their scope where permitted.
  • Reports to Congress
  • Treasury report required on issues related to creating tax-favored reserves for terrorist and other catastrophic events.
  • Seven-member Commission to study and report on extending federal terrorism assistance for life insurance.
  • Secretary of Treasury to report to Congress on the availability, affordability of railroad and trucking insurance.
  • Secretary of Treasury, Fed Governors, and Comptroller General to study and report on the establishment of a reinsurance pool system.
  • Treasury study on the potential effects of terrorism on life and other lines of insurance.

  • Participating insurers to report every six months to the NAIC stating, explaining, and justifying rates charged for losses covered under the program.
    - These reports are to be forwarded to the Secretaries of Treasury and Commerce, the FTC Chairman, and the Comptroller General.
    - The Treasury, Commerce, and FTC reports are to submit further reports to Congress and the Comptroller General with the Comptroller General preparing a final report for Congress
  • The Senate provisions on rates was designed to address the concerns of other Senators (e.g., Hollings) that terrorism not be used as an excuse for excessive rate increases.

  • Freedom of Information issues need to be clarified concerning public access to information submitted by insurers.

  • Does involvement of the Federal Trade Commission lead to any liability under the Federal Trade Commission Act?
  • Liability Proposals
  • Creates federal cause of action as exclusive remedy for claims arising out of relating to, or resulting from a determined act of terrorism.
  • JPML to designate one or more federal district courts to have original and exclusive jurisdiction.
  • Substantive law is the state where acts occurred unless preempted by federal law.
  • No punitive (or other non-compensatory damages allowed.
  • Noneconomic damages limited to individuals suffering physical harm.
  • Proportional liability for noneconomic damages.
  • Awards to be offset by collateral sources of compensation.
  • Attorney fees subject to discretion of the court and limited to 20%. An attorney breach of the restriction is subject to a $2,000 fine or one year in prison.
  • Liability restrictions do not apply to terrorists or those who aid or abet terrorists.
  • Provides for satisfaction of judgment against terrorists, terrorist organziations, and state sponsors of terrorism through frozen assets (these terms are as defined under 6(j) of the Export Administration Act of 1979 or 620A of the Foreign Assistance Act of 1961).
  • Presidential waiver authority provided.
  • Creates an exclusive federal cause of action for property damage, personal injury, or death arising out of an act of terrorism.
  • Substantive law is the state where acts occurred unless preempted by federal law or otherwise determined by the district court hearing the action.
  • Punitive damages are not compensible under the federal program.
  • Liability restrictions do not apply to terrorists or those who aid or abet terrorists.
  • The Senate provisions are less restrictive.
  • The Senate bill is unclear on whether state courts can hear a federal claim. A substantive law reference to district courts suggests that such actions are limited to federal courts. However, the only exclusivity noted in the bill applies to the type of claim that can be asserted and unlike earlier drafts, there is no mention of jurisdiction
  • Key Definitions


    Aggregate Written
    Premium

    Total premiums in a given year under all commercial P&C policies.    
    Commercial Insurer
  • Any entity that provides commercial property and casualty insurance (as defined in the Act).
  • The term includes "any affiliates of a commercial insurer."
  •    
    Commercial Property and Casualty Insurance
  • Includes and insurance, reinsurance, or retrocessional insurance for persons and properties in the U.S. for loss or damage of property, loss of income or extra expense incurred due to loss or damage of property, third-party liability caused by negligence or imposed by statute or contract (including workers' compensation), or loss resulting from debt or default of another.
  • Generally EXCLUDES, all insurance for personal, family, or household purposes and professional liability insurance.
  • Commercial lines of property and casualty insurance, INCLUDING personal lines if an insurer opts to include such lines in the program.  
    Insured Loss Any loss net of reinsurance or retroecessional insurance covered by commercial property and casualty insurance.
  • Any loss resulting from an act of terrorism that is covered by primary P&C insurance, including business interruption, issued by a participating insurer.
  • Must occur in the U.S. (except domestic air carrier)
  •