Terrorism Coverage & Liability

While our global market slowly recovers from the horrific events of September 11th and the ensuing economic crisis, new challenges are developing for businesses seeking terrorism coverage. In addition to a general increase in premiums due to the hard market, organizations that require property and liability insurance coverage for acts of terrorism are encountering difficulty obtaining this coverage.

The absence of terrorism coverage in commercial property and casualty insurance can lead to greater problems. One is that banks may not lend money to uninsured businesses. Some lenders may also declare existing loans in default if adequate insurance becomes unavailable. Without loans for construction and other business projects, a struggling economy can plummet. There is evidence supporting the concern that lenders will indeed hold mortgagees in default if their insurance policies no longer cover terrorism losses. Additionally, in February, the General Accounting Office issued a report indicating that some firms have had to cancel or delay various projects because of the lack of terrorism coverage.

Acts of terrorism, however, pose an unprecedented challenge to insurance underwriters to assign a risk based on sound actuarial calculations accurately. Insurers are even struggling with how to define what constitutes a terrorist act. In addition, a major lawsuit deals with the questions of whether the act of crashing two planes into each of the twin towers 20 minutes apart, constitutes 1 or 2 occurrences under the existing property insurance policies for the WTC towers. Since there are few data points for catastrophic terrorist attacks, the insurance sector is having difficulty predicting how big the next loss attributable to terrorist attacks might be or how frequently such attacks may occur. Because of this, most reinsurance companies stopped offering coverage for terrorist attacks effective January 1, 2002, when more than half of the reinsurance "treatises" expired. Faced with an inability to spread the risk of terrorist attacks through the worldwide reinsurance network, domestic insurers have sought relief from the government and through contract language that excludes injury and damage caused by acts of terrorism.

Legislators in Washington have been attempting to create a safety net for the insurance industry. Throughout history, the federal government has stepped in to compensate for breakdowns in the private insurance marketplace. For example, floods and crop failures are insured under federally sponsored programs. This federal financial backstop would help ensure coverage availability in the high-risk climate, since the reinsurance industry does not have the capacity to provide protection against additional terrorist attacks. The Terrorism Risk Insurance Act of 2002 was enacted November 26, 2002, as a companion to the Homeland Security Act. A Guide to Homeland Security, Thomson/West 2003 is fine treatment of all terrorism issues including insurance issues. The Terrorism Risk Insurance Act of 2002 is temporary in nature and intended to give commercial insurers time to build capacity to supply the market for terrorism insurance. The Program it establishes is to end at the end of 2005 at which time adjustments in its various formulas will be adjusted in new programs meant to shift more of the burden from the government to the private reinsurers. In passing this law, Congress appears to be hoping that coverage will be available independently of the Federal Program. They hope that the private coverage will be broader, while federal coverage will be narrower and more of a last resort. Aviation terrorism insurance issues were also dealt with in the Terrorism Risk Insurance Act of 2002 and are well explained in Aviation Tort and Regulatory Law, Thomson/West.

Insurance Services Office, Inc. (ISO) made an initial filing of exclusionary language that would address injury and damage from terrorist acts. ISO's approach in the initial filings was simply to replace the war exclusion, as it currently exists in different forms in commercial property and commercial general liability coverage forms, with new exclusions pertaining to both war and terrorism. The broad scope of these original ISO terrorism filings paralleled that of exclusionary language already being developed and used by some individual insurers. The problem with language of the original filing is that it was broad enough to encompass simple vandalism if ideological or coercive motives could be seen in it. In response to criticisms of this kind-and to charges from some state regulators that the language in question could even be used to deny insurance coverage to victims of hate crimes-ISO decided to amend its filings.

The most significant of the amendments was the imposition of two quantitative thresholds for triggering the exclusion. The threshold is designed to make the exclusion applicable only when the terrorist act causes catastrophic injury or damage.

• An insured property damage threshold was set at $25 million, including both direct damage and business interruption.
  
  
• A bodily injury threshold was also imposed-50 or more persons killed or seriously injured.

Consumers should be aware the exclusions filed by ISO, are technically not just "terrorism" exclusions. For property policies, the endorsement is entitled "Exclusion of War, Military Action and Terrorism." The endorsement for use with Commercial General Liability policies is entitled "War or Terrorism Exclusion." Both endorsements combine a terrorism exclusion with the standard war and military action exclusion already found in commercial property causes of loss forms. On the assumption that the new ISO exclusions or their equivalent will be attached to most new commercial property and liability policies, the "war" portion of the exclusions alone will mean a considerable narrowing of coverage.

The National Association of Insurance Commissioners (NAIC) endorsed the revised ISO language and recommended its approval by state insurance departments, which has steadily occurred. Another policy-drafting and advisory insurance organization, the American Association of Insurance Services (AAIS), has filed terrorism exclusions for use with its commercial coverage forms that are equivalent to ISO's and conform to the terms approved by the NAIC. Moreover, ISO has given permission to insurers not affiliated with it to use the ISO filings, which means that the language of the ISO exclusions should become an almost universal industry standard.

Any ongoing use of the new ISO exclusions is contingent in a number of states on the failure of the federal government to enact legislation. In the meanwhile, commercial insureds and their insurance and risk management advisers should carefully review their insurance policies for new terrorism exclusions. Because of the exclusions, companies must think about how they can mitigate and manage crises because the commercial insurance industry is indicating that it will not absorb as much loss as it did on September 11th.

Business and lobby groups are working to support legislation to support affordable coverage for the risks of terrorism for businesses. For example, the American Hotel & Lodging Association has taken a position on behalf of its members in support of federal legislation, and is a member of the Coalition to Insure Against Terrorism (CIAT), an organization of business insureds that is lobbying for federal legislative support on this issue. CIAT points out that reduced or higher-cost insurance coverage is more than a business issue-the costs will be passed on to consumers, and individuals who may be injured in future terrorist attacks may find they cannot recover the benefits they may need.

Because of the lobbying efforts of influential businesses and coalitions while terrorist threats continue, and in light of the continuing legislative proposals in Washington, it is crucial for businesses and insurance companies to watch the legal landscape for important changes. As the law changes, the responsibilities and costs to businesses and insurers alike may shift dramatically. At this point in history, sound business planning should take into account the possibility of such changes.

Whether you are an insurance company or a business seeking insurance, the changes wrought by the events of September 11th mean substantial changes for the way you do business. It is important to seek sound legal advice to determine your obligations and risks in the wake of these events, and to develop a strategy for changing your business practices to keep pace with world events.

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