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By
Daven G. Lowhurst
Thelen LLP
The Problem
Since
the terrorist attacks of September 11, 2001, it has become
increasingly difficult for businesses and individuals to
obtain property and casualty insurance at reasonable rates
to protect against future terrorist attacks. The lack of
terrorism coverage has hampered the construction and real
estate industries in many urban markets. This is especially
true in New York City, where insurance premiums skyrocketed
in the wake of the September 11 attack, in some cases doubling
or tripling.
While
it is difficult to quantify each market factor responsible
for this situation, few would disagree that a major reason
for the increased premiums has been the inability of insurers
to accurately estimate the probabilities and financial consequences
of future terrorist attacks. Insurers, faced with such uncertainties,
frequently have responded either by excluding coverage for
terrorist attacks altogether or by increasing insurance
premiums by orders of magnitude to compensate for risks
they are unable to predict or quantify.
The Cure
The
federal government, recognizing that reasonably priced property
and casualty insurance for acts of terrorism is necessary
to keep projects on track and to keep the economy from stalling,
recently enacted the "Terrorism Risk Insurance Act
of 2002." It already is in effect. The stated purpose
of the Act is to ensure the availability of property and
casualty insurance for acts of terrorism and to provide
a transitional period during which the insurance industry
can develop the infrastructure and programs necessary to
sustain a private insurance market for terrorist acts.
The
Act seeks to accomplish this purpose by creating a temporary
program of shared public and private insurance for losses
arising from acts of terrorism. In effect, once insurers
have paid their specified shares of insured losses under
the Act, the federal government acts as a super-reinsurer,
providing backstop insurance for acts of terrorism up to
a $100 billion ceiling.
How the Federal Backstop Insurance Program Works
The
Act creates a Terrorism Insurance Program administered by
the Treasury Department. An event qualifies as an "act
of terrorism" only if it is certified by the Treasury
Secretary (in concurrence with the Secretary of State and
Attorney General): (1) to be an act of terrorism;
(2) to be either violent or dangerous to human life,
property or infrastructure; (3) to have resulted
in damage within the United States (or outside the United
States in the case of certain air carriers, vessels and
U.S. missions, which are not defined but presumably include
U.S. embassies and consulates); (4) to have been
committed by individuals acting on behalf of any foreign
person or interest as part of an effort to coerce the U.S.
population or the U.S. government; (5) to have resulted
in property and casualty insurance losses exceeding $5 million
in the aggregate; and (6) not to have been committed
in the course of a war declared by Congress. Any decision
to certify, or not to certify, an act as an "act of
terrorism" is final and not subject to judicial review.
All
insurers meeting the Act's definition of a qualifying insurer
must make terrorist-act coverage available in all of their
property and casualty policies and must provide terms, amounts
and other coverage limitations that do not differ materially
from those applicable to losses arising from events other
than terrorist acts. Further, the Act voids terrorism exclusions
in such policies as well as state approval of terrorism
exclusions to the extent they exclude losses that would
otherwise be covered. However, an insurer may reinstate
a pre-existing terrorism exclusion if either: (1)
the policyholder consents in writing to reinstatement; or
(2) after 30 days' notice of the increased premium
charged for the terrorism coverage, the policyholder fails
to pay the premium. Insurers who fail to comply with the
Act, in addition to what they owe under the Act, may be
hit with a penalty of at least $1 million.
To
compensate for forcing insurers to provide terrorism coverage,
the federal government, through the Treasury Secretary,
will pay a portion of "insured losses" (a loss
resulting from an "act of terrorism"), assuming
that the insurer has satisfied certain specified conditions
for federal payment, such as having provided the policyholder
with a clear disclosure of the applicable insurance premium.
A formula determines the federal government's share of insured
losses (generally 90 percent of the loss above the insurer's
annual deductible), up to a $100 billion aggregate ceiling.
Likewise, insurers that satisfy their annual deductible
are not liable for any loss that exceeds the $100 billion
aggregate ceiling.
To
spread the risk of terrorism losses, the program requires
insurers to impose a terrorism premium on policyholders
and to remit the collected premiums to the Treasury Secretary.
This premium is based on some percentage, not to exceed
3 percent, of the premium charged for the policy's property
and casualty coverage and is subject to certain specified
adjustments.
Creation of an Exclusive Federal Cause of Action
The
Act also establishes an exclusive federal cause of action
for property damage, personal injury or death arising out
of or resulting from an "act of terrorism" certified
by the Treasury Secretary. Except as to a government, organization
or person who commits or knowingly participates in a certified
act of terrorism, the federal cause of action is exclusive,
and all state causes of action for property damage, personal
injury or death are pre-empted. Within 90 days after the
certification of an "act of terrorism," one or
more U.S. District Courts will be designated as having original
and exclusive jurisdiction over all actions relating to
or arising out of the act of terrorism. The Act provides
for satisfaction of compensatory judgments against terrorists
from any blocked assets of the terrorists or their agents.
Duration of the Program
The
program already is in effect. By September 1, 2004, the
Treasury Secretary will determine whether to extend the
program for a third year (January 1, 2005, through December
31, 2005). By its current terms, the program terminates
on December 31, 2005.
Questions Arising Out of the Terrorism Insurance Program
The
Act raises many important questions for insurers and policyholders.
For example, while the purpose of the Act is to ensure the
availability of reasonably-priced property and casualty
insurance for acts of terrorism, the Act does not specify
the terms of terrorism coverage. Nor does the Act specifically
limit the pricing of terrorism insurance. Apparently, the
setting of policy terms and premiums is left to the insurers,
subject only to market competition and possibly state Insurance
Department oversight.
And,
because the Act immediately voids terrorism exclusions,
policyholders presumably are covered for acts of terrorism,
even though no premium has been paid and no policy terms
have been agreed to. Insurers are likely to respond to the
Act by promptly writing, pricing and giving policyholders
written notice of the increased premium for terrorism coverage.
This might automatically reinstate pre-existing terrorism
exclusions if policyholders fail to pay the increased premium
within 30 days of the notice.
Insurers
and policyholders also must wait and see what events will
be certified as "acts of terrorism." The definition
provided leaves significant discretion in the hands of the
Treasury Secretary. For example, how will the Secretary
construe the requirement that the act be either violent
or dangerous to human life, property or infrastructure?
To what extent will that requirement encompass chemical,
biological and cyber-terrorism, and what types of damage
from such terrorism will be covered by the Act?
What
is the scope of the requirement that the terrorist act must
have been committed by individuals acting on behalf of a
foreign person or interest? On one hand, terrorist acts
committed by and on behalf of U.S. citizens, such as the
bombing of the federal building in Oklahoma City, presumably
would not be subject to the Act. On the other hand, the
terrorist acts of a U.S. citizen committed on behalf of
a foreign person or interest would appear to be covered
by the Act.
When
is a terrorist act committed in the course of a war declared
by Congress, so as to be excluded from the Act? It seems
clear that an act of terrorism committed during a war expressly
declared by Congress would be excluded from the Act. But,
as the federal government intensifies its anti-terrorist
efforts against terrorist cells and governments throughout
the world, it is not clear whether something less than an
express declaration of war would trigger this exclusion.
It
is an open question to what extent U.S. businesses will
be able to obtain coverage for damage occurring outside
the United States as a result of terrorist acts. For example,
given the limited scope of coverage under the Act for damage
outside the United States, it is far from clear whether
the Act will help developers, contractors and related parties
obtain course-of-construction coverage for private projects
they are building overseas, such as power plants and infrastructure.
The availability of course-of-construction insurance may
hinge on a policy's territorial scope of coverage and whether
the policyholder's domestic and foreign insurance are issued
as part of the same program.
Finally,
it is not clear whether the Act will be modified over time
as problems and ambiguities emerge and require redress.
What is clear, however, is that insurers already are taking
steps to improve their positions under the Act, such as
giving notice to policyholders of increased premiums for
terrorism coverage in the hope of being able to reinstate
terrorism exclusions if policyholders fail to pay the premiums
within the Act's 30-day period. It is equally clear that
policyholders must be prepared to react quickly to the actions
taken by their insurers.
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For more information about the issues covered in this report, please contact Daven G. Lowhurst in our San Francisco office at 415-369-7270 or at dglowhurst@thelen.com or contact your Thelen attorney. For more information about Thelen's Construction and Government Contracts Department, click here.
©2003 Thelen LLP
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