By Ross Norstrom, managing director, Property and Casualty Insurance

After the largest terrorist attack in United States history occurred on September 11, 2001, the insurance industry was overwhelmed by the financial obligations due to this event, compounded by years of declining rates and generally soft market conditions. The situation was grim. In response, the vast majority of insurers and reinsurers excluded all forms of sabotage and terrorism coverage from their policies in an effort to protect themselves from future damages. Those that offered the coverage were doing so with limited capacity and very high pricing, especially for real estate schedules, municipalities, financial institutions, universities, high profile brand name companies and airlines. As a result, many of the firms this coverage was supposed to protect could not afford the coverage, and elected to take a chance without coverage, hoping nothing further would happen.

The Terrorism Risk Insurance Act (TRIA) was enacted in direct response to these market conditions. Meant to immediately stabilize the marketplace, TRIA makes sabotage and terrorism coverage available to all businesses, and allows the insurance industry time to rebuild capital and capacity. Specifically, TRIA mandates that insurance carriers offer sabotage and terrorism coverage for acts committed in the United States directed by foreign terrorist organizations that are greater than $5 million in magnitude and approved as a "covered terrorism act" by the Secretary of the Treasury.

TRIA imposes monetary retentions on each insurance carrier based on their total applicable gross written premiums. Each insurance carrier has its own loss retention level imposed on them prior to the federal government paying any losses on their behalf. For the very largest carriers, it is unlikely that any federal payout would be needed; for smaller insurance companies and reinsurers, whose overall retentions are much smaller, the federal government would pay more of their losses so their overall survival would generally not be impacted.

Presently, just months before TRIA is scheduled to expire on December 31, 2005, Congress (with the exception of a few representatives and senators) has not expressed much interest in an extension, supposedly due to a general lack of support by constituents and the negative press the insurance industry has recently received. In addition, the Department of Treasury (DOT) issued a report on June 30, 2005 which recommends that TRIA not be extended. The DOT feels an extension would hamper global insurance market development and innovation for sabotage and terrorism coverage and, if extended, would put the government in a much higher retention position. This report should result in further informed debate between Congress, the White House and industry experts, including RIMS (Risk and Insurance Management Society). RIMS has issued its support for TRIA's extension and will be on the forefront of further awareness efforts.

Despite an increase in capital and standalone sabotage and terrorism coverage capacity worldwide, there is not enough capacity to fully replace the coverage for sabotage and terrorism that is written now. In addition, the worldwide insurance market has been working on sabotage and terrorism products for the past three years and it is not realistic to predict that additional innovative products will be developed prior to TRIA's expiration. It is widely anticipated that rates to businesses for those coverages will increase due to demand, and the same firms directly impacted after 9/11 will be most affected by TRIA's expiration.

Another grave concern, should TRIA expire, is the ability of the insurance industry to pay claims and continue operations should there be multiple sabotage and terrorism occurrences in a single year. The massive destruction of physical assets and human life in 2001 was a severe blow to the industry; if there were to be more than one occurrence in a year, the result would be the insolvencies of major global insurance carriers and reinsurance companies. The net effect, ultimately, would be increased rates and restricted coverage and capacity, resulting in an overall higher cost of risk to U.S. businesses.

Although there may be other alternatives than the proposed extension, it is clear that abandoning TRIA altogether is not a viable option. The risk of terrorist attacks on U.S. soil – and the need for TRIA's financial backstop – remain very real and cannot be ignored. To ensure that action is taken, businesses should contact their elected officials to express their concern and demand action. Encourage Congress to extend the current version of TRIA, or form working groups with business and insurance industry executives and craft a better plan to be implemented on January 1, 2006.

If you have any further questions, please contact your Mesirow Financial representative.

Click here to visit the Web site for the U.S. Senate.

Click here to visit the Web site for the House of Representatives.