Why pricing terrorism risk remains a challenge for CRE insurers
The Terrorism Risk Insurance Act was created after 9/11 to serve as a crucial federal backstop for commercial real estate insurers, but an analysis of alternatives to fund the program reveals the continued challenges of measuring and predicting terror risk.
Congress developed TRIA to share terrorism losses between the government and insurers and promote widespread availability and affordability of terrorism coverage. Coverage is limited to incidents the government certifies as an act of terror and only kicks in once insurers' losses reach a certain threshold, $120 million in 2016.
The program is designed for the government to recoup its losses in the event of a terror attack, but doesn't require insurers to charge policyholders upfront for the government-backed coverage. As a result, private insurers include a nominal charge for terrorism risk coverage, if they charge for it at all, according to a Government Accountability Office report published earlier this year.
After 9/11, insurers generally stopped covering terrorism risk because losses would have been too high compared with the premiums they could charge, leaving CRE property owners without adequate coverage. Now, efforts to ensure the government can recoup its losses after an attack could increase insurance costs and discourage CRE policyholders from obtaining insurance backed by TRIA.
Under the current structure of the act, in some instances, federal losses may be recouped through premium surcharges on policyholders with eligible coverage. But depending on the size of the terrorism event and the cumulative premiums of affected insurers, the federal government may not be held accountable to recoup all of its losses, presenting another challenge.
A federal charge on insurers or policyholders could help pay for the federal share of potential losses or replace the current recoupment structure, or be paid to the Treasury as a promise of payment, but determining the price of such a charge would be difficult, the GAO said.
An insurer set-aside could also help by covering insurers' potential losses, but structures may be too complex to implement due to specifications of current accounting practices and state laws, the report adds.
To date, no terrorism events have been certified through TRIA, but the CRE market depends on the program being in place. The last reauthorization was in 2015, and the program must be reauthorized again in 2020.
"Terrorists continue to target American economic interests to try to undermine our economy, our national strength. In the face of this threat, American businesses must have sufficient insurance coverage to effectively manage economic risks and protect the economic value of their underlying assets," said Clifton Rodgers Jr., senior vice president at the Real Estate Roundtable. "Otherwise, America's economic infrastructure is totally exposed, and terrorism risk is borne by businesses, lenders, shareholders, pensioners and bondholders."
Market professionals advocating for another reauthorization of TRIA hope it is completed well in advance. Almost two weeks passed from the expiration of TRIA in 2014 to its reauthorization in 2015, causing uneasiness throughout the CRE market.
"It is vitally important to not let TRIA expire," Rodgers said.
"At least 14 other nations recognize that private markets cannot quantify terrorism risk, and each has a permanent terrorism insurance program. Markets need certainty," he continued. "It's important to develop a strategy for a permanent national terrorism insurance program that would make coverage available, enabling policyholders to secure the terrorism risk coverage they need without facing periodic renewals."