TRIA extension leads to losses

The Terrorism Risk Insurance Extension Act of 2005, which extends the Terrorism Risk Insurance Act of 2002 (TRIA) to the end of 2007, was recently signed into law and as a result insurers can expect higher retention levels for 2006 and 2007, according to a recent analysis of the amendments conducted by AIR Worldwide Corporation (AIR).
Jack Seaquist, a senior manager at AIR noted that “while insurer retention will grow incrementally over the next two years, the program’s expiration at the end of 2007 will result in a dramatic increase in insurers’ loss retention in 2008, assuming no further government or industry solution is forthcoming.”
The extension dictates that the trigger for payment of federal funds will increase from US$5 million to US$50 million for certified acts of terrorism occurring after March 31, 2006, and to $100 million for certified acts of terrorism occurring in 2007. The federal share of losses will remain at 90% in 2006, but is set to be reduced to 85% in 2007. The federal contribution will only be paid when certified insured losses exceed the trigger.
Insurers’ deductibles will continue to be calculated as a percentage of the previous year’s direct earned premium in covered lines. But AIR says the deductible will increase from the current 15% to 17.5% in 2006 and 20% in 2007.
The new legislation excludes the following types of coverage from the program: commercial auto, burglary and theft, surety, professional liability, and farm owners multiple peril.
In order to illustrate the legislation’s impact, AIR modeled three scenarios based on the portfolio of a typical medium-size, multi-line property and casualty company. The sample company, with $2 billion in total annual premiums, is assumed to have a higher concentration of exposures in major cities. All losses are estimated using AIR’s Terrorism Loss Estimation Model.
* The first scenario is the detonation of a delivery truck bomb in a major U.S. city. The attack results in an insurance industry loss of almost $12 billion. In this case, the representative company retains 100% of its US$230 million total loss, since the deductible will not be reached in any year.
* The second scenario involves the detonation of a large truck bomb in a major U.S. city. This scenario, which would be similar in effect to that of the 9/11 attack on the World Trade Center, results in a US$40 billion loss for the insurance industry. Under the extension, the representative company would retain US$345 million of its US$760 million total loss in 2006, more than US$400 million in 2007, and all US$760 million after the expiration of TRIA.
* The final scenario is a chemical attack in a major U.S. city. This scenario results in an US$85 billion insured loss for the industry. In this case, the representative company would retain US$407 million of its US$1.4 billion total loss in 2006, nearly US$500 million in 2007, and the full US$1.4 billion after the expiration of TRIA.
“The impact of these changes on insurers will vary depending on the severity, location and timing of any future attack and on an individual insurer’s actual book of business,” Seaquist says. “Therefore, it is essential that insurers re-evaluate their own terrorism risk assessment strategies with respect to industry best practices.”