Terrorism is a new risk posing challenge for the insurance industry. The terrorist acts of September 11, 2001 have caused many changes in the global terror insurance market. One major trend is the exclusion of terror risk in contracts by numerous insurance and reinsurance companies globally.

The Mumbai terror attacks have put the spotlight on terrorism and the need for insurance against such acts. Many companies are unaware of the level of terror risk faced by them. And, even after buying terror covers for their properties and possible business disruptions, companies do not clearly know how the personal and property claims from a terror attack could impact their profitability.

Simultaneously, many governments are becoming more involved in mitigating the risk exposure of insurance and reinsurance companies. Further, a number of countries have developed specific terror pools addressing the risks of terrorism. Terrorism insurance is mostly offered as a rider or add-on cover to the main policies by domestic insurers. Internationally, it is available even as a standalone policy.

The terrorist attacks which took place over the past two decades have significantly altered the economic and security settings world over. In this direction the insurance industry and Governments around the world are enduring to create and refine the risk management facilities and systems.

Terrorist attacks in our country and around the different parts of globe, elevate significant issues related to the economic blow of terrorism on individuals, businesses, governments, and insurance companies. Ever since the September 11 terrorist attacks that hit the US, the conditions on terrorism insurance markets have enhanced considerably.

Indian insurers have reported a marked increase in the demand for terrorism cover in the 2009. The demand is naturally being linked to concerns following the Mumbai attacks of November 2008. Insurers observed the global situation, as India follows the international market.

The perception of terrorism differs in India as government property and religious places are not insured. With the growing occurrence of terrorist attacks globally, international insurance players felt the dire need for ‘private and public partnership in financing risk.

The insurance of terrorism risks in the Indian market is undertaken through a pool system. The Market Terrorism Risk Insurance Pool has been in existence since April 1 2002 and was India’s response to the significant increase in premium rates following the attack on the World Trade Centre on September 11 2001.

The many appalling terrorist events and the ensuing economic losses globally have prompted insurers and reinsurers to change the way they approach terror coverage. Furthermore, while private insurers increasingly are excluding terror coverage, many governments are becoming more involved in mitigating the risk exposure of insurance and reinsurance companies.

Countries have arrived at differing solutions to cover the risks of terrorism, depending on their economic, political and historical experiences. Some countries like the United States, Australia, Spain, France and Germany have developed comprehensive programs for terror coverage, while many other countries currently have no terror pool or government involvement in terror coverage.

What is terrorism risk?

Terrorism risk in this form is new not only to the India, but for the entire world. This risk is not well defined, and also there is very inadequate experience or actuarial statistics on it.

Experts have jotted down three major components in Terrorism risk, namely: 1. Threat, 2. Vulnerability, and 3. Consequence. With this the insurance companies started customarily excluding or limiting coverage for terrorist acts in the policies issued. And wherever the terrorism insurance was provided, it was quite pricey, with difficult to find required coverage and impracticable to obtain.

Thus the individuals as well as businesses are either compelled to accept additional costs of insurance or are incapable to carry out business owing to financing necessities to bear terrorism insurance.

Also businesses are now taking considerably added risk exposure that elevates apprehensions concerning the possible economic impact of disastrous terrorist attacks. Terrorism primarily affects the economy and aim to create maximum loss to the target city or region in terms of men and material.

Hence the possible consequences of terrorist attacks need to be taken into account when quantifying terrorism risk.

Consequence can be defined as the extent and type of damage resulting from successful terrorist attacks. In order to measure the consequence, it is required to quantify the expected magnitude of damage e.g., deaths, injuries, or property damage, given a specific attack type, at a specific time, that results in damage to a specific target.

How the risk of terrorism is insured?

Terrorism insurance is insurance purchased by property owners to cover their potential losses and liabilities that might occur due to terrorist activities. Terrorism coverage is provided as an additional cover to all risks underwritten under fire, engineering and property damage. Terror insurance comes as an inbuilt cover for personal accident policies, and most health and life insurance policies though some home insurance policies do offer a cover for it, some don’t include it as part of the package.

It may need to buy at an additional cost. It is considered to be a difficult product for insurance companies, as the odds of terrorist attacks are very difficult to predict and the potential liability enormous. This combination of uncertainty and potentially huge losses makes the setting of premiums a difficult aspect.

Most insurance companies therefore exclude terrorism from the insurance coverage. Most of the property insurance for companies in operation is done through fire policies and for new projects it is done through engineering policies. One has to make sure that they opt for terrorism extension. In fact, in India earlier the terrorism cover was inbuilt along with Riot, Strike & Malicious Damage cover under the fire policy.

Now it is an extension. The approximate rates for terrorism cover are 0.022 per cent for industries and 0.013 per cent for non-industries and 0.08 per cent for residences on the total value of the property. But, the maximum liability per location is Rs 750 crore irrespective of the total sum insured. The loss of profits in operating companies and project policies can also be covered for terrorism related acts. So, one can insure their loss of profits arising out of interruption of business due to terrorist attacks.

Insured exposure:

The dynamic nature of terrorism requires a different underwriting approach. Terrorism risk therefore varies considerably by country. This is also true when considering exposure accumulations that exist within many countries. Demand for terror insurance cover in major metropolitan areas is much higher than remote towns simply because there is a greater concentration of exposures. Terrorists attack targets of opportunity.

Not all attacks were foiled. Although it is certainly possible that an attack could occur anywhere, the vast majority of attacks have been in large urban areas. Terrorists aim for widespread destruction and media coverage when planning their attacks, so it is fair to assume large cities such as Delhi, Mumbai, Jaipur, Ahmedabad, Banglore, Hyderabad are likely to top their target list.

The location of exposure can also influence insurers’ decision. For example, insurers offering terror cover in a low risk area may decide to retain much of the risk while an insurer placing business in high-risk areas is more likely to seek reinsurance.

However, events can quickly change, with security levels constantly shifting in various locations and industries. The insurance industry, therefore, has to monitor and react quickly to the changing global geopolitical climate. Governments around the world continue to confront terrorism and recent events underscore the importance of their efforts.

Standalone terrorism cover:

The new challenges of terrorism financing have brought together the regulators, and businesses and insurance industry to work in the direction of finding best possible solutions. Consequently, new terrorism insurance facilities have come out from the private sector, the public sector and both.

There are hardly any at present with the exception of one player offering such a product, which according to reports met with a tremendous response as the launch of the policy was close to a terror attack. However, it may be introduced in the portfolio of a number of insurance players, given the kind of repetitive incidence of terror attacks taking place in recent times once they have worked around the intricacies involved in it.

In India Insurance companies provide Terrorism coverage only up to Rs.200 crores at any one location from the Market Terrorism Pool as per Terrorism Pool rules and terms. If a client wants coverage for terrorism risks above Rs.200 crores, New India Assurance can arrange the same and issue a Stand Alone Terrorism Coverage policy.

Grey areas on terrorism cover:

The terrorism pool covers only the property damage and consequential loss arising out of any terror strike. Under the Pool arrangement, an act of Terrorism is an act that involves the use of force or violence by any person(s), whether acting alone or on behalf of any organization, committed for political, religious, ideological or similar purpose.

However, any loss or damage resulting from the action taken in controlling, preventing or suppressing any act of terrorism is not covered under the policy. When considered in the light of the past attacks, it indicated that, the damages caused by the commandos or the police while trying to rescue people or flush out the terrorists is not payable.

However in the particular Mumbai attack case, there were reports that Insurers of the three hotels that were ravaged in the terrorist attacks have decided to cover all the losses, irrespective of whether they were caused by the attackers or by the security agencies that battled them.

Terrorism Claims arising from other lines of insurance like personal accident, life insurance, health insurance, public liability etc are not covered by the terrorism pool.

The impact of any claims arising in these classes of insurance would be direct i.e. it would be billed to respective companies who covered it.

When it comes to life / personal accident / health insurance, one has to read the fine print carefully to know whether terrorism cover is provided in it or not since it varies between policies of different insurers – some specifically exclude it, while some are silent on it and some cover them by payment of additional premium. So, it is vital for policyholders to crosscheck policies to eliminate any grey areas on terrorism cover.

Salient features of terrorism risk:

Terrorist attacks so far in India have resulted in loss of human life and damage to public and government property and damage to corporate property was minimal.

In most life insurance products, the basic sum assured is paid to survivors in case of death of the insured due to any reason other than suicide in the first year. Life insurers do not pay double-accident benefit if the death occurs due to act of terrorism or war, as it is one of the chief exclusions mentioned in the policy wordings.

Major surgical benefit covers only stipulated surgeries and hence no benefit is payable if a policy holder undergoes surgeries arising out of an act of terrorism. Some of the salient features of terror cover as an add-on are:

1. Terrorism cover is taken as an add -on cover by payment of additional premium at the option of the insured.
2. The sum insured opted for can include material damage & business interruption.
3. The maximum aggregate loss may vary from company to company.
4. The premium charged will vary based on the risk occupancy (i.e. industrial/non industrial /residential) and on the sum insured.
5. Mid-term inclusion of terrorism coverage is not allowed.
6. Terrorism cover has to be taken only in conjunction with property or engineering covers.

What is terrorism pool?

India has an edge over developed countries when it comes to terrorism insurance. The Indian general insurance industry had set up its own independent terrorism pool after the 9/11 attacks on the US. In contrast, the developed world had to rely on individual governments to establish a separate terrorism pool to take care of probable contingencies.

The India Market Terrorism Pool was set up in 2002 with a sum of Rs 200 crore (Rs 2 billion) after the 9/11 attack on the World Trade Centre in New York. The terrorism pool is essentially a corpus of funds collected from all insurers to offset possible future losses arising out of such violence.

India, decided to set up its own terrorism insurance pool, pricing the risk cover at 50 paise for every Rs 1,000 sum assured that is value of the property, in the case of industrial risks and 30 paise for every Rs 1,000 sum assured in the case of non-industrial risks.

The pool enables pool members to write terrorism risks on an individual basis using the combined capacity of all pool members plus GIC Re. Under the existing version of the Terrorism Pool Agreement, the pool is effective for only certain classes of risk. The pool actually covers companies/institutions for a liability of Rs 750 crore (Rs 7.50 billion), including material or property loss or damage.

However, the pool actually covers major companies/institutions for a liability of Rs 750 crore, including material or property loss or damage. So if an individual wants such a cover, he would need to ask for it as a add-on to the existing insurance cover.

The India Market Terrorism Risk Insurance Pool (IMTRIP) is a domestic pool organized by India’s reinsurer, General Insurance Corporation Re (GIC Re), under Regulation 8 of the Insurance Regulatory Development Authority (General Insurance – Reinsurance) Regulations 2002.

One of its aims is to maximize the retention of insurance business within India. The General Insurance Company manages a pool of fund for terror insurance of Rs 1,200 crore (Rs 12 billion) as mandated by the Insurance Regulatory and Development Authority.

Unlike some other agreements between general insurers in India, participation in the Terrorism Pool Agreement is voluntary, but almost all general insurers participate.

Classes of risk are listed in the Terrorism Pool Agreement, but the Pool Underwriting Committee can specify other classes of business. The Pool Underwriting Committee, which is constituted by the pool members, is also responsible for setting rates, terms, conditions and maximum limits of liability for terrorism risks that can be assumed by the pool. GIC Re is the pool manager and has a share in risks ceded to the pool. GIC Re takes 1% of the original premium as its management and administration charge.

Claim settlement by terrorism pool:

The damage caused to Indian Hotels’ Taj Palace and Oberoi’s Trident in Mumbai was the first major terror-related claim in the country. After terrorism was made an ‘excluded’ risk post-9/11 by global insurers, there has not been any major terror insurance claim on Indian non-life insurers.

Non-life insurance companies have received claims worth Rs 1 crore on account of terror acts in the same year, while it was around Rs 1.3 crore next year.

The claims included personal accident cover submitted by persons who had been injured in bomb attacks. The total payout for the terror claims on the Taj and the Trident, including loss-on-profits, was around Rs 500 crore, of which GIC has paid around Rs 200 crore from the pool to the two heritage hotels in Mumbai. The largest terrorism-related claim in India before that was made by Coca-Cola, for a plant that was blown up by naxalites.

For clients, insurers, reinsurers and modelers who seek to simulate the risk, the fundamental challenge of terrorism insurance is one of uncertainty.

While historical data on natural disasters such as earthquakes and hurricanes provide a reasonably clear risk profile, there is no comparable record for the nature, location, frequency and impact of terrorist attacks. GIC Re is also responsible for reinsuring the pool at members’ cost.

Where the claims at a single location are in excess of Rs.20 billion, all claims are to be processed in consultation with GIC Re. In other cases members can handle claims within the claims limit.

This differs from member to member: for members whose share is less than 10% of the pool the limit is Rs.100 million, and for members whose share is greater than 10% of the pool the limit is Rs.500 million. Claims above the claims limit are to be handled by GIC Re.

Political risk atlas 2010:

The Political Risk Atlas 2010 includes the Structural Political Risk Index (SPRI), an aggregation of 19 indices assessing the long-term trends and deeply ingrained features of 196 countries.

These include human rights, resource security, infrastructure and vulnerability to climate change and natural hazards. India does score better than its regional neighbors for structural risk, with Afghanistan, Pakistan and Bangladesh all considered extreme risk and Sri Lanka, rated high risk.

However, India is considered most at risk out of the emerging powers, primarily because of its poor human rights record, high vulnerability to climate change and infectious disease, plus high levels of poverty, water and food insecurity. China is also considered high risk, whilst the SPRI rates both Russia and Brazil as medium risk. In part, India’s new ranking in the DPRI reflects the persistent risk of terrorism and conflict across the country, including potential violence from separatist movements.

India recently formed the separate state of Telangana, to forestall violence in Andhra Pradesh, a move that may have provided fresh impetus to separatist groups in Assam and elsewhere. The conflict in Kashmir is still ongoing and India remains vulnerable to al-Qaeda style Islamist terrorism and Maoist terrorism. These factors can present significant security challenges for organizations with operations, supply chains and distribution networks in the country, unless they are managed correctly.

Reinsurance market for terror risk:

As the terrorism threat has evolved, both the insurance and reinsurance industry has reacted and adapted. Certainly, the terror reinsurance market has changed significantly since 2001. Activity and pricing levels have generally fallen since the peak that occurred following the attacks of September 11, 2001 due to the absence of a major loss and supply/ demand imbalances. Regional differences exist, however, with activity in the United States clearly down while other markets have remained steady.

Some insurers feel that the terror attacks could worsen the risk perception of India in the international reinsurance market. Similarly, post-Mumbai attacks it was feared rates for India coverage may go up. The potential reinsurance losses to the London market has certainly lead terrorism underwriters to take a relook at their terrorism rates for India.

The fact that the risk is unlikely to occur, even if it does have the potential for devastating consequences, results in a reluctance on the part of potential risk transferors to incur the cost associated with the risk transfer. Understanding the threat is paramount to tactically and strategically reducing it.

The global terrorist threat largely stems from conflict zones such as Iraq, Afghanistan, Pakistan, Somalia, Algeria, India (Kashmir), Russia (Chechnya) and China (Xingjiang) where Muslims are suffering. Both virulent ideologies and operational capabilities in those conflict zones spill over to neighboring regions and countries.

While the bulk of the terrorist attacks will be detected and disrupted in the planning and preparation stages, a few attacks will be successful. A spate of terror attacks, including the destruction of the Marriot Hotel in Islamabad, has pushed up rates for Pakistani risks in the international market.

From an insurance viewpoint, terrorism risk is very different from other risks typically insured, as it is impossible to determine the probable number of events likely to result in claims and the maximum cost of these events. In addition, no one knows what the worst case scenario might be.

Since the numbers of terrorist attacks have not been very large, there is little data on which to base estimates of future losses, either in terms of frequency or severity of the loss. In an increasingly complex world Terrorism risk management has never been more important for organizations to protect their interests. Global extremists aim for sensational destruction and loss of life, and give no warnings. Domestic groups in many countries are becoming more sophisticated.

It is back to basics as the Mumbai attack has brought the focus back on crisis management and having a proper disaster recovery plan. Many in the industry believe that terrorism risk is not insurable because it cannot be quantified. Modeling companies and insurers, however, are beginning to develop new risk simulation tools for analyzing the risk and bringing clarity to the process of underwriting the terrorism risk.

The pricing of terrorism cover was based on the market forces of demand and supply and the risk was looked at as part of the whole package. For larger risks however, careful selection of countries, political stability and site security were the underwriting factors before granting terrorism cover. Putting a price tag on a terror attack is extraordinarily difficult.

Natural disasters such as floods or hurricanes are more predictable than the intentions and acts of terrorists. Nevertheless, the market seems to have recovered from the initial shock and trauma. Reluctance and withdrawal symptoms have given way to cautious underwriting and an increased number of insurers and reinsurers are now attempting to provide a solution to the coverage crisis.

While international terrorism will continue to be the focus of insurers’/reinsurers attention through the 2010s, domestic terrorist attacks should also be monitored. There have been several high profile domestic attacks recently, with bombings in Russia, Northern Ireland and Spain, while the military defeat of the Tamil Tigers in Sri Lanka in 2009 was an important development.

By Mr. Jagendra Kumar, Jaipur, Published in The Insurance Times, August, 2010