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Terrorism: Insuring the risks
Practical Law UK Legal Update 3-101-5749 (Approx. 4 pages)
In light of the terrorist attacks on the US, companies in the UK are reassessing their insurance policies, and considering whether they are adequately insured against loss and damage caused by terrorism.
Businesses are still reeling from the effects of the terroristattacks on the US in mid-September. According to press reports, anumber of corporate deals are expected to be put on hold as shareprices drop due to market uncertainty and the prospect of war.Others have been renegotiated, such as the tyre manufacturerPirelli's purchase of a controlling interest in Olivetti, theparent of Telecom Italia from Bell, the US telecoms company.
In light of the attacks, companies in the UK are reassessingtheir insurance policies, and considering whether they areadequately insured against loss and damage caused byterrorism.
A standard commercial property insurance policy will generallyprovide cover for loss and damage to property caused by fire orexplosion. Where the fire or explosion is the result of an act ofterrorism, however, full cover is generally excluded and coverlimited to a maximum of £100,000.
The insured can, on payment of an additional premium, extendthe standard cover for terrorism beyond £100,000 under thePool Re (Pool Reinsurance Company Limited) scheme, a governmentbacked reinsurance scheme which meets the cost of claims over£100,000 occurring as a result of terrorist attacks in GreatBritain.
Pool Re scheme
Pool Re was established in 1993 as a mutual reinsurancecompany after international reinsurance providers to insurerswriting property cover in the UK declined to renew theirinsurance treaties because of escalating bad claims. It insuresits members on a direct basis and only in respect of damage orbusiness interruption resulting from fire and/or explosion wherethe proximate cause is an act of terrorism. Pool Re providesreinsurance to insurers; the government provides reinsurance toPool Re.
Any insurance company that is authorised by the government oran overseas regulatory authority to transact property insurancein the UK is eligible to be a member of Pool Re. Lloyd'sSyndicates are also eligible. At present there are about 200members.
Operation and scope
The territorial scope of the reinsurance cover provided byPool Re is limited to "Acts of Terrorism" occurring in England,Wales or Scotland but excluding territorial seas. "Acts ofTerrorism'" are defined as "acts of persons acting on behalf of,or in connection with, any organisation which carries outactivities directed towards the overthrowing or influencing, byforce or violence, of Her Majesty's government in the UnitedKingdom or any other government de jure or defacto" (section 2(2), Reinsurance (Acts of Terrorism) Act1993).
There are four heads of cover available:
- Buildings and completed structures.
- Other property (including contents, engineering, contractorsand computers).
- Business interruption.
- Book debts.
The first £100,000 of a claim is met by the Pool Remember (the reinsured member).
The scheme does not cover domestic property owned by anindividual but does cover flats and houses owned by companies.For these properties, the retention is £2.5 million per headof cover.
The insured in each case pays its premiums for the additionalterrorism cover to the reinsured member of Pool Re. The premiumrates are set by Pool Re with the agreement of the government.They are calculated by reference to the full values of theproperties insured and by reference to the rating zone in whicheach property is located. There are premium discounts availablefor specific terrorism deductibles and where the insured complieswith a prescribed list of risk management measures.
If Pool Re makes a loss in an underwriting year, it canrequire each member to make an additional payment (up to 10% ofeach member's premium to Pool Re for that year).
Pool Re can only respond to a claim where HM Treasury hasissued a certificate that a particular event is an Act ofTerrorism.
Whilst Pool Re provides reinsurance for its members, Pool Reitself has unlimited reinsurance cover with HM Treasury thatprotects Pool Re if all of its financial resources are exhaustedfollowing claim payments. Pool Re pays a premium for thiscover.
All properties must be covered
The additional terrorism cover is an extension of the standardpolicy cover and must extend to all the insured's properties ornone of them although it is possible for an insured to opt not topurchase terrorism cover for business interruption.
Terrorism: Revisiting insurance and repair obligations
Insurance clauses in leases and other documents should begiven careful consideration and particular attention paid to theway in which the insurance provisions interact with provisionsrelating to repair, reinstatement and cesser of rent.
Leases
The landlord may wish to make it clear that it will not beobliged to extend cover to terrorism damage but retains the rightto extend cover in future or that it will only insure againstrisks (including terrorism) where insurance is available onnormal commercial terms.
Tenant's liability. Most institutional leases willrequire the tenant to pay the premiums whatever the cost.
A tenant may wish to negotiate with the landlord to share thecost of the additional premiums for terrorist cover or to limitits liability in some way, given that the premium rates can beincreased if Pool Re perceives the need to do so.
Qualifying liability by terms such as 'fair and reasonable' isunlikely to be of much benefit, given that the additionalterrorist cover is available only through Pool Re and Pool Re andthe government fix the premium levels.
Repairs and reinstatement. If the landlord insures, thetenant's obligation to repair and reinstate the property shouldproperly exclude liability for damage and destruction caused byan insured risk.
It follows that if the landlord has an absolute obligation toinsure against terrorist damage, then it will be for the landlordto reinstate the property, not the tenant.
If the landlord's obligation to obtain insurance is qualified,and loss and damage arising from a terrorist attack is not aninsured risk, the obligation to reinstate will fall on thetenant, assuming it has a full repairing covenant.
Consequently the parties need to be clear whether theinsurance includes additional terrorism cover. The tenant islikely to want the lease to be definite about terrorism insuranceand not leave it to be a matter for the landlord'sdiscretion.
Cesser of rent. A cesser of rent clause generallyprovides that where the property is damaged or destroyed by aninsured risk, there will be an abatement in the rent either untilthe property has been reinstated or until the expiry of theperiod for which there is loss of rent insurance.
If the landlord is not obliged to and does not insure againstterrorist risk, then there is unlikely to be an abatement of rentfor the tenant if damage is caused by terrorism. The tenant mayhave an ongoing liability to pay rent whilst at the same timemeet the costs of alternative premises and the costs ofreinstatement of the damaged building.
A tenant should always consider carefully the implications ofa rent cesser clause and of terrorist damage were it to occur. Itmay be possible to negotiate an extension of the rent suspensionclause to cover damage caused by terrorist activity, whether ornot this is insured. This is important if the landlord has aqualified obligation to insure.
Mortgages
The insurance obligations for the borrower in loan documentswill be similar to those imposed on the tenant in a lease.
Lenders will wish to be satisfied that the borrower is obligedto effect cover against all appropriate risks, whether or notthose risks are covered by standard property owner'sinsurance.
Borrowers should be careful that an inability to obtaininsurance, or an inability to obtain insurance on reasonableterms, will not constitute an "event of default".
Sale contracts
On exchange of contracts, the parties need to know when riskin the property passes from the seller to the buyer and whatarrangements are in place to insure the property between exchangeand completion.
Condition 5 of the Standard Commercial Property Conditionsprovides that risk passes on exchange of contracts. The buyerneeds to consider whether or not to extend cover from exchange ofcontracts to cover terrorist damage. It should be remembered thatthe additional insurance cover requires a quotation to have beenmade and accepted and that the premium must be paid within 30days of cover commencing.
If a buyer is relying on the seller's insurance policy duringthe period between exchange of contracts and completion, thebuyer may wish to check whether cover includes additionalterrorism cover and whether the buyer will be able to make anyclaim under it.