For federal compensation to be  paid, aggregate industry insured losses from certified acts must exceed a  certain amount (program trigger). Insurers’ practices for managing their exposure and pricing  terrorism risk coverage are intended to cover their share of losses under  TRIA (their deductibles and coshares). Insurers do not consider in their  pricing the potential federal share of losses, which may be recouped after  an event. Officials from two insurers we interviewed for this report discussed how  they manage their terrorism exposure using aggregation limits. The federal government may not be required to recoup any of its  losses. Second, the option of insurer set-asides—through which insurers would  more explicitly address their terrorism exposure through their capital,  assets, or liabilities—could be used to help cover insurers’ share of  potential terrorism losses or both insurers’ and the federal government’s  share of potential losses. Insurer set-asides could be structured in at least three  ways: (1) loss reserves for events that have not yet occurred, (2) separate  capital requirements for terrorism risk exposures, or (3) segregated  assets that only can be used for a specific purpose such as potential  terrorism losses. Implementing a set-aside for TRIA could be complex. State laws. Both TRIA’s Current Funding Structure and Alternative Funding Options Could Adversely Affect the Market, but Some Factors Could Help Mitigate the Effects

TRIA’s current recoupment mechanism and alternative funding options  could affect affordability and participation for policyholders, the flexibility  of the use of insurers’ assets, and the exposure and role of the federal  government. Following a certified terrorism event, Treasury recoups federal losses  through premium surcharges on all policyholders with TRIA-eligible  insurance line coverage. A federal charge on  insurers or policyholders structured as either (1) a premium-like  charge intended to help pay for the federal share of potential losses  and replace the current recoupment provision, or (2) a backstop  charge paid to the Treasury for the promise of payment of the federal  share of losses with recoupment still in place to cover the federal  share of losses. The magnitude of  potential effects for the alternative funding options varies by the design  and the implementation. In particular, the approach in the  legislative proposals may result in price increases for two reasons: (1) a  portion of insurers’ terrorism risk premiums would be shifted to a  segregated asset account that could only be used for potential terrorism  losses, and insurers might increase prices if, as a result, they needed to  raise additional capital to cover other insured losses; or (2) depending on  the size and timing of a terrorism event, some of the segregated assets  might be used to pay for some of or all the federal share of losses, so that  not all the premiums collected would necessarily be available to cover the  insurer’s own share of losses. Our analysis also indicated that designing a federal charge for terrorism  risk insurance to apply to a broad group of policyholders could mitigate  potential price increases. Requiring an Insurer Set- Aside for Terrorism Risk Could Hamper Risk Management, but Broadening the Use for Additional Purposes Could Help Mitigate These Effects Restrictions on Flexibility of Assets

Because restricting the use of assets could hamper risk management,  insurers likely would be more affected by the government requiring the  type of set-aside involving segregated assets for potential terrorism  losses than the other set-aside approaches. This could increase federal fiscal  exposure. Treasury and NAIC  provided technical comments, which we incorporated as appropriate. We incorporated  technical comments we received from these entities, as appropriate. Appendix I: Objectives, Scope, and Methodology

The objectives of our report were to examine (1) how insurers manage  their terrorism risk exposure and price terrorism risk insurance; (2) the  federal government’s recoupment requirements and how the federal  share of terrorism losses would be affected in different scenarios; (3) how  alternative funding approaches could be designed and implemented; and  (4) the potential effects of the approaches. Potential Effects

To assess the potential effects of recoupment of the federal share of  losses, a federal charge for terrorism risk insurance, and terrorism set- asides on policyholders, insurers, the federal government, state  regulators, and reinsurers, we interviewed market participants. These programs  illustrate a variety of approaches for pricing and managing federal  charges that could provide insight on how a charge for terrorism risk  insurance could be designed. Risk-based capital requirements. For example, a charge could be designed as  voluntary or mandatory. To the Extent That Losses Are Not Expected to Be Recouped, the Federal Government Provides an Economic Subsidy under TRIA

Under TRIA, the federal government initially shares responsibility for  some of the insured losses with private insurers in the event of a certified  terrorism event and may recoup all or some of its losses through  policyholder surcharges.
Why GAO Did This Study

After the terrorist attacks of September 11, 2001, insurers generally stopped covering terrorism risk because losses could be too high relative to the premiums they could charge. Congress enacted TRIA to share losses from a certified act of terrorism between insurers and the government, address market disruptions, and help ensure widespread availability and affordability of terrorism coverage. TRIA does not include an up-front federal charge for the government's share of potential losses. The act mandates that, when private industry's losses are below a certain amount, the federal government recoups some or all of the federal share of losses through policyholder surcharges.
The Terrorism Risk Insurance Program Reauthorization Act of 2015 includes a provision for GAO to review alternative funding approaches for TRIA. Among other things, this report examines (1) how insurers manage their terrorism exposure and federal recoupment of losses, (2) how alternative funding approaches could be designed and implemented, and (3) the potential effects of these approaches as well as the current structure. To assess these funding approaches, GAO reviewed related studies, analyzed several terrorism loss scenarios for each funding approach to estimate potential effects on market participants, and interviewed industry participants.
Treasury and NAIC provided technical comments on a draft of this report, which GAO incorporated as appropriate. GAO also incorporated technical comments received from selected third parties, as appropriate.

What GAO Found

Under the Terrorism Risk Insurance Act's (TRIA) current structure, insurers manage their terrorism exposure to cover their share of losses and not the federal share of losses, which may be recouped from policyholders after an event. Specifically, insurers do not assume the risk of the federal share of potential losses and, thus, do not consider the potential federal share of losses in how they manage their terrorism risk exposure and price coverage. Many insurers include a nominal charge for terrorism risk coverage, if they charge for it at all. Most insurers manage their exposure by limiting the amount of coverage they provide in certain geographic areas. Under the current structure, in some scenarios federal losses must be recouped through premium surcharges on policyholders with TRIA-eligible insurance coverage after a certified terrorism event. However, depending on the size of the terrorism event and the aggregate premiums of affected insurers, the federal government may not be required to recoup all of its losses. To date, no terrorism events have been certified under TRIA.
Designing and implementing alternatives to TRIA's current funding structure, such as a federal terrorism risk insurance charge or set-aside of insurer funds, would require trade-offs among various policy goals and involve complexities. For example,
Federal charge. A charge on insurers or policyholders could either (1) be a risk-based charge intended to help pay for the federal share of potential losses, replacing the current recoupment structure, or (2) be a charge, or fee, paid to the Treasury for the promise of payment of the federal share of loses with recoupment in place to cover the actual losses. A federal charge could help cover potential losses, but determining a price based on risk would be difficult.
Terrorism set-asides. An insurer set-aside to explicitly address terrorism exposure through liabilities, capital, or assets could be designed as (1) loss reserves for future terrorism losses, (2) separate or additional capital requirements for terrorism risk, or (3) separate assets that only could be used for terrorism losses. A set-aside of insurer funds could help cover insurers' potential losses but some approaches would be complex to implement due to implications related to current accounting practices and state laws.
TRIA's current recoupment structure and some alternative approaches could increase prices for policyholders and have various effects on market participants and the federal government. GAO's analysis indicated that the current structure and some alternative approaches could affect the price of coverage and policyholder decisions to purchase terrorism coverage. In addition, one set-aside approach could restrict the flexibility with which insurers can use assets (generally, for a variety of risks) and thus hamper risk management. Under each option, federal fiscal exposure exists. For example, a charge to cover the federal share of losses may be insufficient to cover losses in the near term. However, the design of an alternative approach can, in part, mitigate the magnitude of these effects. For example, lengthening recoupment time frames, charging a broad group of policyholders, or allowing flexibility in applying a set-aside could help mitigate the effects.