Congress’ new version of the Terrorism Risk Insurance Program Reauthorization Act (TRIPRA), which provides federal reinsurance for large-scale insurance claims stemming from terrorism, may contain scaled-back coverage, warned Standard & Poor’s in a report today.

A bipartisan group of senators announced a deal on April 11 to reauthorize and extend the country's terrorism risk insurance program, which is expected to be taken up by the Banking Committee in coming weeks.

Although S&P believes that Congress will renew the insurance, there is a risk that if scaled back too much, TRIPRA would still create credit and liquidity issues for CMBS in the same way that letting the policy lapse would. “Either could cause a property's insurance premium to jump, leading to declines in property net operating income and value,” said S&P analysts in the report. 

A lapse in policy or scaling back coverage would potentially shrink a CMBS loan's underlying collateral value and trigger a negative credit event.

S&P is also concerned that the master servicer, who ensures that the borrower adheres to the insurance provisions in the loan documents, may decide to force-place the insurance for borrowers that fail to maintain terrorism coverage. Force-placed insurance is intended to ensure that the property remains insured. This insurance allow the lender to protect its financial interest in the property.

The expenses resulting from force-placed insurance could reduce the amount of available distributable interest, which would cause liquidity interruptions and interest shortfalls in CMBS trusts.This happened after the attacks of 9/11, when lenders force-placed insurance to protect their interest in the loan collateral. “Various CMBS trusts incurred legal expenses as they enforced the lenders' rights that the borrowers provide an appropriate level of terrorism insurance,” said S&P analysts in the report.  

Another concern the ratings agency has is how a change in policy might impact CMBS issuance volumes. In 2002 CMBS volumes dropped by almost 25% from 2001 levels.  Once the Terrorism Risk Insurance Act (TRIA) was enacted into law in November 2002, CMBS issuance resurged by 50%.

State regulators of large urban areas, including New York, require insurers to offer terrorism coverage within standard commercial property policy forms irrespective of TRIPRA's reauthorization. Below is a chart of the states that require terrorism insurance.

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