Bankers End Up Plugging Terrorism Insurance Gap

Despite difficulty in obtaining terrorism insurance for high-rise buildings, real estate developers are continuing to secure bank financing for deals based in large part on a hope and a handshake, according to mortgage brokers.

The methods outlined by Scott A. Singer, executive vice president of Singer & Bassuk Organization in New York, generally involved a promise to seek insurance and a bet that Congress will eventually provide a federal guarantee to backstop terrorism insurance providers.

Mr. Singer said that terrorism insurance is a particular issue for real estate purchasers seeking loans exceeding $50 million. “Those loans get a lot more scrutiny from underwriters,” he noted.

Part of the reason for the scrutiny, he explained, is that such large individual loans are put together in a pool to create a mortgage-backed security. Such pools generally run from $500 million to $1 billion in size, so individual loans that can account for 5-to-10 percent of the aggregate amount get close examination, he said.

“Even for lenders not securitizing their loans, large loans get more scrutiny,” he said, explaining that with such “high-profile assets, its much more difficult to ignore the [terrorism] problem.”

For smaller amounts, he said, some lenders are making loans “without explicitly dealing with the terrorism insurance question.”

At this, point, Mr. Singer related, “Ive seen a very small percentage of lenders say they wont underwrite new deals until the terrorism question has a resolution. Many more are saying there needs to be a resolution, and we are going to continue along with our deal process based on the idea there will be a resolution–its really the hope there will be a resolution prior to closing.”

Mr. Singer said several lenders had told him that they are closing the loan with language in their agreements that states they are requiring the borrower to get terrorism insurance if it is available at a commercially reasonable rate, or they require borrowers to make reasonable efforts to secure terrorism insurance.

Much of whats involved in such arrangements is past history between lenders and borrowers, “Theres a reliance on their relationship,” he said.

There is, he noted, the possibility of such arrangements leading to a court dispute. “If you have agreed on a commercially reasonable standard, and the [insurance] cost is now 300 percent higher, is that reasonable or not?” he said.

A lender might expect the borrower to get the coverage at that price, while the borrower might argue that it is unreasonable, Mr. Singer said.

One of the sources currently available for terrorism insurance is the Berkshire Hathaway Group. Ajit Jain, president of the Omaha, Neb.-based companys reinsurance division in New Haven, Conn., said that the company has no off-the-shelf product available to provide coverage. However, Mr. Jain said the company will sit with a client and see what sort of “custom design” insurance can be arranged. Since Sept. 11, he said the number of such transactions has been “in the low dozens.”

Arrangements for terrorism insurance depend on “the building and the pricing,” he explained. He said Berkshire Hathaway has provided coverage with “limits that go into several hundred million dollars.”

While it is known that his company is available to provide such coverage, Bershire Hathaway has taken a passive approach toward such business. “We dont broadcast it,” he said.

John Mechanic, a real estate attorney in New York with the international firm of Fried, Frank, Harris, Shriver & Jacobson, said some real estate entrepreneurs are getting coverage by rolling the new property into their existing portfolios.

Mr. Mechanic said the issue was a sensitive one with developers trying to put together deals, and he could not mention specific clients even vaguely because with the biggest transactions it was easy for those in the business to read between the lines.

Some large deals have closed since Sept. 11, he noted, and in those cases, he suggested the developers operated by using an existing policy, “self-insuring or getting a lending source.”

Mr. Singer said that in the first instance, a lender is generally expected to obtain coverage for a year, but going forward over the course of a 10-year loan, some banks are using language that could essentially make them the carrier.

He said he recently held a discussion with a lender who said that they were negotiating terms where a borrowers insurance cost would be limited to a certain multiple of their initial premium.

“Assuming the borrower can get insurance, when the policy comes up for renewal if the cost is more than 'X' times the current cost, in that case the borrower is not obligated to purchase the coverage and the lender is at risk,” Mr. Singer said.

“Its a policy,” he noted “that takes the fear of litigation away. The downside is in absence of a resolution that keeps the cost low, it essentially puts the lenders in the terrorism insurance business by default in the future.”

His comments dovetailed with those of Dean OHare, chief executive officer of Chubb Insurance in Warren, N.J., who said last week in a discussion with analysts that “terrorism insurance is now being provided by the banking industry. Its not a good situation.”

Reproduced from National Underwriter Property & Casualty/Risk & Benefits Management Edition, February 18, 2002. Copyright 2002 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.

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Bankers End Up Plugging Terrorism Insurance Gap

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