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September 5, 2002
Richard Lund, Senior Counsel
John Bauer, Associate Counsel
National Association of Insurance Commissioners
2301 McGee, Suite 800
Kansas City, MO 64108-2604
SENT VIA E-MAIL TO RLUND@NAIC.ORG AND JBAUER@NAIC.ORG
Dear Mr. Lund and Mr. Bauer:
During the Legal Issues Ad Hoc Group conference call of August 29,
2002, a question arose regarding the need for nuclear, biological,
and chemical terrorism exclusions in personal lines property
insurance policies, given the exclusions typically present in those
policies today (such as the pollution and nuclear hazard
exclusions). AAIS agreed to provide the NAIC with an analysis of how
it believes current exclusions will (or won't) apply to nuclear,
biological, or chemical events caused by terrorists.
For personal lines, a nuclear, biological, or chemical terrorist
event has the potential to be catastrophic in nature because of the
contamination that can occur, causing a massive number of homes to
be rendered uninhabitable and their contents to be unusable. Cases
such as Matzner v. Seaco Ins. Co., 1998 WL 5666658 (Mass.
Super. 1998), and Western Fire Ins. Co. v. First Presbyterian
Church, 437 P.2d 52 (Colo. 1968), have established legal
authority for finding that such contamination would be considered
physical loss which, absent appropriate exclusions, would be covered
by most contracts. In addition, a nuclear event has the potential to
cause fires over vast areas, destroying homes as well as businesses.
As the NAIC is aware, personal lines policies provide property
coverage on either a named peril basis or an open perils basis. With
named perils coverage, loss must be caused by a peril that is
described in the form in order for coverage to apply. With open
perils coverage, risks not specifically excluded in the form are
covered. In both named perils and open perils forms, coverage is
typically subject to certain general exclusions.
One of the general exclusions contained in the personal lines forms
developed by AAIS is an exclusion for wear and tear. This exclusion
specifically bars coverage for loss that results from contamination.
However, it must be noted that the context of the wear and tear
exclusion is to exclude coverage for gradual damage that occurs over
a period of time. Therefore, AAIS believes that the wear and tear
exclusion would not usually be interpreted to apply to contamination
that arose from a sudden and accidental event that was otherwise
covered by the form.
Standard industry personal lines
forms, including those developed by AAIS, contain two general
exclusions that also need to be considered with respect to nuclear,
biological, or chemical events caused by terrorists. The first of
these is the exclusion that applies to loss resulting from war.
Based on current case law, standard personal lines war exclusions
generally don't apply to acts of terrorism, as past courts
have determined that war exclusions apply only to armed conflict
between our country and another sovereign nation, government, or
similar authority. So, unless it can be proven that a terrorist
acted under the direction of a sovereign nation, government, or
similar authority, loss resulting from the terrorist's act(s) would
not be reached by typical war exclusions.
The second general exclusion to be considered is the one that
applies to loss resulting from nuclear hazard. This exclusion would
apply to loss consisting of contamination that resulted from a
nuclear event caused by a terrorist. However, it would not
apply to loss caused by fire that ensued from that event, as unlike
war exclusions, it is typical for nuclear hazard exclusions to
contain exceptions for direct loss by fire. In addition, the nuclear
hazard exclusion would not apply to loss that resulted from
an event that involved biological or chemical materials.
Both named perils and open perils forms have other exclusions that
are in addition to their general exclusions. One such exclusion is
the pollution exclusion that is typically found in open perils
forms. Pollution exclusions typically bar coverage for loss caused
by the release, discharge, dispersal, seepage, migration, or escape
of pollutants. However, these exclusions usually don't apply
when the release, etc. of the pollutant is caused by a covered named
peril (usually a 'broad form' peril).
As stated earlier, in order for coverage to apply under named perils
coverage, loss must be caused by a peril that is described in the
form. Standard forms do not describe contamination from biological
or chemical materials as a named peril. However, they do contain a
number of named perils that could possibly be deemed the proximate
cause of loss with respect to a terrorist event.
Depending upon how a terrorist event is executed, named perils that
have the potential to be judged the proximate cause of loss include
explosion, aircraft, vehicles, and perhaps smoke, all of which are
covered by the vast majority of personal lines policies. In standard
forms, these perils are either not qualified by language that limits
their scope or the language that limits the scope of these perils is
not pertinent to the type of loss that would be caused by a
terrorist. (For example, the peril of vehicles typically excludes
coverage for loss to fences, driveways, and walks caused by a
vehicle owned or operated by an occupant of the premises. This
limitation would have no bearing on catastrophic loss caused by a
terrorist using a vehicle as the method by which he or she carries
out his or her act.)
The most notable named peril that could be deemed the proximate
cause of loss in a terrorist event is the peril of vandalism, which
is also covered by the vast majority of personal lines policies.
Given the common meaning of the term and the standard followed by
the majority of modern courts in establishing motive and intent, it
is not outside the realm of possibility that loss resulting from
biological or chemical events caused by terrorists could be
considered vandalism.
Thus, whether one is examining the coverage specifically granted by
named perils forms or the exclusions present in open perils forms,
it is conceivable that both named perils and open perils forms could
be deemed to provide coverage for contamination that results from a
biological or chemical event caused by a terrorist. Furthermore,
there is no question that standard named perils and open perils
forms will provide coverage for loss, including additional living
expense, caused by fire that ensues from a nuclear event caused by a
terrorist.
Our final observation is with respect to the relatively recent use
by some insurers of endorsements that exclude or limit coverage for
loss caused by or consisting of fungi, including mold, that results
from a covered peril. We hesitate to say that there's an industry
standard for addressing the mold exposure, and AAIS has no way of
knowing the extent to which insurers are attaching 'mold' exclusion
or limitation endorsements to their policies. (However, based upon
inquiries on the subject received from our affiliated companies, it
appears to be more the exception than the rule.) We can observe,
however, that mold exclusion and limitation endorsements developed
by AAIS and others also exclude or limit coverage for loss caused by
or consisting of bacteria. Given this fact, it is possible that
companies using such endorsements may attempt to exclude or limit
coverage for contamination caused by a terrorist's use of bacteria.
It will be up to courts to determine whether or not those exclusions
or limitations can be applied.
It is our hope that the observations made in this letter demonstrate
to the NAIC that the insurance industry cannot rule out the
possibility of catastrophic loss with respect to personal lines
exposures in the event of a nuclear, biological, or chemical
terrorist action. As promised during last week's conference call, we
are in the midst of surveying our affiliates and others to determine
the extent to which reinsurance will be available to them to absorb
such loss. We hope to be able to provide the NAIC with our findings
by the end of next week.
If you have any questions regarding the information provided in this
letter, please don't hesitate to contact me.
Sincerely,
Susan Luecke
Director of Personal Lines
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