Business Interruption Insurance in a Post-Coronavirus World

COVID-19 has taken an enormous toll on the U.S. economy, with 33 million unemployment claims, plunging equity markets, and hundreds of thousands of closed businesses. While its impact on the insurance industry could also be significant, the extent of this impact is yet unknown.

Certain niche segments of the insurance industry, such as travel and event cancellation insurance, will face large losses in 2020. But standard business insurance may not compensate businesses for the lost revenues that they incur as a result of COVID-19. This is due to two clauses in the business interruption (BI) section of standard Commercial Property insurance policies:

• A requirement that any loss must result from “physical damage,” such as a fire or hurricane

• A common exclusion for viral outbreaks that has been used by insurers since the SARS epidemic of 2002–2003

These contractual obstacles have not stopped businesses from litigating the denials of coverage they received over their business interruption claims. Several states have even introduced bills forcing insurers to provide retroactive coverage for business interruption resulting from a pandemic, even if insurers excluded it when they issued the policy.

In response to these events, House Financial Services Chair Maxine Waters introduced a discussion draft of the Pandemic Risk Insurance Act (PRIA) on April 3, 2020. This draft bill would effectively shift the financial burden of BI claims in a major pandemic to the federal government. Its structure is modeled after the Terrorism Risk and Insurance Act (TRIA), the 2002 bill that resuscitated the insurance market for terrorism after the 9/11 attacks. However, PRIA is different from the TRIA legislation in several key ways:

• PRIA is voluntary, whereas TRIA is mandatory for insurers.

• PRIA is bigger, providing a $500 billion backstop compared to the $100 billion in TRIA.

• PRIA is more favorable to the insurance industry, proposing 95% assumed by the U.S. government compared to 80% in the current form of TRIA. Additionally, PRIA has a lower insurer deductible (5% of premiums) than TRIA (20%).

• Most importantly, TRIA was passed in response to a $45 billion insurance industry loss from the September 11, 2001 attacks and the subsequent widespread refusal to write terrorism coverage. It’s not clear whether the industry loss from COVID-19 will be as large or whether any capacity shortage will occur as a result.

In insurance terms, the coronavirus likely represents a large protection gap, in which insurance covers very little of a large economic loss. Protection gaps are common in undeveloped countries (where insurance penetration is low) as well as in very high-risk lines of business such as residential earthquake insurance. However, it’s unusual for such a gap to occur with typical business insurance policies.

To stay relevant, the insurance industry must address this protection gap, creating products that address indemnity needs in the event of a public health crisis. Insurers that can offer new business-interruption coverages for future pandemics will succeed in both fulfilling market needs and creating new sources of growth for the P&C industry.

Achieving this innovation won’t be easy. There is scant historical data available to support a robust quantitative understanding of this emerging peril. Moreover, pandemic catastrophe modeling has received little industry attention compared to the hurricane, flood, and earthquake modeling that every property insurer performs on a near-daily basis.

But the industry is ready to take on this challenge. Past innovations can serve as an excellent starting point, such as mortality bonds that provide pandemic protection, as well as customized property coverages with broad communicable disease coverage. With the computational power of the cloud and powerful data and analytics at its command, the P&C insurance industry can stay relevant by addressing this new peril of global importance.