Crypto-risk leads to an increase in insurance exclusions
As the crypto market crashes, some insurers are stepping up efforts to exclude coverage for crypto-related risks under a variety of insurance policies.
But because crypto is still new, insurance companies have a hard time defining and pricing the risk. The lack of a clear regulatory framework also makes it challenging to unequivocally exclude crypto-risk from businesses’ insurance policies, which could potentially lead to losses for insurance companies, according to insurance lawyers, brokers and directors.
At the other end of the spectrum, insurance companies are swimming in the regulations.
“When it comes to crypto and cryptocurrencies, the insurance industry is very conservative and highly regulated,” said Mirjam Bamberger, an executive from AXA Europe.
Nicholas Pappas, an attorney at Reed Smith who represents policyholders, said he has seen crypto-related exclusions in businesses’ cyber, crime, property and general liability policies this year.
“Insurers put in a lot of cryptocurrency or digital asset exclusions, and they’re pretty broad,” Pappas said.
Avoid losses
Carriers want to avoid the huge losses and messy warranties they had with cyber insurance when they jumped in too quickly to sell policies without adequate understanding of new risks. Cyber insurers have experienced a 300% increase in losses since 2018, according to Fitch Ratings.
Consequently, cyber insurers have little appetite to cover crypto. All cyber policy renewals this year “will have a blanket crypto exclusion across the board,” said Luke Speight, director of digital assets at insurance broker Willis Towers Watson.
Some other insurance companies, even while acknowledging the lucrative crypto market’s huge demand for insurance, are letting go of the ability to sell coverage.
“We’ve seen insurers put blanket crypto exclusions on non-crypto companies’ policies,” James Knox, a regional head of the broker’s technology practice
Some insurers also get crypto exclusions in their deals with reinsurers, which provide insurance to carriers, so there’s little they can do about it, said Jackie Quintal, managing director of insurance broker Marsh McLennan.
Unregulated risk, vague guidelines
Crypto is largely unregulated in the US, and most insurance policies do not address or exclude crypto-related risks.
But Louisa Weix, a partner at TittmannWeix who advises insurance companies, said she has seen crime insurers add “virtual currency and digital asset” exclusions to avoid having to cover cryptocurrency hacks and theft.
Meanwhile, there is uncertainty over how to designate cryptocurrency, a topic that has been the subject of some notable decisions by courts and federal agencies.
“There is a lack of understanding of what crypto is. Is it a digital asset, security, commodity, investment, property, or is it a scam?” said Edin Imsirovic, assistant director of AM Best, a credit rating agency for insurance companies.
In 2014, the IRS said that “virtual currency” will be taxed as “property”, not currency. In 2018, an Ohio court ruled that $16,000 of lost bitcoin is property covered by homeowner’s insurance. And in 2020, courts in Singapore, Great Britain and New Zealand, among others, ruled that cryptocurrency is “property”.
The Securities and Exchange Commission, in turn, charged Ripple Labs and its executives in 2020 with allegedly raising more than $1.3 billion through an unregistered offering of digital securities. The lawsuit, which is pending in New York, focuses on whether Ripple’s token – XRP – is a security under federal law.
Whether digital assets are securities is a key factor for companies in determining whether they can get D&O coverage, which protects against lawsuits and investigations involving securities, said Geoff Fehling, a partner at Hunton Andrews Kurth who represents policyholders.
Vague D&O policies covering crypto could create enormous exposure for insurers, Weix said, because ambiguities in insurance law tend to favor the insured.
If cryptocurrency is found to be a covered asset under D&O, more carriers may begin adding cryptocurrency-specific exclusions to clarify that they only cover traditional securities claims, Fehling said. Insurers can also rely on cyber exclusions to deny coverage, depending on the specifics of policy language and claims, he noted.
Still, companies shouldn’t feel discouraged about seeking crypto-related coverage under otherwise typical business policies, Fehling said.
“There is nothing unique in crypto that precludes coverage under traditional policies” such as D&O coverage for the SEC, the Financial Industry Regulatory Authority or the Justice Department’s investigations of crypto executives, he said. A subpoena to a crypto company or executive can trigger D&O coverage before they receive an indictment, complaint or notice of an SEC probe.
Questions about crypto coverage began to emerge over the past five years. But most have settled before going to trial, in part because insurers want to avoid setting adverse legal precedents, said Orrie Levy, a partner at Cohen Ziffer who works with policyholders.
Damage to the crypto market
Sarah Downey, a blockchain advisory manager at broker Lockton Companies, said few insurers are drafting crypto exclusions across the board. Instead, most traditional carriers that cover crypto-related risk manage their exposure by drafting more expensive policies with smaller coverage amounts and high deductibles, she said.
D&O policies that offer crypto coverage typically exclude regulatory claims, theft of digital assets and initial coin offerings, Downey said.
Joseph Ziolkowski, chief executive of Bermuda-based Relm Insurance Ltd., said a regulatory exclusion “erodes the value of the D&O policy almost completely.” Relm’s D&O policies specify which crypto business risks are covered rather than excluding all regulatory requirements, he said.
At the end of the day, demand for crypto insurance is strong, but “the supply is incredibly limited,” said Jared Gdanski of Evertas, a Chicago-based crypto insurer authorized by Lloyd’s of London.
“The lack of insurance is objectively hurting the crypto markets,” Gdanski said. “We are aware of significant deals that never went through because people couldn’t get insurance.”
Bamberger, the AXA Europe chief, said insurers are also considering whether local regulations allow crypto activity.
Still, she said, “if a bank has part of the assets in Cyrpto, there’s nothing we’re insuring.”
