WASHINGTON (Reuters) — The Treasury Department is studying how it could give relief to insurance companies under a $700 billion financial services rescue package, two sources familiar with the deliberations said.

A Bloomberg report suggested that the Government might even buy stakes in troubled US insurance companies.

The Troubled Asset Relief Programme (TARP) established by Congress earlier this month has been viewed primarily as a means to recapitalise banks and take bad assets off their books to help support creaking credit markets.

Several Bermuda insurers that do most of their business in the US have been badly hit by the credit crisis, most notably financial guaranty companies, such as Syncora Holdings (formerly known as Security Capital Assurance) and CIFG. Additionally, the investment portfolios of most of the Island's major insurers and reinsurers have also been eroded.

Whether Bermuda-based companies, or their US subsidiaries, would be able to benefit from the TARP remains unknown.

Last week, the Treasury tried to squash rumours the government was preparing to give bond and mortgage insurance companies a capital injection. But senior officials are considering how the Treasury might be able to aid state-regulated insurance companies, the sources said.

The Treasury so far has used capital powers to aid only federally regulated institutions. But the TARP could be used to buy sour assets from other financial companies and help them scrub their balance sheets.

While there is no federal regulator for the insurance industry, which is regulated by states, some companies may qualify for aid because their parent holding companies operate under a federal charter. The Treasury Department has assigned a team to examine how it might deliver aid to the industry in a way that does not hit regulatory tripwires, the sources said. The KBW Insurance index turned positive late on Friday after Reuters reported the Treasury thinking. Life and mortgage insurers led the rise as shares of Hartford Financial Group jumped 16 percent and Genworth Financial rose more than 11 percent.

MBIA Inc, the largest US bond insurer, and its No. 2 rival, Ambac Financial Group Inc, met with regulators earlier this week to push for a way to tap into the government's bailout plan.

New York Insurance Superintendent Eric Dinallo, the main regulator for MBIA, and Wisconsin Insurance Commissioner Sean Dilweg, Ambac's primary regulator, convened in New York to discuss the matter with the firms.