The legal frameworki Sources of insurance law and regulation
The regulation of insurance in the US is primarily performed by the states. In 1945, the US Congress passed the McCarran-Ferguson Act, which provides that ‘No Act of Congress shall be construed to invalidate, impair, or supersede any law enacted by any State for the purpose of regulating the business of insurance . . . unless such Act specifically relates to the business of insurance.’ Under the McCarran-Ferguson Act, federal law preempts state insurance law only if it specifically relates to ‘the business of insurance’.
The law of insurance in the US generally falls into one of two broad categories: (1) the regulation of entities that participate in the business of insurance; and (2) the regulation of the policyholder–insurer relationship. State law pertaining to the regulation of entities is generally comprised of statutes enacted by state legislatures and administrative regulations issued by state agencies, such as departments of insurance.
Each state also has statutory and common law applicable to the policyholder–insurer relationship. State statutes address a range of topics, including, among others, the disclosure obligations of the parties to an insurance contract, the nature of a policyholder’s notice obligations and the circumstances in which a victim of tortious conduct may sue a tortfeasor’s insurer directly. State common law is an important source of law for resolving disputes between policyholder and insurer. Practitioners must carefully assess potentially applicable law at the outset of a dispute, as insurance law (whether common law or statutory) varies by jurisdiction.ii Insurable risk
In the US, the validity of an insurance contract ordinarily is premised on the existence of an insurable interest in the subject of the contract. An insurable interest may be defined as any lawful and substantial economic interest in the safety or preservation of the subject of the insurance free from loss, destruction or pecuniary damage. The insurable interest doctrine was first adopted by courts and has since been codified in state statutes. The purpose of the insurable interest requirement, as articulated by courts and commentators, is to discourage wagering and the destruction of life and property and avoid economic waste.iii Fora and dispute resolution mechanicsLitigation of insurance disputes
The US judicial system is comprised of two separate court systems. The US itself has a system comprised of federal courts and each of the 50 states has its own system comprised of state courts. Although there are important differences between federal and state courts, they share some key characteristics. Each judicial system has trial courts in which cases are originally filed and tried, a smaller number of intermediate appellate courts that hear appeals from the trial courts and a single appellate court of final review.
Unlike state courts, which include courts of general jurisdiction that can address most kinds of cases, federal courts principally have jurisdiction over two types of civil cases. First, federal courts may hear cases arising out of the US Constitution, federal laws or treaties. Second, federal courts may address cases that fall under the federal ‘diversity’ statute, which generally authorises courts to hear controversies between citizens of different US states and controversies between citizens of the US and citizens of a foreign state. For diversity jurisdiction to exist, there must be ‘complete’ diversity between litigants (i.e., no plaintiff shares a state of citizenship with any defendant) and the ‘amount in controversy’ must exceed US$75,000.
Most insurance disputes are litigated in the first instance in federal or state trial courts. Federal courts commonly exercise jurisdiction over insurance disputes under the diversity statute. In this context, an insurance company, like any other corporation, is deemed to be a citizen of both the state in which it is incorporated and the state in which it has its principal place of business.
An insurance action that is originally filed in state court may be ‘removed’ to federal court based on diversity of citizenship of the litigants. In the absence of diversity of citizenship or some other basis of federal court jurisdiction, insurance disputes are litigated in state courts. The venue is typically determined by the place of injury or residence of the parties, or may be dictated by a forum selection clause in the governing insurance contract. The law applied to the dispute may likewise be dictated by a choice-of-law clause in the insurance contract or, in the absence of such a clause, determined by a court based on relevant choice-of-law principles.Arbitration of insurance disputes
Some insurance contracts contain arbitration clauses, which are usually strictly enforced. The Federal Arbitration Act (FAA) and similar state statutes empower courts to enforce arbitration agreements by compelling the parties to arbitrate. If an insurance contract contains a broadly worded arbitration clause, virtually every dispute related to or arising out of the contract typically may be resolved by arbitrators rather than a court of law.
While all US states recognise the validity and enforceability of arbitration agreements in general, some states have made a statutory exception for arbitration clauses in insurance contracts. Complex legal issues may arise when an insurance contract obligates parties to arbitrate but applicable state statutory law prohibits the arbitration of insurance-related disputes. Although state laws that prohibit arbitration are generally preempted by the FAA, by virtue of the Supremacy Clause in the US Constitution, state anti-insurance arbitration statutes may be saved from preemption by the McCarran-Ferguson Act. As noted, the McCarran-Ferguson Act provides that state laws enacted ‘for the purpose of regulating the business of insurance’ do not yield to conflicting federal statutes unless a federal statute specifically relates to the business of insurance. Because the FAA does not specifically relate to insurance, courts have held that the FAA may be ‘reverse preempted’ by a state anti-insurance arbitration statute if the state statute has the purpose of regulating the business of insurance. As discussed in Section IV, courts are split regarding whether the Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the New York Convention), an international treaty that mandates the enforcement of arbitration agreements, may be reverse preempted pursuant to the McCarran-Ferguson Act.
Where an insurance dispute is resolved through arbitration, the resulting award is generally considered to be binding, although there are grounds to vacate or modify an award under the FAA, similar state statutes and the New York Convention. The FAA describes four limited circumstances in which an arbitration award may be vacated by a court: (1) where the award was procured by corruption, fraud or undue means; (2) where there was evident partiality or corruption in the arbitrators; (3) where the arbitrators were guilty of misconduct in refusing to postpone the hearing, upon sufficient cause shown or in refusing to hear evidence pertinent and material to the controversy; or if by any other misbehaviour the rights of any party have been prejudiced; or (4) where the arbitrators exceeded their powers or so imperfectly executed them that a mutual, final and definite award upon the subject matter submitted was not made. One area of legal uncertainty is whether a court may vacate an award based on an arbitrator’s ‘manifest disregard’ of the law. Although the manifest disregard standard is not listed in the FAA, some courts have ruled that an award may be vacated on this basis.