An extract from The Insurance and Reinsurance Law Review, 8th Edition
Insurance and reinsurance lawi Sources of law
The basis of insurance law lies in the general law of contract. Until August 2016, the most significant legislative provision in relation to commercial insurance was the Marine Insurance Act 1906 (MIA), which codified the case law as it existed at the time. In August 2016, however, the Insurance Act 2015 (IA15) came into force. This introduced the most significant changes to English commercial insurance law in over 100 years and swept away central provisions of the MIA (though parts of the MIA remain in force). IA15 applies to contracts and variations of contracts entered into on or after 12 August 2016. Most provisions of the MIA and IA15 apply equally to marine and non-marine insurance, and to reinsurance. Other relevant legislation includes the FSMA, which regulates financial services (including insurance), the Life Assurance Act 1774 (LAA) and, in relation to consumer insurance, the Consumer Insurance (Disclosure and Representations) Act 2012.ii Making the contractEssential ingredients of an insurance contract
Under English law, an insurance contract is an agreement by the insurer to provide, in exchange for a premium, agreed-upon benefits to a beneficiary of the contract upon the occurrence of a specified uncertain or contingent future event, affecting the life or property of the insured.
The distinguishing features of a contract of insurance are the transfer of risk and the requirement for an insurable interest. These are considered in more detail below.The transfer of risk when the uncertain event occurs
The contract must be such that, when the insured-against event occurs, the insurer responds by bearing all or part of the risk. Often, this response will mean that the insurer pays money to the insured. However, the contract may require the insurer to provide benefits in kind, rather than a monetary payment, such as the reinstatement of property damage, the cost of a hire car while the insured vehicle is repaired or the restoration of a computer network. A Supreme Court decision in 2013 established that the insurer may offer services of one kind or another, such as the repair or replacement of satellite television equipment.
The insured-against event must be uncertain in its occurrence. This uncertainty is tested at the time that the contract is concluded. The element of uncertainty may relate to whether the event will occur at all (e.g., a house fire), how often or to what extent the event will occur (e.g., damage to taxis) or when a certain event might occur (e.g., death).The requirement of insurable interest
There is no all-embracing definition of insurable interest. In practice, the requirement has generally been taken to mean that the insured must have a legal or equitable relationship to the adventure or property at risk, and would benefit from its safety or may be prejudiced by its loss. This can be an issue in particular in relation to complex forms of insurance-backed financial instruments.
Historically, indemnity policies have required the insured to have an insurable interest in the subject matter and policies without such an interest were seen as unenforceable (and deemed to be gambling contracts). The LAA and the Gaming Act 1845 created the obligation for insurable interest in non-marine indemnity insurance, and the MIA made insurable interest a necessity in marine insurance.
Uncertainty regarding the requirement for insurable interest was, however, introduced by the Gambling Act 2005. Under the terms of this Act, gaming or wagering contracts are now enforceable. This arguably removes the requirement for an insurable interest in non-marine indemnity insurance in English law. There is some debate, however, over whether the Gambling Act 2005 has abolished the need for insurable interest in marine insurance. Modern case law suggests that the courts will lean in favour of finding insurable interest where possible. It is obviously unattractive for insurers to take the premium and then deny the existence of an insurable interest. As noted by the Law Commission of England and Wales, 'the courts would make every effort to find an insurable interest where both parties have willingly entered into the contract'.
The Law Commissions of England and Wales and of Scotland (the Commissions) have been undertaking a review of the law of insurance contracts. In April 2016, the Commissions published a draft Insurable Interest Bill, which was designed to address concerns that the current law is unclear in some respects and antiquated in others. Following consultation on the draft Bill, however, the Commissions concluded that there was little demand for amendment of the law outside the area of life insurance and related products. Accordingly, an amended draft Bill limited to these classes was published in June 2018 and the Commissions are currently considering responses to this latest draft.Utmost good faith
Unlike other commercial contracts, insurance contracts are contracts of utmost good faith, which imposes an obligation of 'the most perfect frankness' on the parties. For contracts entered into before 12 August 2016, the statutory basis for this obligation is set out in Section 17 MIA, which provides that '[A] contract of marine insurance is a contract based on the utmost good faith, and, if the utmost good faith be not observed by either party, the contract may be avoided by the other party.' This imposes an onerous duty on the party seeking insurance cover to disclose, before the contract is entered into, all material facts pertaining to the risk of which it is, or ought to be, aware, and to avoid misrepresenting any of the material facts.
Under the MIA a similar duty is imposed on the insured's placing broker.
Material facts are judged objectively, and are defined as those that would be likely to influence the judgement of a hypothetical prudent insurer in determining whether and on what terms to accept the risk, and in fixing the level of premium. In this regard, it is not necessary that a prudent insurer would have refused the risk, or even charged a higher premium, but enough to show that it would have liked the opportunity to consider the position. In the event of a material misrepresentation or non-disclosure, the insurer is entitled to avoid the contract from inception if it can demonstrate that the individual underwriter to whom the misrepresentation or non-disclosure was made was induced by that misrepresentation or non-disclosure to write the contract on the terms that he or she did.
Following a lengthy review of British commercial insurance law by the Commissions, IA15 was passed in 2015 and came into effect on 12 August 2016. IA15 retains the name and concept of the duty of utmost good faith and amends Section 17 MIA to provide that 'a contract of marine insurance is a contract based upon the utmost good faith.' It introduces, however, a number of changes to the insured's pre-contractual duty. IA15:
- replaces the pre-contractual duty of disclosure and non-misrepresentation with a 'duty of fair presentation', whereby the insured is required to disclose all material circumstances about the risk or give the insurer sufficient information to put it on notice that it needs to make further enquiries for the purpose of revealing all the material circumstances about the risk. This puts a greater emphasis on the insurer to ask questions about the risk and to make clear what information it requires;
- replaces the single remedy of avoidance for breach of the duty with a system of graduated remedies based on what the insurer would have done had it received a fair presentation; and
- requires the insured to carry out a 'reasonable search' prior to the placement for material information available to it within its own organisation and 'held by any other person'.
Consumer insurance has already been the subject of similar reforms, as enacted by the Consumer Insurance (Disclosure and Representations) Act 2012.Recording the contract
Insurance contracts are usually evidenced by a written policy, and Section 22 MIA and Section 2 LAA require a written policy. The London Market has also introduced the Market Reform Contract, a standard form that aims to increase contractual certainty and that is widely used in practice.iii Interpreting the contractGeneral rules of interpretation
Insurance and reinsurance contracts are subject to the same general principles of construction that apply to other commercial contracts. The guiding principles are as follows.
Interpretation is the ascertainment of the meaning that a document will convey to a reasonable person having all the background knowledge that would reasonably have been available to the parties in the situation in which they were at the time of the contract.
The background knowledge has been referred to as the 'matrix of fact'. It includes anything that would have affected the way in which the language of the document would have been understood by a reasonable person. This is subject to two points: first, that the background knowledge should have been reasonably available to all the parties; and second, that the law excludes from the admissible background the previous negotiations of the parties and their declarations of subjective intent.
The meaning that a document would convey to a reasonable person is not the same thing as the meaning of its words. The meaning of words is a matter of dictionaries and grammar; the meaning of the document is what the parties using those words against the relevant background would reasonably have been understood to mean.
The rule that words should be given their natural and ordinary meaning reflects the common-sense proposition that it is not easy to accept that people have made linguistic mistakes, particularly in formal documents. However, if it could nevertheless be concluded from the background that something must have gone wrong with the language, the law does not require judges to attribute to the parties an intention that they plainly could not have had.Incorporation of terms
Reinsurance contracts often contain general words such as 'all terms, clauses and conditions as original' or 'as underlying'. Such general words are not necessarily sufficient to incorporate a term from the insurance contract into the reinsurance contract. In HIH Casualty & General Insurance Ltd v. New Hampshire Insurance Co, the court held that a term will be incorporated only if it:
- is germane to the reinsurance, rather than being merely collateral to it;
- makes sense, subject to permissible manipulation, in the context of the reinsurance;
- is consistent with the express terms of the reinsurance; and
- is apposite for inclusion in the reinsurance.
By way of example, arbitration clauses, jurisdiction clauses and choice of law clauses are unlikely to be incorporated from an insurance contract into a reinsurance contract because they are not considered germane to the reinsurance. These provisions should, therefore, be dealt with specifically in the reinsurance contract. Similar principles apply to attempts to incorporate wording into excess layer contracts from the primary layer insurance.Types of term in insurance and reinsurance contracts
Terms in insurance and reinsurance contracts may be divided into three broad categories: conditions, conditions precedent and warranties. Of these, the latter two require some comment.Conditions precedent
There is more than one possible type of condition precedent in an insurance or reinsurance contract. A term can be a condition precedent to the existence of a binding contract, the inception of the risk, or the insurer's or reinsurer's liability. This is a matter of the wording of the particular clause. Whatever the type of condition precedent, there is no need for an insurer or reinsurer to prove it has suffered any prejudice before it can rely on a breach of the term.
A condition precedent to the contract must be satisfied, otherwise the contract will not come into being. A condition precedent to the inception of the risk presupposes a valid contract but one where the risk does not attach until the condition precedent has been met. A condition precedent to the contract or to the risk may, for example, relate to the provision of further information by the insured or reinsured or payment of the premium. Both types (in the absence of any specific wording) mean that the insurer or reinsurer cannot be liable for any loss that predates the fulfilment of the condition precedent.
A condition precedent to the insurer's or reinsurer's liability usually means that the insurer or reinsurer will not be liable for a claim unless the condition precedent is satisfied but the contract will generally continue in force. These conditions precedent are often concerned with the claims process. For example, the time period within which notification of a claim must be given is often expressed as a condition precedent to the insurer's or reinsurer's liability (as to which, see below).
The effect of a condition precedent to liability has been altered by Section 11 IA15. Under Section 11, if the condition precedent is, on its proper construction, one that would tend to reduce the risk of loss of a particular kind, at a particular location or at a particular time, insurers cannot rely on the insured's breach of the condition precedent to deny a claim if the insured can show that its breach could not have increased the risk of the loss that actually happened in the circumstances in which it occurred. The only exception to this is in relation to terms that 'define the risk as a whole' (e.g., a term that defines the age, identity and qualifications of the owner or operator of a vehicle, aircraft, vessel or item of personal property).Warranties
An insurance warranty is not the same as a warranty in an ordinary commercial contract. For contracts entered into before 12 August 2016, the former is defined by Section 33(1) MIA as 'a promissory warranty, that is to say, a warranty by which the assured undertakes that some particular thing shall or shall not be done, or that some condition shall be fulfilled, or whereby he affirms or negatives the existence of a particular state of facts'. A warranty is a way in which the insurer or reinsurer can procure from the insured or reinsured a guarantee of the accuracy or continued accuracy of a given fact or a promise that certain obligations will be fulfilled.
Under the MIA, the effect of a breach of warranty is to discharge the insurer or reinsurer automatically from liability as from the date of breach. The insurer or reinsurer is not required to show that the warranty was in any way material to the risk or that the breach has contributed to the loss.
The severity of the remedy for a breach of warranty under the MIA attracted considerable criticism from insureds and their brokers, and IA15 radically amended the law relating to warranties when it came into force in August 2016. Under IA15:
- A breach of an insurance warranty no longer automatically discharges insurers from further liability under the contract.
- Instead, the contract is suspended until the breach of warranty is remedied. Insurers remain liable for losses occurring or attributable to something happening prior to the breach but are not liable in respect of losses occurring or attributable to something happening during the period of breach. Once the breach is remedied, insurers are liable for losses attributable to something happening after the remedy (subject to the remaining terms of the contract).
- As noted above, under Section 11 IA15, where a loss occurs when an insured is not in compliance with a term that tends to 'reduce the risk' of loss of a particular kind, at a particular location or at a particular time, and that is not a term that defines the risk as a whole, the insurer cannot rely on that non-compliance to exclude, limit or discharge its liability if the insured can show, on the balance of probabilities, that its non-compliance could not have increased the risk of the loss that in fact occurred in the circumstances in which it did occur. The example given by the Commissions is that of a lock warranty in an insurance policy, requiring the hatch on a private yacht to be secured by a special type of padlock. Compliance with the lock warranty would tend to reduce the risk of a specific type of loss: loss caused by intruders. Under Section 11, breach of such a warranty would not suspend the insurer's liability for other types of loss, such as loss in a storm. However, if there was a break-in, liability would be suspended even if the special padlock would not have prevented it.
- 'Basis of the contract' clauses, whereby the insured's answers in a proposal form are converted into warranties in the policy, have been abolished. In the context of consumer insurance, basis of the contract clauses were abolished as a result of the implementation of the Consumer Insurance (Disclosure and Representations) Act 2012.
English law usually views an insurance broker as the agent of the insured for the purposes of placing an insurance contract. The essence of the relationship between the broker and the insured is one that gives rise to a number of fiduciary duties, including an expectation that the broker will put the insured's interests before its own.Commission
Notwithstanding that the broker is the agent of the insured at placement, the commission or brokerage that it earns when an insurance contract is placed is usually agreed and paid by the insurer – often as a percentage of the premium.
Consistent with ensuring that brokers act in the best interests of their clients, English regulation places a strict prohibition upon additional payments that are contingent upon the amount of business placed by the broker with a particular underwriter or the profitability of the business being entered into by an underwriter.The agent's duty of disclosure
For contracts entered into before 12 August 2016, the law on the duty of disclosure affecting brokers is contained within Section 19 MIA. This provides that a placing broker is required to disclose to the insurer every material circumstance about the risk to be placed that is known to it or that in the ordinary course of business ought to be known by, or to have been communicated to, it. When IA15 came into force in August 2016, this provision was repealed; now, the broker's knowledge is attributable to the proposer, insofar as it is reasonably available to it. The broker owes a professional duty of care to the proposer to ensure that it does not cause the proposer to be in breach of its duty to make a fair presentation. The only exception to this is that a broker will not be required to disclose material information that it acquired while acting as agent for a third party if that information is confidential to the third party.v Claims
Issues frequently discussed in the London Market include claims notification and the role of the doctrine of utmost good faith in claims, the latter being the subject of a landmark Supreme Court decision in 2016.Notification
An insurance contract, particularly in liability classes, often requires the insured to notify a claim to its insurer in a particular way and within a particular time frame for the claim to be valid. Prompt notification is often stated to be a condition precedent to coverage under a policy, and failure to comply with the notification requirements can give an insurer or reinsurer a complete defence to the claim.
The specific terms of a notification clause are, of course, crucial. Liability policies will, however, usually require notification of a 'circumstance' that 'may' or 'is likely to' give rise to a claim. 'Circumstance' has not been judicially defined. 'Likely to' has been held to mean a 51 per cent chance of a claim. 'May' means a circumstance that 'objectively evaluated, creates a reasonable and appreciable possibility that it will give rise to a loss or claim against the assured'. The Court of Appeal has also made clear that, unless the language of the clause particularly requires it, an insured is not expected to carry out a continuous 'rolling assessment' of a circumstance to monitor whether, what was initially something that was unlikely to give rise to a claim, mutates into a circumstance that is likely to give rise to a claim. Finally, the term 'give rise to a claim' requires a causal as opposed to a mere coincidental link between the circumstances notified and the ultimate claim.
Other policies will require the notification of a loss. In this context, loss has been interpreted differently in two cases on very similar facts (RSA v. Dornoch and AIG Europe (Ireland) Ltd v. Faraday Capital Ltd). Considerations of space preclude a detailed analysis of the difference between these two cases, but they demonstrate that the question of whether notification under any particular policy ought to be given is very fact-specific and where in doubt, legal advice ought to be sought at an early stage.Good faith in claims
As noted above, insurance contracts are contracts of the utmost good faith. The duty of good faith is mutual and is not limited to the pre-contract negotiations. Nonetheless, the courts have preferred to use an independent common law remedy of forfeiture to regulate fraudulent claims. Until recently, forfeiture was the remedy in respect of any claim that was materially tainted by fraud, whether entirely false, exaggerated or involving a fraudulent device to 'gild the lily' of an otherwise genuine claim. In 2016, however, in Versloot Dredging BV v. HDI Gerling & Ors (The DC Merwestone) the Supreme Court (by a majority of 4–1) abolished the insurer's remedy of forfeiture for the assured's use of a fraudulent device to further an otherwise valid claim. In doing so, it overturned the Court of Appeal's judgment in the same case and decided that Lord Justice Mance (as he then was) had been wrong in The Aegeon in expressing the opinion that the public policy objective of deterring fraud in the insurance claims context warranted the forfeiture of a claim that had been promoted by fraudulent means, even though the claim was in all other respects valid.
While upholding the fraudulent claim rule in respect of fraudulently exaggerated claims, the majority considered it to be 'a step too far' and 'disproportionately harsh' to deprive a claimant of his or her claim by reason of his or her fraudulent conduct if the fraud had been unnecessary because the claim was in fact always recoverable. In a strong dissenting judgment, Lord Mance expressed the opinion that there was no distinction to be drawn between the deployment of a fraudulent device and the pursuit of a fraudulently exaggerated claim. In his view, forfeiture was proportionate in both cases, and justified by the public policy objective of deterring fraud in the insurance claims context.
IA15 seeks to clarify insurers' remedies for fraudulent claims. The statutory regime, which came into effect in August 2016, stipulates that, in the event of a fraudulent claim, the insurer will have no liability to pay the claim, and will have the option, by notice to the insured, to treat the contract as having been terminated from the time of the fraudulent act (and to retain all of the premium); however, the insurer will remain liable for legitimate losses before the fraud.
Owing to the mutual nature of the duty of good faith, an issue also arises (at least in theory) as to whether poor claims handling practices can place an insurer in breach of duty. Prior to the coming into force of the Enterprise Act 2016 (EA16) on 4 May 2017 under English law punitive damages against an insurer or reinsurer were not available for breaches of this duty; nor could an insurer or reinsurer be made to pay compensatory damages for any losses caused by an unreasonable declinature of a claim or delay in processing it. From 4 May 2017, however, EA16 introduced a new Section 13A into IA15. This Section introduces an implied term into every insurance contract subject to English law entered into on or after that date to the effect that insurers and reinsurers must pay claims within a reasonable time. A breach of that term gives rise to a right to claim damages. However, there is a special one-year limitation period for such a claim; and damages will be subject to the usual criteria for assessing contractual damages, which are that the loss must have been (1) foreseeable when the contract was entered into; (2) caused by the breach of contract; and (3) not too remote; and also that (4) the insured must have taken all reasonable steps to mitigate its loss.