After much debate as to its operation, Section 6 of the Law Reform (Miscellaneous Provisions) Act 1946 (NSW) (Section 6) has now been repealed and replaced by the Civil Liability (Third Party Claims Against Insurers) Act 2017 (NSW). The new legislation abolishes the problematic “charge” over insurance monies and brings clarity to third party claimant proceedings brought directly against insurers.

The Section 6 “charge” over insurance proceeds

Section 6 creates a statutory charge in favour of claimants, over insurance monies that are or may become payable in respect of a liability. The complexities and ambiguity of Section 6 meant that there has been much debate as to whether or not the Section 6 charge over Directors' & Officers' (D&O) insurance monies extended to defence costs spent in defending a claim and the impact of the charge on competing claims made on a policy.

Defence costs – New Zealand v Australia

In the Bridgecorp[1] decision, the New Zealand Supreme Court (New Zealand’s highest Court) considered section 9 of the Law Reform Act 1936 (NZ) (similarly worded legislation to Section 6). The Supreme Court overturned an earlier New Zealand Court of Appeal decision, and held that section 9 imposed a statutory charge in favour of claimants on all insurance monies that are or may become payable under a contract of insurance. The implication was that the charge prevented the Bridgecorp directors from being able to resort to the D & O policy to meet their defence costs and meant that insurers could not safely pay the insured’s defence costs. This was despite the fact that part of the directors’ reasoning in purchasing the D & O insurance policy was to obtain the benefit of defence costs. The Court sympathetically commented that the result “produces some unsatisfactory consequences” and “may seem unfair”.

As discussed in Jackson McDonald’s 2013 paper, the Australian insurance and business communities were concerned that the “unsatisfactory consequences” arising from the Bridgecorp decision would “jump the Tasman” and find a way into Australian law, given the existence of similar provisions in NSW, ACT and NT legislation.

Section 6 was considered in Australia in Chubb Insurance Company of Australia Limited v Moore [2013] NSWCA 12. In Chubb v Moore the New South Wales Supreme Court decided that the claimant’s charge did not extend to costs spent in the defence of a claim. The Court held that Section 6 only conferred a right to insurance moneys payable in respect of a liability, and that defence costs were not a liability but were rather the insured’s contractual right to seek indemnity from its insurer in respect of loss or outgoing. The Court explained that there was no intention by the legislature to interfere with the insured’s and insurer’s contractual relationship in respect of defence costs.

Despite the positive decision in Chubb v Moore, claimants have continued to include the Section 6 issue in litigation against insurers and insureds, no doubt appreciating that Chubb v Moore may be overturned by a higher court. The Australian insurance community has been aware of Section 6 litigation, and no doubt appreciated that there would be no final answer until either the High Court or legislature had spoken.

Competing claims

Although Chubb v Moore resolved the payment of defence costs issue there remained ambiguity in respect of competing claims on a policy. The drafting of Section 6 and the reference to a “charge” meant that it was unclear whether insurers would be prevented from paying out insurance proceeds if there were competing claims against a policy with insufficient limits to cover both claims. This put insurers at risk that they would pay out the full amount of the policy, but remain liable to pay out a competing claim that had a priority charge over the insurance monies. Effectively, insurers would be at risk of having to pay out more than the contracted limit of liability.

To date the Section 6 issue of competing claims has not been resolved by case law, which means that insurers are wary of the effect of settling matters that involve competing claims over limited insurance proceeds.

Call for law reform

In light of these Section 6 issues, and the similarly complex topic of the joinder of insurers to litigation by third parties, the New South Wales Law Reform Commission prepared a report titled “Report 143 – Third party claims on insurance money” (Reform Report). The Reform Report noted that while the objective of Section 6 was valid, its manner of drafting was ‘replete with uncertainty’.

As a result of the Reform Report and other submissions, a bill was introduced and on 1 June 2017, the Civil Liability (Third Party Claims Against Insurers) Act 2017 (NSW) (the Act) received Royal Assent. The Act repealed Section 6 and introduced the Reform Report recommendations, which give clarity to the way in which insurers can handle and pay out claims. The key features of the new Act include:

  1. recovery from insurers is limited to what an insurer would have had to pay out in respect of the insured’s ‘liability’, meaning that defence costs will not be captured and can be safely paid to insureds;
  2. the maximum liability of insurers is capped at what an insurer would otherwise have been liable for under the contract of insurance, meaning that insurers are not at risk of having to pay out twice on competing claims; and
  3. claimants have the right to proceed directly against the insurer, subject to leave being granted by the Court.

What the reform means for insurers and insureds

By stripping away archaic language and focusing on the core intention of the legislation, the new Act avoids the ambiguous drafting that gave rise to arguments about the scope and effect of Section 6. The new Act is a “win” for insurers and insureds alike, as it provides clarity in regards to insurers’ ability to pay defence costs and to pay out a competing claim without the risk of having to pay twice.

Although the new Act brings certainty in the NSW jurisdiction, the ACT and NT have similar provisions to Section 6 that have not been repealed. This means that claimants may take the opportunity to “forum shop” and commence proceedings in the jurisdiction that will most benefit their claim.

Another point to note is that Section 6 has limited retrospective effect and will continue to apply to actions brought against insurers under that section before the commencement of the new Act (1 June 2017). Therefore, there will be continuing uncertainty in actions that were brought against insurers before the introduction of the new Act – meaning that although Section 6 is dead, it is not quite buried yet.