In our Winter 2013 E-Brief we commented on the Commercial Court’s decision in Amlin Corporate Member Ltd & Others v Oriental Assurance Corporation (The “Princess of the Stars”)  Lloyd’s Rep IR 644 [link to article]. The case provided a useful confirmation of the approach English courts take when construing warranties. Our article concluded with some reflections on whether the decision would have been different had it been made in accordance with the Commissions’ proposed changes to warranties. Since our last E-Brief, the Law Commissions have issued draft wordings for the Insurance Contracts Bill (to become the Insurance Contracts Act, if enacted). We discuss the issues which the proposals seek to address below, before considering briefly how the draft legislation might have impacted on the Princess of the Stars decision had it been in force at the relevant time.
The Commissions’ criticism of the law of warranties has four key aspects: (1) an insurer may decline a claim for a trivial breach which has no bearing on the risk; (2) remedy of a breach of warranty before loss affords an insured no defence; (3) breach of warranty discharges an insurer from all liability, not just liability for the type of loss suffered; and, (4) seemingly trivial representations can be converted into warranties through the use of ‘basis of the contract clauses’, which are widely misunderstood.
The Commissions have made three principal proposals to address those issues: (1) ‘basis of the contract’ clauses should be prohibited; (2) warranties should become ‘suspensive conditions’, meaning that a breach of warranty may be remedied and an insurer’s liability restored thereafter; and, (3) where a warranty is designed to reduce the risk of a particular type of loss, or the risk of loss at a particular time or in a particular place, then the insurer should be able to refuse claims for losses falling only within that category of risk if the insured is in breach of that warranty.
The draft Bill circulated on 21 March 2014 reflected these three proposals.
Basis of the contract clauses
By Section 8 of the draft Bill, representations made by the insured in connection with a non-consumer contract of insurance, or variations thereto, are not capable of being converted into warranties by means of any provision of the contract of insurance, or variation thereto “whether by declaring the representation to form the basis of the contract or otherwise”. As the commentary to Section 8 makes clear, if an insurer wants a warranty in respect of a particular matter, which might ordinarily be included in a proposal form subject to a basis of contract clause, that warranty will need to be expressly agreed between the parties.
Suspending rather than discharging liability
Section 9 of the draft Bill does away with the common law and statutory position that breach of warranty discharges insurers from liability. Rather, once there has been a breach of warranty, the insurer has no liability for a loss occurring, or attributable to something happening, until the breach has been remedied (if it can be). Reference in subsection 9(2) to loss “attributable to something happening” has been included to address a situation where a loss arises as a result of an incident occurring after a breach of warranty, but is only actually suffered once the breach has been remedied. So, adopting the example provided by the Commissions: a vessel sails into a war zone in breach of warranty, suffers some damage while in that area but is only lost after she has sailed out. The breach has been remedied by the time of the loss. However, since the loss is attributable to something happening during the period of breach, the insured cannot recover for the loss notwithstanding that insurers are otherwise back on risk following the remedy of the breach by the vessel leaving the war zone. The outcome would depend on proper analysis of the proximate cause.
There are conceptual difficulties as to whether, and when, a breach of warranty has been remedied. We return to this below in the context of our discussion of the Princess of the Stars. It suffices to say here that the Commissions have commented that “a breach of warranty can be said to have been properly or functionally remedied when the risk is restored to the state it would have been in had the breach not taken place”. So, for instance, where there has been a breach of a warranty requiring a condition survey within seven days of inception, but the survey is only carried out on day ten, under the present law the fact the survey has been carried out does not undo the breach. That is because after the expiry of seven days, strictly speaking it is impossible to comply with the warranty. However, under the Commissions’ proposal, carrying out the survey on the tenth day would bring the period of suspension of liability (from the end of day seven) to an end and put insurers back on risk. Subsection 9(6) is drafted to address precisely this situation, providing “…the breach [is to] be taken as remedied if at a later time the risk to which the warranty relates becomes essentially the same as that originally contemplated by the parties”.
Reducing particular risks
Warranties may be introduced into a policy to reduce the risk of a loss (a) of a particular type, or (b) at a particular time or location. Examples given by the Commissions in respect of (a) include a term requiring an insured to have certain fire safety systems in place (aimed at reducing the risk of fire loss) and (b) a term that a vessel must have a night watchman in place while in port.
By Section 10 of the draft Bill a breach of such a term could not be relied on by an insurer to discharge its liability for loss of a different kind or loss at a different location or time. So, developing example (a) above, were the insured not to have the requisite fire safety systems in place, in breach of the warranty, and a flood to be suffered during that period of breach, then (assuming flooding is covered by the policy, of course) insurers could not rely on the breach in respect of the fire safety systems to escape liability for the flood loss. If, however, there were to be a fire during a period of the breach, insurers would be able to rely on the breach as discharging them from the resulting liability for the loss even if it is shown that the fire safety systems would not have prevented the loss.
In the Princess of the Stars it was alleged by reinsurers that there had been two breaches of warranty. Firstly, the insured vessel had sailed when there was an existing storm warning in circulation. Secondly, the vessel’s intended route was through the possible path of the storm announced at the port of sailing.
Given that the breached warranties in the case were very clearly designed to reduce the risk of a particular type of loss and the loss which occurred was of that kind, we expect that the insured would not have been able to avail itself of the proposed protection of Section 10. Even if liability were only suspended pending rectification of the breach in accordance with the principles of Section 9, where that rectification did not happen before the loss, insurers would still have been able to treat themselves as off risk at the point of loss.
Prima facie it is difficult to see how it would be possible to remedy either breach. Once the vessel had sailed notwithstanding the existence of the warning, the warranty was breached. However, given the provisions discussed above in Subsection 6, had the vessel returned to her port of sailing before loss was suffered with a view to remaining there until the storm warning was lifted then it could be said that the risk to which the warranty related had become “essentially the same as that originally contemplated”. Equally, once the intended route was set, there was breach. Leaving aside the first breach discussed above, had the route been altered to take it clear of the possible path of the storm, then again the risk might be said to be essentially as contemplated and thus remedied.
What if, for instance, there had been fire damage (assuming for present purposes that fire was a covered peril) shortly after sailing and the vessel had sailed on as intended but escaped the typhoon without storm damage? In our view Section 10 – which is stated to be applicable in addition to Section 9 – would result in the fire loss being covered because it is a different kind of loss from that which the warranty that had been breached was aimed at.
The Commissions concede that questions such as whether a term is designed to reduce a particular risk or to delimit the scope of a policy more generally are likely to become the subject of litigation if the proposals are enacted. We can equally see scope for disputes arising from the contracting out provisions in the proposed Section 17; these provide that parties can opt out of the default position that will be established by the proposed Insurance Contracts Act. Section 17 requires, for example, that disadvantageous terms – i.e. terms which would put the insured in a worse position than it would have been in under the default provisions – must be brought to the insured’s attention and must be clear and unambiguous as to effect. What will constitute the “sufficient steps” required by Section 17 to bring the term to an insured’s attention remains to be seen. We expect the existing approach in respect of clarity/ambiguity as established at common law would be taken to assess whether the requirements have been met in that regard. It is interesting that Section 17 goes further than might have been expected by requiring that the consequences of contracting out are properly spelt out. i.e. it will not suffice to say (however clearly) simply that, for example, “Section 9 [of the Insurance Contracts Act] does not apply”. An explanation of the effect of not excluding Section 9 would need to be included.
Since contracting out is possible (and indeed anticipated in certain markets), we expect to see warranty disputes both under the proposed and existing regimes. Therefore, even if the draft legislation is adopted as proposed, the automatic and non-remediable discharge for breach of warranty will not quite yet be a thing of the past in the non-consumer context.