The professional indemnity insurer of an insolvent independent financial adviser (Target) successfully relied on an insolvency exclusion in the policy to deny liability to third party (former) clients of Target1.

In 2005 Target had advised Mr. and Mrs. Crowden to invest £200,000 in a “Secure Income Bond” issued by SLS Capital SA in Luxembourg and Keydata Investment Ltd.2 SLS went into liquidation in 2009.

The Crowdens lost £150,000, and later received only £84,642.92 in FSCS compensation, due to the FSCS cap. Target entered liquidation but, undaunted, the Crowdens sued Target, and were able to obtain judgment for £197,698.05 after the liquidator chose not to defend the proceedings. Target’s PI insurer had declined to participate in the proceedings, on the grounds that it considered it had no obligation to indemnify Target due to the insolvency exclusion, which excluded “claims...arising out of or relating directly or indirectly to the insolvency...of the Insured or of whom the Insured has”. The Crowdens sued the insurer pursuant to the Third Parties (Rights Against Insurers) Act 1930 (which applied since the insolvency preceded the more recent Act’s effect.)

There was an issue whether, notwithstanding their judgment against Target, the Crowdens’ entitlement to claim against Target had survived their acceptance of FSCS compensation, since the FSCS rules require claimants to assign to it their rights against responsible parties, and any such assignment appeared to have taken place before they issued proceedings against Target. This issue was not suitable for determination on the insurer’s summary judgment application, but the Judge was able to follow established precedent3 in ruling that the fact of the Crowdens’ judgment against Target did not preclude the insurer from contesting that Target had been liable to the Crowdens by reason of the Crowdens’ purported assignment.

However, in upholding the effectiveness of the insolvency exclusion in the insurer’s favour, the Judge reviewed the tenets for construing insurance exclusions4 and commented that the ordinary principles of construction generally applicable to exemption clauses were not to be adopted in the interpretation of insurance exclusions, because insurance exclusions are intended to define the scope of cover under the policy, rather than being contractual exclusions per se.

The Judge further held the clause was not ambiguous, and rejected the Crowdens’ arguments that the insolvency exclusion only applied if: (a) there had been a non-negligent act or omission giving rise to Target’s liability and/or (b) Target had arranged an investment with the insolvent business on its own behalf and not on its client’s behalf and/or (c) the relevant insolvency was a formal insolvency process, rather than an inability to pay debts as they fell due. The Judge found little support for these arguments and ruled that, for this particular clause to bite, the relevant insolvency need not be the proximate cause of the loss, since other language (e.g. “caused by”) would have been used if this had been the intention, but that the insolvency must have been a significant cause, as it was here. The insolvency exclusion was not limited to non-negligent acts or omissions, on the basis that there was no suggestion in the language of the provision that it was so limited, and it would be odd if there were cover for negligent conduct, which the insured could control, but not for non-negligent conduct.

The unfortunate Crowdens therefore had no real prospect of success in their claim against the insurer, and this was also the case in respect of an additional £150,000 which they had invested through Target in Lehman Bros. Inc. securities.