We have written previously about the long running-case Teal v WR Berkley & Aspen, which saw the Supreme Court give judgment in 2013 on whether a captive could choose which claims would reach its excess insurance layer. The Supreme Court agreed with the decisions in its lower courts that the captive, by delaying one disbursement and choosing to pay a disbursement in respect of different liability which had been ascertained later, could not alter the order in which liability attached to the insurance programme, because it was the date of ascertainment of the liability, not the date of payment of the loss, which was key. (See our earlier article here for the underlying facts and a basic table showing the insurance programme in place.)
Having taken that judgment on board it seems, Teal then brought a preliminary issue before the Commercial Court specifically on the question of whether if you have paid money into an escrow account to meet a liability which is established, but where the precise amount of liability has not been ascertained, the liability is ascertained when the money is paid into the escrow account, or ascertained if and when the money is drawn down from the escrow account.
You will remember from the Supreme Court decision that the professional indemnity insurance programme in place for the underlying insured in this case meant, crucially, that if the PI tower became exhausted, only non-US or non-Canadian claims would reach up to a "top and drop" policy which sat above the tower, which was reinsured 100% by WR Berkley & Aspen (the "Reinsurers").
In the issue before the Commercial Court which has now been handed down, we see that the money paid into the escrow account by Teal concerned underlying non-US/Canadian PI construction claims. So the top and drop policy could respond to those non-US/Canadian claims, but only if the PI tower had not already been exhausted by certain US claims. This is why the timing of when liability had been ascertained was so important to Teal regarding the escrow account because it was more financially advantageous to Teal if the dates of ascertainment of liability were the various later dates of drawdown.
The legal principles
The Commercial Court restated the usual authorities for the application of the principle of the right of an insured (or reinsured) to an indemnity in relation to liability cover, which is that a loss is suffered "when liability is established and the amount of liability has been ascertained" (parag. 27 of the judgment).
The Court was persuaded that the settlement agreement to pay money into escrow did not meet the criteria for liability to be "ascertained" because:
- the money in escrow was subject to conditions which meant that it might never be paid to the underlying claimant; and
- the amount of the insured's liability was not ascertained until the claimant submitted certificates which proved the cost of remedial work which had been done.
The Reinsurers had argued that if you treated the escrow agreement like an interim payment order then authority in Cox v Bankside deemed the provisional payment to be damages and therefore an ascertained quantified sum.
However, the Commercial Court distinguished the two types of payment on the basis that the agreement to pay into escrow was not an agreement to pay damages, as "damages" were only payable on entitlement to draw down on the escrow fund. Additionally, the escrow agreement did not assess the minimum amount of likely liability, as happens when an interim order is made. Finally, the escrow payment was a voluntary one, not compelled by the court (parag.s 41-43). On the facts, there was not even an obligation on insurers to make the payment into the escrow account, so the principle of "hold harmless" did not support the Reinsurers case either (parag. 51).
The Commercial Court found in favour of Teal that the date of ascertainment of the loss fell as and when the underlying claimants drew down the money paid into the escrow account, the timing of which meant that the top and drop policy would respond to those losses and so Reinsurers were liable to indemnify Teal.
Potential risk for reinsurers
The outcome of this decision shows that reinsurers in this kind of excess layer "drop down" reinsurance programme, where there are exclusions in the top and drop policy against certain types of claims, need to be aware when agreeing to a captive insurer's settlement on liability where quantum is still undetermined that the date of ascertainment of loss might still be at large. The escrow account in this case was an effective mechanism by which the captive could delay the ascertainment of the amount of loss, even though liability had been established.
How much this was a lucky coincidence for the captive, rather than a careful plan on settlement with the underlying claimant to manage its liabilities in order to maximise its reinsurance recoveries, is hard to say from reading the judgment but it highlights the way reinsurance programmes involving captives sometimes have complex unintended (and therefore ultimately expensive) legal consequences.
To avoid similar disputes in future reinsurance programmes (which are more likely to happen where there is a captive involved) reinsurers might consider including tighter claims control clauses so that they have some control over the timing and format of settlement agreements with the underlying insured. Although reinsurers could just draft a clause which provided that payments into escrow would be deemed ascertained liabilities, this might not be helpful in different circumstances which may depend on the timing of other liabilities; having increased oversight and control over the nature and timing of settlements on the underlying programme of liability is likely to be a more effective tool for reinsurers wishing to minimise uncertainty.