This article summarises the reforms to the UK’s Insurance Law regime that will be introduced by the Insurance Act 2015. The forthcoming changes are significant and may affect anyone involved in the insurance market in any capacity, whether as insurer, broker or as an insured.
British insurance law largely developed in the 18th and 19th centuries and the most significant piece of legislation, the Marine Insurance Act 1906 (“MIA”), is now more than 100 years old. In the last 109 years, international commerce and the insurance market have changed significantly and the UK insurance market is the third largest market in the world. In 2006 the Law Commission were asked to consider the existing insurance law regime in the UK to consider whether it was still fit for purpose in the modern insurance market.
The Commission’s conclusion was that the current law is outdated and out of step with the realities of 21st century commercial practice. As a result, the Law Commission published The Insurance Bill 2014 which was first put before Parliament in July 2014. The Bill received Royal Assent on 12th February 2015 to become the Insurance Act 2015 (the “Act”) but the vast majority of its provisions will only enter into force on 12th August 2016 to allow the market time to adjust its practices. The Act seeks to extend reforms made in 2009 to consumer contracts of insurance: The Act makes wide ranging reforms to the law relating to non-consumer insurance contracts which, inter alia, will make it harder for insurers to avoid claims as a result of technical breaches by the insured.
THE CHANGES INTRODUCED BY THE ACT
The Act is designed to update the statutory framework in line with best practice in the modern UK insurance market. The Act will make 6 main changes to the current law:
1. The Duty of Fair Presentation
As things stand, as part of its overall duty of utmost good faith to the insurer, an insured’s duty is to provide all information that would be material to the risk, whether or not the insurer requests that information. S.18(3) MIA provides the exceptions to this rule are circumstances which diminish the risk, circumstances which are known or presumed to be known to the insurer, circumstances as to which information has been waived by the insurer and circumstances which are superfluous to disclose due to a warranty. The onus as regards disclosure is therefore currently entirely on the insured. Should the duty be breached, the insurer is entitled to avoid the policy entirely. The law as set out in the MIA does not currently provide for an intermediate remedy.
Over the years English courts developed partial solutions to this apparent injustice in appropriate cases by placing conditions upon the rigour of the duty of disclosure. Briefly the misrepresentation or non-disclosure complained of must relate to a material fact which ought to have been disclosed accurately and which induced the insurer to enter into the contract of insurance on the terms agreed. However the MIA remained unaltered which could easily lead to confusion.
Sections 21(2) of the Act effectively repeals sections 18, 19 and 20 of the MIA which deal with disclosure by the assured or his agent and pre-contract representations. Section 3 of the Act seeks to clarify the current law and modify the duty of utmost good faith that underlies insurance contracts by introducing the new duty of “fair presentation”. This requires policyholders to either (i) disclose to insurers “every material circumstance” which the insured knows or ought to know; or (ii) provide the insurer with “sufficient information” to put a prudent insurer on notice that it needs to make further enquiries into those “material circumstances”.
In addition to matters that the insured actually knows, the insured only “ought to know” matters that a reasonable search of the information available to it should have reasonably revealed. Brokers may wish to take a more active role in directing the insured’s search to ensure compliance with this requirement.
Sections 4, 5 and 6 of The Act set out detailed provisions explaining what exactly is meant by “knowledge” of material circumstances, who must know the information concerned and what the Act means by the word “know”. A detailed analysis of these sections is outside the scope of this article but it will be a fertile field for disputes so far as the “knowledge” of companies is concerned.
The duty of fair presentation under the Act retains the current position that unless specific enquiries are made by the insurer, an insured need not disclose to the insurer circumstances which would diminish the insurer’s risk or which the insurer knows or ought to know, is presumed to know or has waived information about. This is likely to mean that, unless the policy expressly provides otherwise or if the lead underwriter has changed, an insured is not required to disclose claims made in a previous policy year under the same insurance policy because the insurer would already be taken to be aware of those claims.
These changes mark a shift in English insurance law and will justify insurers taking an active approach to assessing the risks they underwrite rather than a passive stance in relying on the insured and its broker to provide all relevant information. In order to ensure that it is told about all material circumstances it may be advisable for the insurer to outline to the insured the particular or potential risks it is concerned about thus put the insured on notice what the insurer considers is material to the relevant risk.
2. New remedies for Non-Disclosure
Perhaps most important is the change in the remedies for failure to comply with the duty of pre-contract disclosure (known as the duty of fair presentation in the Act). The position as stated in the MIA flows from sections 18 and 19 which are to be repealed by the Act. At present an insurer is entitled to avoid the entire contract in the event that there is a failure by the insured to disclose all material information. The undisclosed information need not relate to the loss. All that is currently required to enable the insurer to avoid is that the undisclosed information was unknown to the insurer and material. Section 7 of the Act retains the old definition of materiality so that a circumstance or representation is material if it would influence the judgement of a prudent insurer in determining whether to take the risk and, if so, on what terms.
Under the Act however, an insurer will only be entitled to avoid the policy entirely (unless fraud can be proved – see below) where the breach of the duty of fair presentation is “deliberate or reckless” and where the insurer can show that he would not have entered into the contract had he known the information or would only have done so on different terms. The requirement that the insured’s failure to disclose information was “deliberate or reckless” could be very difficult for insurers to prove.1
Where the breach is neither reckless nor deliberate the remedies set out in the Act are less draconian. They are intended to be proportionate and to reflect what the insurer would have done if he had known the undisclosed information before entering into the contract.
If the insurer is unable to show a deliberate or reckless breach, it may only refuse the claim in its entirety and avoid the policy if it can show that he would not have written the policy at all. However, if he would have only written the policy on different terms and/or taken a higher premium then the contract is treated as entered into on those terms or the claim is reduced proportionately in line with the higher premium. It is to be expected that expert evidence from underwriting experts will be of far greater significance in disputes arising under the Act’s provisions. The Courts will further need to develop and give meaning to the question of what a deliberate or reckless breach entails.
3. Warranties and other terms
The current position as stated in the MIA is that a breach of a warranty in an insurance contract entitles the insurer to avoid all claims under the policy from the date of breach. This is the case even where the breach was immaterial and unrelated to the loss and did not induce the insurer to enter the insurance contract. Provided the breach is not waived by the insurer, the insurer is discharged even if the breach is later remedied.2
Under sections 9 to 11 of the Act the effect of a breach of warranty will be less severe. Any warranty breach by an insured now merely suspends (rather than entirely discharges) the insurer’s liability until the breach is remedied. The insurer will have no liability for any claim arising if the policy is suspended but once the breach has been remedied then the policy resumes in full force. The Act also prevents an insurer avoiding an insurance contract if a warranty ceases to be applicable to the circumstances of the contract due to a change of circumstances or if it is rendered unlawful (e.g. by sanctions) or is waived by the insurer.
The Act also abolishes “basis of the contract”3 clauses in non-consumer contracts. Such clauses currently have the effect of converting all pre-contractual representations in a proposal form into warranties sometimes using wording that is not necessarily clear to the insured. This then means that the insurer can be discharged from liability if the proposal form contains any statement that is inaccurate even where that misrepresentation is immaterial to the loss and in no way induces the insurer to enter the contract. These so called “basis of the contract” clauses or any other attempt to give pre-contractual representations the status of a warranty by way of a provision in the insurance contract will not be valid when the Act comes into force. It will not be possible to contract out of this prohibition.
Section 11(1) of the Act will also apply to conditions precedent and exclusion clauses provided they relate to a particular type of loss or a loss at a particular location or time. Other types of conditions precedent and exclusion clauses appear to be unaffected.
A further, potentially very significant, amendment to the existing law under the Act arises from the Law Commission’s proposal that insurers should not be entitled to avoid a claim where the insured’s breach did not relate to the loss. Section 11 of the Act provides that if an insured does not comply with a warranty or other term which relates to a particular type of loss, or the risk of loss at a particular location or time, the insurer may not rely on non-compliance with that contractual term by the insured if the insured is able to show that non-compliance with the term could not have increased the risk of the loss which actually occurred. This seems complicated but essentially introduces a type of causation requirement into insurance contracts to ensure that a breach of a term of an insurance contract must be related to the particular loss in question. A direct causal link between the breach of the term or warranty and the loss is however not required.
The joint submission of the LMA and IUA illustrates this with an example in which a household policy contains a clause warranting that all outside doors should be locked by five bolt locks at night. Thieves break down the locked door, which is found to have only a three bolt lock, and rob the house. In such circumstances the assured can argue that the thieves were so well equipped/armed that whatever precautions had been taken by way of locks they would still have got in: in other words that the risk of loss would not have been affected by failure to have a five bolt rather than a three bolt lock.
Section 11 of the Act does not apply to terms which “define the risk as a whole”. The introduction of such a requirement is entirely new to English insurance law and could introduce considerable uncertainty over the application of warranties and other terms to a particular loss, which will need to be clarified and defined by the Courts.
Furthermore the introduction of a causation requirement could open the door to extensive expert evidence to answer the questions of whether compliance with a certain warranty or term would have a tendency to reduce risk and whether non-compliance with that warranty or term could not have increased the risk of the loss which actually occurred.
4. Fraudulent claims
Section 12 of the Act provides that if the insured makes a fraudulent claim the insurer is not liable to pay the claim. If such a claim is presented the insurer may recover sums paid in respect of the loss and the insurer may give notice terminating the insurance as from the date of the fraudulent act and need not return the premium. Claims arising from an event before the fraud would however continue to be payable. This reflects the law as it currently stands as established by the Courts. In this area the Act does not change the law but merely codifies it.
5. Contracting Out and the Transparency Requirements
In respect of consumer contracts, an insurer cannot agree terms which put the insured in a worse position than that set out in the Act. In April 2013 the Consumer Insurance (Disclosure and Representations) Act 2012 came into effect. This Act abolished the traditional rules of non-disclosure and misrepresentation in consumer contracts and instead introduced a duty of reasonable care not to make a misrepresentation. The Act is therefore mainly significant for non-consumer insurance contracts.
In respect of non-consumer contracts, parties will be entitled to agree terms which are less favourable to the insured than those set out in the Act4 subject, however, to certain transparency requirements which require; (i) the insurer to take “sufficient steps” to draw “disadvantageous terms” to the insured’s attention; (ii) the “disadvantageous term” must further be “clear and unambiguous”. It will therefore not be possible for insurers to avoid the Act by introducing a simple additional clause into their policy documentation excluding the application of the Act without bringing the Act to the insured’s attention. Depending on the characteristics and sophistication of the insured in question and the circumstances of the transaction it may further be necessary for the insurer to spell out expressly the default position under the Act and any disadvantageous deviations from it.
It will be interesting to see whether, after the Act becomes law, the London market embraces the changes proposed in the Act or whether insurers, brokers and insurers will agree standard carve out provisions for use in standard terms with the aim of avoiding or minimising its effect.
6. The Third Parties (Rights against Insurers) Act 2010
To date, the Third Parties (Rights Against Insurers) Act 2010 which is intended to enable victims of wrongdoers to proceed directly against the insurer, has not come into force due to a number of technical deficiencies. The Act rectifies the deficiencies and should allow the 2010 Act to come into force in the near future.
SUMMARY AND CONCLUSIONS
– The Act, when its important provisions become law on 12th August 2016, will make a number of far reaching and very significant changes to the existing insurance law regime.
It will shift some of the responsibility of disclosure from the insured by imposing a duty of enquiry on the insurer and limiting the insured’s duty of disclosure.
It introduces proportionate remedies for non-disclosure.
It allows the insured to remedy a breach of warranty, merely suspending the policy while it is being breached.
– In some cases the Act may allow the insured to disable an insurer’s defence of breach of warranty or other term by showing that the breach of the warranty or term could not have increased the risk of the loss in question occurring. Although the Act will allow the parties to contract out of most of these new rules, any opt-out will be subject to compliance with transparency requirements and may therefore be open to attack.
– As with any new legislation, there will be initial uncertainty over the interpretation of new concepts and the changes introduced. However, even over the longer term, it can be expected that the envisaged changes and the proportionate approach of the Act will allow the parties greater scope to argue over hypotheticals (such as the questions of what higher premiums an insurer would have charged or whether compliance with a certain warranty would not have increased the risk). This is likely to increase litigants’ reliance on expert evidence and may introduce uncertainty in the market.
– At the underwriting stage, it can be expected that the changes will encourage both the insurer and the insured to ask more questions of each other, which may in turn increase the role and responsibility of brokers.
– When the Act comes into force, insurers should have a very careful look at their standard terms to ensure they comply with transparency requirements.
– The Insured and/or their brokers may wish to develop criteria for carrying out reasonable searches and seek increased input from the insurers during the underwriting stage.