The Insurance Act 2015 is here…or almost here
The Insurance Act 2015: How does it change insurance law?
The Law Commission project began in January 2006 and nine years on, the process is almost complete. Royal Assent was given on 12 February 2015. The law will come into force by the autumn of 2016, 18 months after Royal Assent, and 10 years after the Law Commission consultation began. It will also be 110 years since the Marine Insurance Act 1906, which, until now, has been the statutory foundation for insurance law in the United Kingdom.
The insurance industry (including DWF) has been actively following and participating in the Law Commission’s consultation process and readers of this briefing note are likely to be familiar with the proposals. However, over the course of the debates before Parliament during the last few weeks, a number of the clauses have been the subject of fine tuning and it is important to take stock to see what has emerged in the Bill’s final form.
Duty to make a “fair presentation” of the risk
The first, and probably most talked about, change effected by the new Act relates to pre-contractual disclosure by non-consumer policyholders. Disclosure of material information enables insurers to assess and price the risk accurately, and so it is essential that insurers should be in possession of all material information. A policyholder entering into an insurance contract will be under a duty to make a “fair presentation” of the risk. The duty of “fair presentation” replaces the existing duty, set out in the Marine Insurance Act 1906, to disclose every material circumstance which would “influence the judgment of a prudent underwriter in fixing the premium or deciding whether to take the risk” (which may involve second-guessing what such an underwriter would want to know). Making a “fair presentation of the risk” entails either:
Disclosure of every material circumstance which the insured knows or ought to know (clause 3(3)(b)); or failing that
Disclosure of sufficient information to put a prudent insurer on notice that it needs to make further enquiries for the purposes of revealing those material circumstances (clause 3(3)(c)).
This second limb is intended to operate where the insured has failed to satisfy the first limb (disclosing every material circumstance it knows or ought to know) but nevertheless has disclosed sufficient information to put the insurer on notice that it needs to seek further information from the insured before writing the risk. So, for example, if the insured has dumped information on the insurer indiscriminately, and it is clear that there are unanswered questions and matters that might need to be followed up, the insurer should be asking for more information under the second limb. In theory, this new test should make it easier for an insured to assess what is required in terms of supplying pre-contractual information to insurers.
The disclosure has to be given in a manner which “would be reasonably clear and accessible to a prudent insurer” (i.e. no data dumping) and in which “every material representation as to a matter of fact is substantially correct, and every material representation as to a matter of expectation or belief is made in good faith” (so an insurer would be hard-pressed to rely on some minor or technical breach).
Unless insurers ask, the insured does not have to disclose something which diminishes the risk; something which the insurer knows, or ought to know, or is presumed to know; or information where the insurers have waived the disclosure requirement. The question of what an insurer ought to know or is presumed to know has the potential to be a tricky issue in practice.
Note: the principle of good faith remains as an interpretive principle but avoidance as remedy for breach is removed (see Remedies, below).
The Bill defines what is meant by knowledge in relation to both the insured and insurers, and it is these provisions that have caused a considerable degree of soul-searching in the last few months.
As regards the insured, clause 3(4)(a) requires the disclosure of every material circumstance an insured knows or ought to know. Rather than relying on the common law of attribution, the Bill seeks to define whose knowledge is relevant. Where the insured is an individual, knowledge is not limited to his or her own knowledge, but is deemed to include anything known by a person who is “responsible for the insured’s insurance”. This could include the individual’s insurance broker. The significant change arises where the insured is an organisation; relevant knowledge is that of anyone who is part of the insured’s “senior management” or who is “responsible for the insured’s insurance (the risk manager is an obvious example). Senior management is defined as any individual who plays a “significant role[s] in the making of decisions about how the insured’s activities are to be managed or organised”. The Explanatory Notes have now been amended to specify that the term “senior management” includes the Board but it can also extend beyond the Board, depending on the management structures in place.
What the insured ought to know is defined by reference to information that could be expected to be revealed by a reasonable search of information available to an insured (and this can be information held within the insured’s organisation or indeed held by any other person such as an agent). Risk managers of course need to ensure systems are in place to ensure compliance.
The provisions on the insured’s knowledge were included following strong representations made by AIRMIC, although it has always been possible to spell out in policy documentation whose knowledge in an organisation is relevant. In the case of major corporate clients, it may be worth thinking about contracting out of these provisions to put in place something more specifically tailored to the organisation in question.
Insurer knowledge has been the subject of equal discussion in the consultation process, although the Bill appears to have addressed many of the drafting points raised in the past few months.
Under Clause 3(5)(b) an insured is not required to disclose a circumstance if the insurer knows it. For this purpose, an insurer knows something if it is known to one or more of “the individuals who participate on behalf of the insurer in the decision whether to take the risk, and if so on what terms”. In practice, therefore, the required knowledge is that of the underwriters (although claims personnel can sometimes be involved in the renewal process, and the definition in the Bill specifically envisages that an individual might be acting in the capacity of an employee or agent or in any other capacity).
The Bill provides that in addition, the insurer “ought to know” anything which:
an employee or agent of the insurer knows and ought reasonably to have passed on to the underwriter (for example, information held by a claims department or expert reports commissioned for the purposes of assessing the risk); or
where the relevant information is held by the insurer and is readily available to the individual (for example, making a search in electronic records held by the insurer organisation).
An insurer is “presumed to know”:
“things which are common knowledge”; and
“things which an insurer offering insurance of the class in question to insureds in the field of activity in question would reasonably be expected to know in the ordinary course of business”.
Draft clauses that were published by the Law Commission for consultation during early 2014 went further, and sought to define “things” as “information and knowledge of any kind, including facts, rumours, expectations and beliefs”. Not unexpectedly, comment was passed at the time on the vague concept of “rumour” being brought in as something an insurer would be deemed to know; this previously proposed definition is not in the final Bill.
Knowledge, whether of insured or insurer, is specified to include not just actual knowledge but “blind eye” knowledge, that is, matters an individual suspected and of which he or she would have had knowledge but for deliberately refraining from making enquiry.
If the policyholder fails to make a “fair presentation of the risk”, there is a new system of proportionate remedies for the insurer, under Schedule 1 to the Bill, based on what the insurer would have done had the failure not occurred. This regime is without doubt more flexible and commercial than the current all-embracing avoidance remedy. An insurer may want to retain an insured’s business and avoidance, being the draconian remedy it is, is scarcely conducive to maintaining a commercial relationship.
An insurer will have a remedy for breach of the duty to make a fair presentation if it can show that, but for the breach, it would not have entered into the insurance contract or would have done so on different terms (i.e. reflecting the existing law in Pan Atlantic Insurance Co Ltd v Pine Top Insurance Co Ltd).
If the breach of duty was deliberate or reckless (this has to be more than mere carelessness; and can include fraudulent behavior), the insurer still has the right to avoid the contract and refuse to pay all claims (and does not need to return the premium). So in the worst cases, insurers do still have this powerful weapon.
In other cases, where the breach was neither deliberate nor reckless, the insurer can still avoid (with a return of premium) where it would not have entered into the contract. If the insurer would have entered the contract but on different terms (other than on premium), that contract is to be treated as if it had been entered into on those different terms if the insurer requires. Different terms could be the inclusion of an exclusion clause.
Where the insurer would have entered the contract but charged a higher premium, the insurer may reduce the amount paid on the claim proportionately (a formula to calculate this appears in the Schedule to the Bill).
 Consumer policyholders are of course subject to the Consumer Insurance (Disclosure and Representations) Act 2012.
Warranties and other terms
The Bill changes the current law on warranties (including marine warranties) in three main respects.
First, the Bill abolishes “basis of contract” clauses (i.e. clauses that convert all representations, even if immaterial, into warranties). It is not possible to contract out of this (see below).
Second, the Bill replaces the existing remedy for breach of warranty. Under the law as it currently stands, breach of warranty in an insurance contract discharges the insurer from the moment of breach, even if the breach is subsequently remedied. Under Clause 10(2), breaches of warranty will now serve only to suspend insurers' liability until such time as the breach is remedied. Insurers will have no liability for anything which occurs, or is attributable to something occurring, during that period of suspension. Insurers’ liability will recommence after the breach has been remedied. Thus, if an insured gives a warranty that an alarm system will be inspected every 6 months, but then misses a 6 monthly alarm inspection and in doing so is in breach of the warranty, insurers will not be liable for a burglary that occurs during the period following the missed 6 monthly inspection; but if inspections then resume and a burglary takes place after that time, insurers will again be liable.
The Bill contemplates that some breaches are incapable of remedy. Some warranties require something to be done by a specified time, which would potentially mean that if a deadline had been missed, an insured could never cease to be in breach, but the Bill specifies that this type of breach will be remedied if the warranty is ultimately complied with, albeit late.
Thirdly, the Bill addresses the issue of breaches of a warranty or other terms which are not material to the actual loss suffered.
Clause 11 applies to any warranty or other term (which could include conditions precedent and exclusion clauses) which would tend to reduce the risk of (a) loss of a particular type, or (b) loss at a particular location or (c) loss at a particular time. If a loss occurs and a contractual term to which Clause 11 applies has not been complied with, an insurer cannot rely on that non-compliance to avoid or limit its liability for the loss if the insured shows that non-compliance could not have increased the risk of the loss which actually occurred in the circumstances in which it occurred. It is important to note that a direct causal link between the breach and the ultimate loss is not required.
The easiest way to understand Clause 11 is by way of examples. If a contract contains a warranty as to the maintenance of sprinkler systems; the warranty is breached and then the property is burgled, the insured would almost certainly be able to demonstrate that sprinklers would not have prevented the burglary. The example used in the Explanatory Notes is a requirement that certain types of locks be used on a window, and loss is then caused by flooding. Failure to install the correct locks could not have increased the risk of loss of flooding. Of course, if there were to be a breach of warranty relating to the type of locks, but a burglar broke in when a window was left open and, even if it had nothing to do with the locks, the insurer should be able to rely on the warranty even though there was no causative link since it is the same type of loss.
It should be noted that Clause 11 contains a carve-out in respect of terms that “define the risk as a whole”. The example given in the Explanatory Notes is a requirement that a property or vehicle is not to be used commercially. It is easy to see that this could be an issue where disputes might occur; it was an area where there was considerable debate during the consultation process.
It is important to note that it will still be possible under the Bill to include warranties in policies of insurance, but they will need to be expressly agreed with the insured and pass the transparency requirements (see below).
Insurers' remedies for fraudulent claims
The Bill sets out the remedies where an insured makes a fraudulent claim (deliberately not defined). So when an insured commits a fraud against an insurer, the insurer is not liable to pay the claim to which the fraud relates and, if the insurer has already paid, it can recover the monies paid out when it subsequently discovers the fraud.
In addition, insurers have another option which is to give notice that the contract is terminated from the time of the fraudulent act, with no obligation to return the premium. This enables the insurer to refuse all liability in respect of a relevant event after the fraudulent act (a relevant event is specified as referring to whatever gives rise to the insurer’s liability under the contract, usually the loss or damage but under some insurance contracts like professional indemnity, the notification of a claim). So if an insured makes a fraudulent claim for a theft of a necklace and subsequently suffers a genuine burglary, that burglary would not be covered if the insurer has adopted this course. The Explanatory Notes make clear that “fraudulent claim” and “fraudulent act” are different, the fraudulent act being the behaviour that makes the claim fraudulent. The Notes also make it clear that such fraudulent behaviour can take place after the initial submission of the claim so, for example, if a genuine claim is submitted in January and in March, the insured adds additional fabricated heads of loss, the fraudulent act is treated as taking place in March.
Fraudulent devices (basically false evidence to support what may or may not be an otherwise valid claim) have not been specifically addressed in the draft but left for judge-made law. It has been suggested in consultations, even in the latest House of Lords stages, that an insured making a genuine claim supported by fraudulent devices (referred to in the ABI’s evidence as “fraud-lite”) should be treated more leniently than an insured making a wholeheartedly fraudulent claim. This has not been picked up in the Bill in its final form.
There is now special provision in relation to group insurance (such as employment schemes, building policies for tenants and potential insurance taken out for a group of companies). This is designed to give the insurer a remedy against a fraudulent group member, while protecting others who are covered by the insurance.
Contracting out and transparency requirements
Different provisions as to contracting out apply depending upon whether the insured is a consumer or non-consumer.
Consumers. The Bill applies to consumers in relation to the provisions on fraudulent claims and Clause 15 operates to prohibit contracting out so as to place a consumer in a worse position than would have been the case under the draft Bill.
Non-consumers. The Bill, as it affects non-consumer business, provides that, with one exception, parties are free to agree to contract on terms which are less favourable to the insured than the provisions of the Bill. However, such terms will only be valid if the insurer has complied with the “transparency requirements” set out at Clause 17:
The insurer will need to make sure that it takes sufficient steps to draw “the disadvantageous term” (i.e. the term which places the insured in a worse position when compared to the default provisions of the Bill) to the attention of the insured before the contract is entered into or the variation agreed. The Explanatory Notes make clear that this could be discharged by drawing the term to the attention of the insured’s agent.
“The disadvantageous term” must be clear and unambiguous as to its effect.
When determining whether the transparency requirements have been met, the characteristics of the insured persons in question and the circumstances of the transaction must be taken into account (the relative sophistication of the insured and the involvement of a broker will be matters that are relevant).
The one exception to the ability to contract out is that parties cannot contract out of the abolition of “basis of contract” clauses; basis of contract will genuinely become a thing of the past.
Some insurers, especially on bespoke business, may want to give serious consideration to contracting out from parts of the new law. It will be interesting to see how widespread contracting out becomes and how feasible it will be from a commercial, as opposed to legal, perspective. The main impetus behind the law reform was that insurance law in the United Kingdom was seen to be outmoded and not in keeping with modern commercial realities. Many brokers were saying that London was losing out as a result, since clients saw insurance law in other foreign jurisdictions as being more suited to their needs. Care will also need to be taken if an excess layer wants to contract out but the primary does not.
What is not included in this legislation?
The Bill is also interesting for what is not included. Prime amongst the omissions is the much discussed duty on insurers to pay claims within a reasonable time. The Bill went through Parliament following the special procedure reserved for non-controversial Law Commission bills; it was felt that late payment of claims was too controversial for this process and was carved out of the Bill. While it was acknowledged during the debate on the Third Reading that this was not something for the “immediate future”, it was accepted that this is an area that is may see legislation at some point, but it would be in the form of a Government Bill.
Amendments to the Third Parties (Rights against Insurers) Act 2010
As a postscript, the Bill also amends the Third Parties (Rights against Insurers) Act 2010. The Act has not yet come into force since it currently fails to cover the full range of insolvent and defunct wrongdoers. The Bill rectifies these issues. This will be covered in a separate briefing note.
Seminars and training
DWF has been tracking the development of the Insurance Bill from the Law Commission’s initial proposals, through publication of draft clauses during last year and the recent introduction of the Insurance Bill into Parliament.
The Insurance Bill 2014 - 1 December 2014
Reforming Insurance Contract Law: Draft Insurance Contracts Bill and the Law Commissions’ proposals in respect of business insurance - July 2014
Insurance contract law reform: remaining draft clauses - March 2014
The Law Commissions' Proposals in Respect of Business Insurance - February 2014
We will be giving seminars across the country, and also providing bespoke workshops to insurers, brokers and risk managers.
This information is intended as a general discussion surrounding the topics covered and is for guidance purposes only. It does not constitute legal advice and should not be regarded as a substitute for taking legal advice. DWF is not responsible for any activity undertaken based on this information.