This article first appeared on the Thomson Reuters ‘Accelus Regulatory Intelligence’ website, 21.09.16
In July 2016, the Supreme Court gave judgment in Versloot Dredging -v- HDI Gerling Industrie Versicherung (‘Versloot’). The judgment has profound implications for dealings between insurers, insureds and brokers. Primarily, it raises questions about the integrity of claims intermediation.
There are also implications for the ways that insurers might seek to set policy terms to govern the honesty of insureds’ or brokers’ handling of claims. Reliance on any such terms to deny claims could give rise to coverage disputes. A coverage dispute in turn can give rise to issues over conduct risk for insurers and intermediaries, such as how a policy was designed, marketed and negotiated.
In January 2010 a cargo ship was incapacitated on a voyage by seawater flooding its engine. It took its insurers some three months to investigate the claim, which caused the ship’s managers frustration, and to worry that there had been failings in the vessel’s safety systems which could lead the claim to be excluded by policy terms. Accordingly, one of the managers developed a theory that the [relevant water ingress] alarm had sounded, but the crew had been unable to investigate or deal with the [flooding] because of the rolling of the ship in heavy weather.
[The manager] pretended that he had been told about the alarm activation by members of the crew. The judge found that this was a reckless untruth.
In fact, the lie was irrelevant to the merits of the claim. The [first instance] judge held that the loss was proximately caused by [an insured peril such that the policy could respond]. However, he held that that claim was lost as a result of the collateral lie.”
The appeal process in Versloot involved a wholesale review of the law on the extent of the honesty required from insureds in dealing with insurers. The upshot was that where the insured is trying to obtain no more than the law regards as his entitlement and the lie is irrelevant to the existence or amount of that entitlement, then the insured’s claim cannot be defeated.
The essence of the judgment is that in making a claim, the insured is required to be honest with the insurer only with respect to the grounds and quantum of the claim. Dishonesty on other factors, such as to matters subsequent or extraneous to the circumstances that comprise the factual and legal basis for the insurance claim, will not cause the insurer any detriment from which it should be protected as a matter of law.
The Court explained that:
“The starting point is that in law it is not a precondition of the insurer’s liability that a claim should have been made on him. The insured’s right to indemnity arises as soon as the loss is suffered …”
“… there is an obvious and important difference between a fraudulently exaggerated claim and a justified claim supported by collateral lies. Where a claim has been fraudulently exaggerated, the insured’s dishonesty is calculated to get him something to which he is not entitled …”
The Court made it clear that an insurer is not inherently entitled to protection from making “wasted effort” by being “put off relevant inquiries or … driven to irrelevant ones” as a result of the insured’s attempt to “gild the lily” in presenting a claim – such protection would:
“serve only to protect [an insurer] from the obligation to pay, or to pay earlier, an indemnity for which he has been liable in law ever since the loss was suffered.”
The Court also highlighted that –
“… the insurer’s assessment of a claim is of a quite different character from his assessment of a risk at the pre-contract stage...
… [with a claim] the only question properly before [the insurer] is whether to acknowledge a liability that … exists … whether or not he realises it. Ultimately, his assessment is simply an attempt to predict what a court would decide.”
There is an inherent tension in the insurance market over claims. The profitability of insurers and intermediaries is inextricably linked to claims on books of business being a fraction of the premium on those books. Conversely, expectation of the payment of claims is, of course, the reason insurance is purchased, and the ratio of claims to premiums has become a key indicator for the FCA of the extent to which customers in insurance markets are treated fairly, and the integrity of those markets.
Moreover, the ability to expedite claims payments is a key factor in insureds’ retention of brokers. In Versloot, the time taken for the insurer’s claims decision led to the insured’s dishonesty.
It may be that some insureds or brokers may rely on Versloot to use untruths to persuade insurers to pay claims. Versloot referred to the House of Lord’s assessment, in ‘The Star Sea’  UKHL1, of the claim presentation in another case, called the ‘Litsion Pride’  1 Lloyd's Rep. 437, and an observation that the presentation:
“… was only fraudulent in so far as the broker had not been truthful in dealing with the insurers at [the claim] stage …”
In the Litsion Pride case, it was the insured that had produced false information; the broker had merely presented it as instructed.
Nevertheless, Versloot could create commercial pressures for brokers to deploy collateral lies. To do so would of course cut across the principles of integrity that are fundamental to FCA regulation. Even in relation to the Insurance Act 2015’s provisions as to “fraudulent claims”, the Supreme Court noted that, without any cause and effect on policy liability, collateral lies do not trigger the remedies under section 12.
It may be that in response to commercial pressures insurers will seek to impose policy terms to procure honesty in all respects of claims. If so, disputes may well arise as to the application of section 11 of the Insurance Act, and whether such ‘honesty / moral hazard’ terms “tend to reduce the risk of loss …”, and if so, whether requiring complete honesty in claims presentations could be a term that “defines the risk as a whole”.
Depending on the answers to these questions, a collateral lie might well be found “not have increased the risk of the loss which actually occurred in the circumstances in which it occurred”, so ‘honesty’ terms might not help insurers unless they have successfully contracted out from the Act. Contracting out can bring its own conduct risk pressures in terms of the insurer’s and broker’s respective duties as to the insured’s knowledge.
Compliance specialists may find interesting the mention in Versloot of ‘information asymmetries’, being a significant concept for the FCA (see the 2015/16 Business Plan). Versloot explained the basis for the common law protection traditionally provided to insurers (eg the ‘duty of utmost good faith’) because of –
“… the asymmetrical positions of the parties to an insurance contract, the insurer being vulnerable on account of his dependence on the insured for information both at the formation of the contract and in the processing of claims …”
It may be that the judgment helps align common law and regulatory thinking on the dynamics of the insurance product life cycle.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.