Case notes

Natasha Hawkins comments below on this recent decision by Mrs Justice Carr, which considers the circumstances in which insurers are entitled to avoid an insurance policy for non-disclosure or misrepresentation.

Background

Brit UW Limited (Brit), acting on behalf of Brit Syndicate 2987 at Lloyd’s, sought a declaration that it had validly avoided a contractors’ combined liability policy issued on August 19, 2013 to F&B Trenchless Solutions Limited (F&B), a specialist tunnelling contractor.

The dispute arose out of the derailment of a train which occurred on August 27, 2013 at a site at which F&B had recently constructed a micro-tunnel beneath a railway line and crossing. It was common ground between the parties that the cause of the derailment was settlement of the railway tracks caused by a void in the ground underneath. This void had occurred in July or early August 2013 (during or shortly after F&B’s work at the site), and was known to F&B prior to inception of the Brit policy.

Brit sought to avoid the policy in January 2014, on the basis that F&B had failed to disclose the settlement, and also on the basis that F&B had misrepresented to Brit that it did not carry out tunnelling works on active railway lines. F&B denied that Brit was entitled to avoid the policy and counterclaimed for damages and a declaration for an indemnity in respect of claims for remedial costs arising out of the derailment.

Key issues

The key issues in the case were as follows:

• Would disclosure of the settlement at the site and/or the fact that F&B had carried out works on an active railway line have influenced the judgment of a hypothetical prudent underwriter in deciding whether and on what terms to offer cover to F&B?
• As a matter of fact, did F&B tell Brit that it did not work on active railway lines?
• Did any non-disclosure or misrepresentation actually induce the Brit underwriter in question to offer cover to F&B on the terms agreed?
• Had Brit affirmed the policy? In this regard, F&B alleged that Brit (via its solicitors and/or the Lloyd’s broker who had placed the risk) had affirmed coverage between October 2013 and January 2014, and that its avoidance of the policy in January 2014 was invalid.

The law

In the judgment, Carr J provided an overview of the well-established test for material non-disclosure, as set out by section 18(1) of the Marine Insurance Act 1906. This provides that the assured must disclose every material circumstance known to him prior to conclusion of the insurance contract. Carr J confirmed that:

• whether a circumstance is material is a question of fact to be determined in each case
• a ‘material’ circumstance is one which would influence the judgment of a prudent insurer in fixing the premium or determining whether to take the risk (though it need not have a decisive effect), i.e. an objective test
• the non-disclosure must have induced the actual underwriter in question to enter into the policy, or to do so on the terms agreed, i.e. a subjective test.

Carr J also dealt with the issue of affirmation, confirming that, for an insurer to affirm coverage, it must have knowledge of both the facts giving rise to a right to avoid the policy and also the legal right to avoid. An affirmation must be unequivocal.

Carr J also pointed out that avoidance is a draconian remedy which should not be granted lightly.

Decision

Carr J found that F&B became exposed to claims for liability in respect of potential remedial costs as soon as significant settlement occurred at the site, and this exposure was a material fact which ought to have been disclosed to Brit. Importantly, F&B’s own opinion as to the significance of the earth settlement (it submitted that the settlement was minor and not at a level sufficient to have triggered an intervention by Network Rail) was found to have been irrelevant. On the facts, the settlement was sufficiently in excess of the 2–4mm initially predicted in F&B’s tender to be objectively considered material.

In addition, as a matter of fact, Carr J found that F&B had informed Brit that it had not and would not conduct tunnelling works under or near to active railway lines, and that this representation was false. Again, this was found to be a matter which materially increased the risk and which ought to have been disclosed to Brit.

Carr J held also that Brit had been induced by the non-disclosure in question, finding that the relevant underwriter had given clear evidence that, had he been told of the settlement during the placement of the policy, he would have excluded the site in question from coverage and would have asked F&B what it intended to do to prevent similar issues arising elsewhere in future.

On the issue of affirmation, Carr J found that Brit and its solicitors had properly reserved Brit’s rights while investigating coverage, and had made it clear to F&B that coverage might not be available in the event of material nondisclosure. In addition, Carr J reiterated the well-established principle that the Lloyd’s broker who had placed the risk was acting as agent of the insured throughout, save for the receiving and holding of premium and claims monies, and therefore could not have affirmed coverage on Brit’s behalf.

As a result, Carr J declared that Brit was entitled to avoid the policy and that it had validly done so.

Summary

The case provides a useful reminder of the applicable tests for materiality, inducement and affirmation. In particular, the judgment highlights the irrelevance of an insured’s assessment of the materiality of facts to be provided to underwriters; the test is an objective one. Indeed, Carr J found that the insured would otherwise become ‘judge and jury’ on the risk being contemplated by the insurer.

Of course, this decision comes before the coming into effect of the Insurance Act 2015, which will change the landscape in terms of remedies for material non-disclosure and misrepresentation. Once the new Act comes into force, unless the material non-disclosure or misrepresentation is made deliberately or recklessly (which may be difficult to establish), insurers will be entitled to avoid a policy only where they can show that, but for the material non-disclosure or misrepresentation in question, they would not have entered into the policy on any terms. Where a nondisclosure or misrepresentation is made innocently or negligently, and insurers would have entered into the policy but on different terms (other than terms relating to the premium), the appropriate remedy would be to treat the contract as if it had been entered into on those different terms. Where a higher premium would have been charged for the risk, the insurer would be entitled instead to reduce proportionately the amount to be paid on a claim.

While there is insufficient evidence in Carr J’s judgment to say with any certainty what the outcome would have been had this case been decided under the Insurance Act 2015, Brit did give evidence that, had F&B disclosed the fact of the settlement, Brit would still have written the policy, but would have incorporated an exclusion for claims arising out of activities at the site in question. Applying the new Act, therefore, Brit may not have been entitled to avoid the policy for material non-disclosure, but it may nonetheless have sought to have the insurance re-written with an exclusion of the site in question. The difference in outcome under the current law and the new law in this case may thus revolve around Brit’s obligation to return premium and on whether there were any other claims under this particular policy. If there were other claims, they would not be recoverable under the current law. Other claims (at different sites) might still be recoverable under the new law.

This case in the Commercial court concerned whether an innocent over-valuation of a super-yacht, the ‘Galatea’, enabled insurers to avoid the policy on grounds of a material nondisclosure. Leggatt LJ found in favour of the insurers but criticised the ability to avoid a policy where there has not been a deliberate or reckless non-disclosure as a ‘blot’ on English insurance law.

The facts

The Galatea was damaged by fire while at her mooring in the Athens Marina. The damage caused by the fire was such that the yacht was a constructive total loss. The yacht was insured under the policy for €13 million. The policy was in two sections: (A) Hull & Machinery cover for €9.75 million and (B) Increased Value of Hull and Machinery for €3.25 million. Before the cover was placed the yacht had been professionally valued at around €7 million and was at the time of the loss advertised for sale at €8 million. Insurers denied liability under the policy.

The claim

Action was taken by the claimants against the insurers. Liability was disputed by insurers on the following grounds:

• insurers were entitled to avoid the policy on account of the insured’s failure to disclose that that they had knowledge that the yacht was worth significantly less than the sum insured
• insurers were entitled to avoid the policy on the grounds of a misrepresentation in the proposal form as to the value of the yacht
• the claimant lost any right to claim against the insurers since it had failed to comply with policy conditions
• the claimant in any event could not recover for a total loss because it had failed to give a valid notice of abandonment and would only be able to recover a partial loss of the value of €9.75 million.

Judgment

In response to the above claims, Leggatt LJ found that:

• The failure to inform the insurers that the yacht had been professionally valued at €7 million and was on the market for €8 million at the time of the loss was a material non-disclosure. Although frequently super yachts are valued at their purchase price for a number of years after purchase, the fact that the insured had received a more recent valuation was material and would be something an underwriter would want to know. Evidence given at trial established that underwriters had been induced into the contract by the non-disclosure.
• The claimants had not made a misrepresentation in the proposal form as to the value of the yacht. A statement honestly believed at the time it is expressed cannot amount to a misrepresentation. The management company with responsibility for completing the form on behalf of the claimant honestly believed the value of the yacht to be the amount stated.
• The claimant had failed to provide sworn proof of loss within 90 days as required under the conditions of the policy. The claimant’s argument that they were not required to provide sworn proof of loss as the insurers’ agents attended the scene following the fire soon after it occurred – Leggatt LJ stated – was unanswerable. The failure to provide the proof of loss had the result of barring the claimant from bringing proceedings for the recovery of its claim.
• Furthermore, the court found that the insured had failed to provide notice of abandonment on the basis of total constructive loss. This failure had the effect of preventing the claimants from recovering under the section A (Hull and Machinery) cover. However, the failure to provide a notice of abandonment did not impact the section B (Increased Value) cover as the insurers had agreed to waive interest in recovery of the vessel.

In addition to the above, the claimant joined brokers to the proceedings on the basis that they had been negligent in their duties in arranging the cover. London market brokers were found to owe no duty of care to the insured as the placing brokers had no contact with the claimant or its manager and dealt exclusively with the Greek brokers. Accordingly there was no assumption of responsibility by the London broker towards the claimants. In contrast, the producing brokers in Greece were found to have been negligent in the performance of their duties towards the claimant and were liable to pay damages of €2 million, being 25 per cent of the hull cover.

Comment

The Galatea provides an interesting review of the law on over-valuation, particularly as it is likely to be one of the last cases on non-disclosure before the Insurance Act 2015 comes into force next year.

In PA(GI) Ltd v GICL 2013 Ltd and another [2015] EWHC 1556, the High Court ruled that liabilities relating to mis-selling of payment protection insurance (PPI) underwritten by the claimant did not transfer to the first defendant under an insurance business transfer scheme under Part VII of the Financial Services and Markets Act 2000 (FSMA).

The claimant sold creditor insurance policies and PPI through third party agents, including to a well-known clothing retailer who sold the PPI policies in connection with its store card accounts. Under a profit-sharing agreement between the parties, the retailer received 85 per cent of the underwriting profit from the PPI business it sold. The retailer ceased selling PPI policies on the claimant’s behalf in 2004. Since 2012, however, several hundred customers have complained to the Financial Ombudsman Service (FOS) that they were mis-sold PPI. A series of Part VII transfers took place between 2005 and 2013, with the claimant arguing that liability for any potential misselling was transferred to the first defendant under a 2006 scheme. The FOS provisionally decided that such liabilities were not transferred and that the claimant remains the responsible insurer and the correct respondent to mis-selling complaints.

In deciding the issue before the court, Andrews J considered the construction of the definition of ‘Transferred Liabilities’ in the 2006 scheme documentation, specifically whether liability for mis-selling fell within the meaning of ‘liabilities of the Transferor…under or attaching to the Transferred Policies…’ On this construction point, the court found that, as a matter of natural interpretation, liability for mis-selling would not arise ‘under’ or ‘attach to’ a contract of insurance. Andrews J further stated that the natural interpretation makes commercial sense in the context of the transfer. In the absence of an express provision, the court was unconvinced that the first defendant would have agreed to accept an open-ended liability for the claimant’s mis-selling in relation to insurance business for which it received no premium.

Significant weight was also given to the intention of the parties in the drafting of the 2006 scheme documentation. The court noted that an intention to make provision for the transfer of mis-selling liabilities would qualify as an unusual feature of a scheme which might have a material financial impact and would, therefore, be expected to be expressly disclosed in application for a Part VII transfer. Neither the scheme documents nor the report of the independent expert made express provision for, or even referred to, any possible liabilities for the alleged historic mis-selling of PPI. The court concluded that it is inherently unlikely that, if the parties did intend to transfer liability for mis-selling claims to the first defendant, the documentation would have been silent on the topic.

The court concluded that any liability for the alleged mis-selling of PPI was not transferred to the first defendant and, therefore, the claimant is the responsible insurer for any claims before the FOS. The case also highlights some important drafting considerations and the court’s approach to the construction of definitions in the absence of express provisions.