Can we have a one size fits all law or will any meaningful review of insurance law inevitably create a two tier system?

The Marine Insurance Act 1906 is widely seen as the nearest thing in English law to a statute setting out principles of insurance law generally; it is used by the courts, the industry and its advisers as the default position on most issues of insurance law. It is, however, 100 years old and a codification of at least two centuries of preceding maritime case law. The Act has survived essentially unchanged with very little supplementary legislation through the ensuing century. The insurance and reinsurance market has changed out of all recognition several times since 1906 (just like the rest of the world) and the pace of change continues to accelerate.

The position of insurance law is in marked contrast to that of company law, which the Government recognises the need to overhaul, along with corporate governance, with almost monotonous regularity. There have been no less than nine Companies Acts over the last century, but company law is once again undergoing extensive reform, with legislation expected in 2007, on the basis that it generally has its provenance in the 19th Century and does not match the needs of the 21st.

An interesting parallel is that this major overhaul of companies’ legislation will continue a process of convergence on company law between the regimes of Europe and the US. These events have been partly kick-started by global corporate scandals such as Enron and Worldcom, aspects of which are not dissimilar from some of the things that Eliot Spitzer has uncovered. Regulatory change, of which there is plenty too in the corporate field, has been deemed insufficient to meet the need.

But the insurance law of EU members remains resolutely disparate. There are no measures effectively in hand to standardise the legal relationships created by purchasing an insurance or reinsurance policy so that there is some measure of consistency of result in different states of the European Union. The rules for claims made policies vary from member state to member state; the consequences of non-disclosure are different and so on; yet these are countries with whom we are in economic partnership.

Meanwhile, however, one further issue identified as a potential driver for reform is the whole question of fitness for purpose and having in place an insurance law framework which works just as well for the needs of private consumer buyers (and such needs are viewed as paramount, not only by the EU but our own domestic regulators like the FSA) as for the needs of sophisticated high value complex product purchasers from medium and large businesses who are very well able to look after themselves in any engagement with insurers, and the even more specialist demands of the reinsurance community. Can we have a one size fits all law or will any meaningful review of insurance law inevitably create a two tier system? One thing is clear, the reinsurance community cannot afford to ignore the debate on fundamental principles governing both consumer and reinsurance contracts just because it is the consumer agenda which is partly driving the pro-reformists.

So if there is going to be change - and that is by no means certain at this stage - how fundamental could or should it be?

To date, debate about reform has largely centred to date around the remedies for material non-disclosure and breach of warranty, both of which entitle the insurer to repudiate the contract of insurance in its entirety. The law following Pan Atlantic –v- Pine Top requires an applicant for insurance to disclose all facts that would have an effect - not necessarily decisive - on the mind of a prudent insurer in assessing the risk. The Commission is concerned, as were many of the previous commentators, that this is a test capable of giving rise to unfairness, particularly in the consumer context.

Similarly, breach of warranty discharges an insurer from all liability from the time of the breach, requiring no causal connection with the underlying facts of any relevant loss. Although such clauses come and go according to the softness of the market, “basis of the contract” clauses can be used to give answers in the proposal form the character of warranties.

The Commission decided that it will include these two topics within the review and in addition, that marine, aviation and transport insurance law, unlike its last review in 1980, will not be excluded, but will be considered in any event.

That, however, is not the end of the matter. The scoping paper identifies a whole raft of further issues for potential debate, and indeed invites suggestions for other topics. Self-evidently this presents, to say the least, a challenge. While the Commission expects to get its next consultation paper stage completed and out by the end of 2006, the more there is in it, the lengthier and more complex the process will be from the critical standpoint of devising a new Insurance Law Reform Bill, if that is the desired end result, and getting it on to the statute book. As a starting point, the Commission therefore invited those responding to the scoping paper to grade the responses high, medium or low priority.

The difficulty is that whenever one examines any particular aspect of insurance law - even the implied high priorities of nondisclosure and breach of warranty - it is very hard to address them discretely without a multitude of other associated issues presenting themselves. Furthermore, there are clear dangers that piecemeal law reform could lead to a fragmented, inadequate and inconsistent result.

Insurable interest:
It is highly questionable whether an 18th Century statute is the appropriate vehicle for the law on this topic. The Life Assurance Act 1774 has been considered in many cases since it was passed without any significant clarification along the way, most recently in Feasey –v- Sun Life Assurance 2002 where the question was explored in reinsurance of protection and indemnity club personal accident payments on marine energy business. Lord Justice Ward:

“Insurance business is no longer conducted in the coffee shop. It is now a massive market and for contracts between commercial men to be respected, the law should march with the times”.

Statutory definition of insurance:
There is a definition of marine insurance in the1906 Act –

“A contract of marine insurance is a contract whereby the insurer undertakes to indemnify the assured, in manner and to the extent thereby agreed, against marine losses, that is to say, the losses incident to marine adventure”.

So now you know.

The trouble with insurance contracts is that they are not necessarily easier to spot than to define.

Think about the debate over finite reinsurance . Is it insurance, or a loan? Is there any risk involved? While regulation can help by offering some qualifying indicators, it does not answer the underlying conceptual question.

The Financial Services Authority (FSA) which polices such matters in the UK is not always able or willing to give guidance on what is and is not caught on such questions. And indeed a bigger issue hangs thereby, in that the Regulator’s role should be to regulate not to legislate.

Agency:
Should the broker continue to be the agent of the insured so that what it knows is imputed to its principal; what about the complexities in relation to knowledge of the agent to insure in contracts involving both producing and placing brokers? Should brokerage be deemed earned fully on placement? If so, how are we going to deal with the cost of managing claims which may emerge decades down the line? Brokers are understandably increasingly unwilling to do this without additional remuneration.

Whose job is it to keep documents and who is entitled to see them post-placement? Is it defensible that in the recent Goshawk –v- Tyser case, and not for the first time, duties had to be defined by reference to market convention and an implied contract, rather than hard law?

Who pays the brokerage? Traditionally, of course, the underwriter, out of the premium he has received, but is that a valid concept today? Should a marine broker continue to be liable to the underwriter for the premium? Are volume agreements between brokers and underwriters in fact a legitimate mechanism when disclosed for the funding of possible long term obligations on the part of brokers?

What about binding authorities? Who is entitled to interest earned on monies held by brokers if it does not pass quickly through their hands? We have not even begun to touch upon the law of underwriting agency.

Subrogation:
When in construction contracts should an insurer be able to bring subrogation proceedings against a sub-contractor who may have part funded the premium?

If subrogation is to be exercised why should it not be done in the insurer’s own name? The question gets more interesting still when you consider the European angle. If one reason for re-legislating is to prevent the imposition of an external regime, to be effective in that goal, considerable thought has to be given to making more than a conceptual nod in the direction of European insurance principles.

Insurers in certain European jurisdictions are at liberty to proceed in their own name to recover paid loss. They are equally, however, exposed to claims by third parties which may not even always be subject to the same checks and balances that exist between insured and insurer by virtue of policy language. Is it therefore going to be necessary to open up subrogation as, effectively, a two way street which includes direct action rights against insurers?

Post-contractual good faith and fraud:
It seems hard to justify looking at the question of utmost good faith, as one inevitably must, without looking at the pre and post-placement aspects of it. It is furthermore linked to the question of fraud and fraudulent quantum in particular. My firm was involved as co-sponsor in an industry fraud survey last year which found some alarming levels of acceptance of behaviour on the part of potential claimants. The phrase itself is in any event far from clear in an insurance context and the line with exaggeration is blurred sometimes. There is a Fraud Bill which is currently before Parliament which will introduce a new statutory definition of fraud for criminal purposes and this process ought to be extended to the civil consequences in any insurance bill.

Delay:
The insured public frequently complains about insurers’ delay. Loss caused by delay can only sound in interest at present, not always a complete answer for insureds whose financial integrity is compromised beyond repair by denial of prompt indemnification. Once again this is an area where attention to European practice may pay, if only to avoid some of their excesses. In countries such as Spain, for example, penalty interest at the rate of 20 percent is frequently levied retrospectively from the date of loss in cases where undue delay has taken place, which is to say any case where coverage is challenged unsuccessfully.

The position of insurer and particularly the insurers’ right to carry out a claim investigation needs to be preserved. If pressure is going to be brought to bear to investigate and settle losses more quickly, insurers need to be able to take such measures without fear of being held to have waived rights or affirmed the policy prematurely.

Reinsurance:
There is a view that a new Act need not address reinsurance hardy perennials like follow settlement clauses, aggregation clauses and so on; equally, however, many are of the view that core principles of insurance and reinsurance should remain essentially the same, even if the harshest consequences of the current law are statutorily relaxed for the benefit of the consumer insured. The commercial , arm’s length, more evenly balanced bargaining position of the specialist reinsurance buyer and seller and the continuing desirability of finding creative and innovative solutions justifies a greater degree of freedom of contract. Any Act therefore needs to state that unequivocally to be the case.

What should be the role of the regulator?
Although contract certainty is on the Law Commission’s list, this seems to be one area where the majority seem to favour leaving it in the hands of the FSA who have already staked out the territory.

It is fair to say that the FSA seems to be relatively pleased with progress and prepared to lower its guns on this issue at least for the time being. An uneasy tension exists here, as in much else, between the pressure for reform and further restraint on the market’s ability to be flexible and innovative up until, and perhaps beyond, the last minute.

Regulators, like nature, abhor a vacuum and will expand to fill any space not otherwise occupied by comprehensive, up to date legislation. The ultimate concern of course is not simply that daily lives may be made a little bit more irksome by the regulator’s intentions, but that over-regulation is burdensome, inefficient, time consuming, expensive and ultimately a brake on our ability to host a competitive industry environment. The Lord Mayor of London recently spoke of the need to resist regulatory encroachment in order to preserve the market’s ability to compete with growing threats like Bermuda.

How then are we to balance the interests of insureds, insurers, reinsurers and brokers?

All can agree on the desire for a strong market that will continue to be a world leader.

I believe that a coherent restatement of enshrined principles (as opposed to mere ingrained habits and obscure and outdated conventions) should be embodied in a single piece of legislation. If that cannot be achieved in one hit then a phased process, as seems to be favoured by the Law Commission, tackling pressing issues like avoidance for non-disclosure or breach of warranty early on and thereafter in order of priority, is probably the next best thing.

Whilst there is considerable recognition of the principle that the strictness of some rules should be relaxed for the consumer and small business purchasers of insurance, perhaps by emphasising proportionality, a single overarching law of insurance for all is desirable, embracing reinsurers as well as insurers, brokers and insureds.

Much has been said in the last twelve months or so about transparency in remuneration arrangements and it seems right that all parties to a transaction like insurance should know not only what they are getting, but how much they are paying for it and to whom, and indeed whether other arrangements exist between any of the parties to the contract which may have a bearing upon their own expectations of it. In the context of transparency, it may also be of considerable relevance to many insureds at the larger business end to know precisely how much influence is exerted over their insurers by reinsurers.

And if, for whatever reason, income streams are leaving the broking process which in one way or another have helped fund the brokers’ ability to discharge a claim support function, sometimes many decades after the original premium has been earned, it is unrealistic to expect the brokers to continue to do that without substituting a current remuneration arrangement. One can see many ways in which that could be achieved.

Is there a will to find a way?:
Many are daunted by the enormity of the task. It is clearly on any analysis, except the most pared down, a long term project. Some doubt whether the political will or need exists to undertake such a project.

The Government clearly considers that the need exists in relation to corporate law and is hard to see how the same reasoning can be resisted in relation to insurance law. This country, as the provenance of the 1906 Act amply demonstrates, has been the world’s leader in insurance for much of the last three centuries. The clarity and coherence of our law in this area, which has itself drawn litigants to these shores for almost as long, in the expectation of obtaining a fair and consistent determination of their commercial disputes; but it is now showing its age, and needs to be renewed.

The insurance market employs many thousands of people in the UK and is a major contributor to our financial services industry, including as an exporter. It is of critical importance to the country’s economy, and to business itself, that we maintain our competitive status and the ability to continue to lead and set a standard which others will be prepared to accept and follow.

The possibility that this could be a long drawn out process almost raises the stakes as regards Europe: unless we can devise something relatively quickly, we may still find the initiative taken away from us and be forced to conform with what are at present some very unfamiliar concepts. We need to look outside our own boundaries and carry out a thorough study of the way in which key issues are addressed in other European jurisdictions before we allow views to harden on what form new law might take. It would be pyrrhic indeed to slog our way to a new Insurance Act to find it politely dismissed by Europe as having no broader relevance.

The evils of over-regulation and expansion of the regulator into areas on which the law is otherwise silent or redundant can perhaps be averted to some extent by commitment to a comprehensive rather than a piecemeal approach.

If reform is taken on piecemeal, it will show in the integrity of the end result. If it is considered that reform is justified, it should be undertaken in a spirit and with a commitment capable of satisfying the highest aspirations to be attached to a project of such magnitude.

This Special item appeared in issue 109 of JTW News - October 2006

Author: Keith McKenzie - Davis Arnold Cooper.