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The
London market provides considerable reinsurance capacity for
Latin American risks. However,
the reinsurances in question, particularly if arranged on a
facultative basis, will often be governed by English law. The
impact of that is best considered before the policy is
concluded. Perhaps
nowhere is that more true than when considering the
disclosure which must be given by the insurer in order to
comply with the English duty of utmost good faith.
This article seeks to illustrate some of the pitfalls
this can hold, in the light of a recently decided English
case.
In
1997 a bank in Columbia purchased Bankers’ blanket bond and
professional indemnity insurances from two local insurance
companies. At
the time, the Bank and some of the employees of the insurers
knew that accusations of fraud were being made in the local
press about the Bank. The
Bank’s view and that of its president (who was personally
the subject of certain of those allegations) must have been
that these were ill-founded and the local insurers may have
taken the same view. The
local insurers arranged back-to-back reinsurance in London
but no disclosure was made to the English reinsurers about
these allegations. By
the time the reinsurance contract was finalised, the local
insurers in fact also knew (the judge found) that several
criminal charges had been laid against the Bank president and
that he had been suspended.
The insurers’ London brokers certainly appear to
have known about this but do not appear to have disclosed it
either.
In
due course these charges were dismissed.
Nevertheless, claims were made on the insurance and
those led to claims on the reinsurance.
At this point, the London reinsurers investigated and
found out about the situation which had existed when they had
been asked to reinsure.
They asserted that these allegations and charges were
material circumstances which ought to have been disclosed.
If these had been disclosed, they said they would not
have accepted the reinsurance.
Therefore they refused to pay the claims, elected to
avoid the reinsurance policy (“recision”) and sued the
insurer for a judicial declaration that this was the correct
outcome. The
dispute has now been resolved in the reinsurers’ favour.
The points which may be worth noting from this unhappy
tale are these.
Firstly,
since the criminal charges were in fact dismissed, why did
the English Court of Appeal consider they should have been
disclosed? This is perhaps the most important point in the case as it
resolves an issue which has caused considerable differences
between English judges in the past.
The legal analysis adopted by the Court of Appeal was
that the duty to disclose is not confined to “facts” in
the sense of matters which are certain.
An insurance or reinsurance buyer must disclose
“circumstances” which it knows.
In past cases, “circumstances” have been held to
include uncorroborated reports (for example from other owners
about a ship which might be the one an owner is seeking to
insure) and “intelligence.”
All that is excluded is gossip and rumour – and
deciding what those are is not easy.
Here
the circumstance which was being considered was a detailed
series of accusations. If
that was objectively material to reinsurers in this class of
business, it ought to be disclosed so they could form their
own view of it. Moreover
the result of allowing evidence as to the actual truth of the
allegations was, the Court of Appeal feared, a massive
trial-within-a-trial in England, to determine whether in fact
there had been any misconduct at the Bank.
This had consequences.
For the insurers, this view meant that the subsequent
acquittal or dismissal of the charges would be irrelevant
since, at the time the reinsurance was purchased, the local
insurers could not have known the charges would be dismissed.
Therefore all evidence and argument about the later
dismissal of the charges was excluded.
In
future cases, any insurer who finds itself in this situation
should not be deciding (as may have happened here) that the
allegations are ill-founded and therefore disclosure can be
excused. The
safe course is to disclose the fact of the allegations and,
if the insurer honestly thinks the allegations are
ill-founded, explain why that is so to the reinsurer.
That may make broking the reinsurance harder or the
reinsurance more costly, but that is preferable to having no
cover.
Secondly,
this case illustrates that the English concept of ‘moral
hazard’ is not confined to insurance – it has a role in
reinsurance cases also.
‘Moral hazard’ is a phrase usually used to
encompass heightened aspects of a risk brought about by the
low moral character of an insurance buyer – his or her
criminal record or his or her tendency to behave in a
dishonest fashion. Here,
the moral hazard represented by the allegations of dishonesty
against the Bank has led directly to the avoidance of the
reinsurance. Therefore, when arranging facultative reinsurance of this
type, the best course must be to disclose fully what is known
about any ‘moral hazard’ of the original insured (as well
as any moral hazard of the insurer itself – a far less
common consideration!)
Thirdly,
although in this case some of the claims do appear to have
formed part of the case initially pursued by the Columbian
authorities, it is worth emphasising that the remedy which
English law grants to an insurer (or reinsurer) in this
situation does not require the reinsurer to show that the
circumstances it asserts were not disclosed in fact have any
connection with the claim or claims which eventually arise on
the policy. The
first question is whether the circumstances not disclosed
were objectively material to underwriting the policy. Here the Court had no difficulty concluding that allegations
of dishonesty would be material to a fidelity policy. The second question is whether the non-disclosure affected
the actual underwriters’ approach to the risk.
Again, that point was decided in reinsurers’ favour.
The
moral of this tale is that care and caution in arranging
reinsurances, especially in the current hard market, is a
worthwhile investment.
(*) Alan Weir is a partner in Ince & Co’s Insurance and Reinsurance
Group, specialising in coverage advice and reinsurance
recoveries.
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