Out-Law Legal Update
High Court guidance will reassure banks acting to freeze accounts suspected of holding proceeds of crime
Out-Law Guide | 17 Mar 2008 | 3:19 pm | 14 min. read
This guide was last updated on 28th July 2010.
The aim of the Principles of European Insurance Contract Law (PEICL) is to establish a voluntary insurance contract law regime across the EU.
Although progress has been made towards a single European insurance market, relatively little cross-border insurance business is actually being done outside the field of large commercial risks. Differences in national laws and regulations mean that insurers still need to tailor their wordings to meet local requirements.
The Restatement of European Insurance Contract Law project group hopes to change this by allowing parties to opt out of national law regimes and agree that the insurance contract will be governed by the PEICL.
The PEICL project is part of a wider programme set up some years ago to create a Common Frame of Reference (CFR) for European general contract law.
Progress on this had stalled somewhat but, in November 2009, the European Parliament passed a resolution calling on the Commission to step up its work on developing the CFR as an optional instrument.
In May 2010, the Commission convened a new expert group to transform the draft CFR into a "user-friendly workable solution". The European Commission is currently consulting on what form that solution should take.
Various alternatives are considered, including a resource available on a website for people to use, a binding or non-binding "toolbox" for EU lawmakers, or an optional European contract law which could be chosen by the parties. Two options which seem unlikely are a full harmonisation of European contract law or some sort of European civil code.
The Commission's Green Paper also asks what the scope of the instrument should be: whether it should cover business-to-consumer and business-to-business and cross-border as well as domestic contracts.
Another possibility being considered is that the CFR should include sections for specific types of contracts, such as for the sale of goods or contracts of insurance. In this regard, the paper suggests, draft principles already drawn up by project groups such as the PEICL "could serve as an inspiration."
The PEICL were first published and presented to the European Commission in December 2007, and reproduced in substantially the same form in August 2009.
Part I is a general section applicable to all types of insurance and Part 2 focuses on indemnity insurance. Parts 3 and 4 have yet to be produced but will cover life insurance and liability insurance. It is intended that the final version will be accompanied by comments and notes referring to parallel provisions of national insurance contract law.
The PEICL would be optional, in that the parties would be able to choose whether or not the insurance contract would be governed by them. Once chosen, however, the principles would apply as a whole and no exclusions of particular provisions would be allowed (1.102).
In order to avoid a confusing mixture of laws applying to the contract, no recourse to national law would be permitted (1.105). Any questions arising from the contract that are not expressly dealt with by the PEICL would be decided according to common principles of European contract law (presumably as will be set out in the CFR) or failing that, under general principles common to the laws of the member states.
There is some flexibility, however, in that any provision in the PEICL not designated mandatory can be derogated from, as long as it is not to the detriment of the policyholder, the insured or beneficiary (1.103(2)).
In the case of large commercial risks, such as transport (aircraft, ships, rail and goods in transit) and risks where the policyholder carries on a business over a certain size, derogation is allowed for the benefit of either party.
The August 2009 version of the PEICL identifies as mandatory the provision stating that the principles apply as a whole, the provision allowing insurers to avoid the contract for fraudulent breach and other articles regulating fraudulent behaviour.
The principles are comprehensive, covering the relationship between the parties before, during and after the insurance contract is entered into.
Many provisions find their closest UK equivalent in insurance regulation, such as the information to be provided pre-contract (2.201) and included in the contract (2.501), or the obligation to notify the insured of any change in the insurer's address or legal status (2.701).
The general rules also reiterate current European anti-discrimination law on gender, nationality and race (1:207). Terms in the contract that breach these requirements will not be binding and will entitle the policyholder to terminate the policy on notice. This will eventually need updating to include age discrimination if and when the new Equal Treatment Directive comes into force.
In addition, the draft PEICL cover legal issues addressed by the English and Scottish Law Commissions in their ongoing review of insurance contract law (such as damages for late payment of insurance claims) and others outside the scope of that review (such as conditions precedent to the insurer's liability).
Unlike the Law Commissions' proposals, however, no distinction is drawn between consumer and business insurance - other than the provision allowing derogation in the case of large commercial risks.
Under article 2.101, the insurance applicant must inform the insurer of circumstances of which he is or ought to be aware and which are the subject of clear and precise questions.
This questions-only approach is similar to that proposed by the Law Commissions' draft Consumer Insurance Bill, although the Bill also spells out the consumer's duty to answer such questions honestly and with reasonable care.
Under the PEICL, of course, the provision would apply equally to consumers and business insureds, neither of which would have a duty to volunteer information. Where additional information is provided, however, the same remedies for negligent or fraudulent breach would apply (2.105).
Where the insured has breached his duty of disclosure but a claim under the policy has not yet arisen, the question is whether the contract can keep going in the future. Under the PEICL, the insurer can either propose a reasonable variation that will allow the policy to continue or terminate it altogether (2.102).
If the breach is innocent, however, the insurer can only terminate the contract if it can show it would not have concluded the contract at all had it known the information.
Once an insured event has occurred, the insurer's liability to pay the claim becomes an issue. In the case of an innocent breach, the claim is unaffected. But where the insured has been negligent, proportionate remedies apply.
The insurer's right to rely on a negligent non-disclosure or misrepresentation, however, will only arise if there is a causal connection between the loss and the breach (2.102(5)). From an English law perspective, this is a significant curb on the insurer's remedies and something that goes beyond the Law Commissions' otherwise fairly similar proposals for proportionate remedies.
Assuming there is a causal connection, the remedies for negligence under the PEICL are based on what the insurer would have done had no breach occurred. If the insurer would not have concluded the contract at all, no insurance money is payable. But if it would have charged a higher premium or imposed different terms, the claim will be payable proportionately or in accordance with those terms.
There are some exceptions. The insurer will have no remedy in respect of a question which was left unanswered or information which was "obviously incomplete or incorrect", or if the information was not material, or the insurer led the applicant to believe it was not required. Information of which the insurer was or should have been aware will also not give rise to any sanction (2.103).
Only in the case of fraud will the insurer be entitled to avoid the policy altogether and retain the premium (2.104). This is one of the PEICL's mandatory provisions. No causal connection is required but the insurer must have been led to conclude the contract by the policyholder's fraudulent breach.
If the PEICL regime applies, the insurer will be under a specific duty to warn the person applying for insurance of any inconsistencies between the cover offered and the applicant's requirements of which the insurer is or ought to be aware (2.202).
Similarly, if the applicant mistakenly believes the insurance came into force when his application was submitted and the insurer is or ought to be aware of this belief, the insurer has a duty to warn him when the cover will commence (2.203).
In either case, a failure to warn could leave the insurer liable for all losses arising from its breach and (in the case of inconsistencies in the cover) the insured will have the right to terminate the contract.
The closest parallel in the UK is the regulatory requirement to treat customers fairly and act with due skill, care and diligence, as well as guidance and rules in the Insurance Conduct of Business Sourcebook (ICOBS) about establishing the insured's demands and needs, eligibility and suitability of advice. Where such requirements are expressed as a rule (rather than as guidance) the insured has the right to claim damages for breach.
The insured will have a two-week cooling off period after receipt of the policy documents, during which he may avoid the contract (2.303). This does not apply to contracts of less than one month's duration, where the policy has been prolonged, or for certain types of cover, such as liability insurance.
For UK insurers, ICOBS provides a 14-day cancellation period for most general insurance products, but for pure protection or payment protection contracts the period is 30 days.
If the terms of the policy differ from the application or any prior agreement, the PEICL provide that the insurer must highlight the differences and remind the policyholder of his right to object. If the insured does not do so within a month after receiving the policy, he is taken to have accepted them (2.502).
Insurance policies (except for personal insurance) are assumed to last for a year, although the parties can agree a different period "if indicated by the nature of the risk" (2.601).
This period of cover will automatically be renewed ("prolonged") at the end of the policy period, unless the insurer gives a month's written notice to the contrary before expiry and gives reasons for its decision, or the policyholder gives notice at expiry or within a month of receiving a premium invoice that he does not want the cover to continue (2.602).
Under article 2.304, terms which have not been individually negotiated will not be binding on the insured if, contrary to the requirements of good faith and fair dealing, they cause a significant imbalance in the insured's rights and obligations under the contract to his detriment.
The provision applies to standard terms: that is, all terms that have been drafted in advance. The fact that one clause may have been individually negotiated will not change the character of a pre-formulated contract.
If the contract can continue without the offending clause, it will do so. Otherwise, the clause will be substituted by one "which reasonable parties would have agreed upon had they known the unfairness of the term".
The reference to terms which have not been individually negotiated creating a significant imbalance echoes the wording of the Unfair Terms in Consumer Contracts Directive (93/13/EEC), implemented in the UK by the Unfair Terms in Consumer Contracts Regulations 1999.
The UK regulations, however, only apply to consumer insurance, although the Law Commissions are considering extending them to cover micro-businesses (businesses with fewer than 10 employees and a turnover of less than €2 million). This would be part of a wider law reform that would also treat micro-businesses as consumers when they buy insurance cover. The Law Commissions abandoned as impractical an earlier proposal that sought to limit the effect of standard terms.
The PEICL regime significantly restricts insurers' remedies for breach of "precautionary measures:" clauses that, before an insured event occurs, require the insured to perform or not perform certain acts.
This would include certain types of conditions precedent - terms that expressly state that, if the insured fails to comply with the condition, the insurer will not be liable. It would also cover some warranties, which are usually in the form of a promise to do or not do something and which, under current English insurance law, must be strictly complied with or the insured automatically loses its cover.
Under the PEICL, a precautionary measures clause that allows the insurer to end the contract for breach will only entitle the insurer to terminate the contract if the insured has breached his obligation with intent to cause the loss or recklessly and with knowledge that the loss would probably result (4.102).
A clause totally or partially exempting the insurer from liability to pay a claim will only be effective to the extent the loss was caused by the non-compliance with intent to cause the loss or recklessly and with knowledge that the loss would probably result (4.103).
An insured who negligently (rather than intentionally or recklessly) breaches the term may find his insurance claim proportionately reduced according to the degree of fault, but only if there is a clear clause providing for this in the policy. Otherwise he is entitled to the claim in full.
The requirement to show intent or recklessness goes further than the Law Commissions' current proposals on warranties in insurance contracts, which only require a causal connection between the breach and the loss.
As for conditions precedent, English courts will generally uphold such terms if clearly expressed, whether or not the breach has caused prejudice to the insurer and whether or not there is a connection with the loss. The Law Commissions are not proposing to change this.
Terms in consumer insurance contracts, however, are subject to the Unfair Terms in Consumer Contracts Regulations. The claims handling rules in ICOBS also provide that, in the case of consumers and in the absence of fraud, it is unreasonable for an insurer to reject a claim on the grounds of breach of warranty or condition unless the circumstances of the claim are connected to the breach.
A common form of condition precedent requires the insured to give notice of an insured event within a certain period, failing which the insurer will not be liable to pay the claim.
Under the PEICL, however, late notification will only reduce the amount payable to the extent the insurer has suffered prejudice by undue delay (6.101). If the policy specifies a time limit for notification, that time limit must be reasonable and not less than five days. And the notice is effective from the time of despatch.
Notice can be given by the policyholder, the insured or the beneficiary as appropriate, but "notice by another person shall be effective".
If the insured fails to cooperate in the investigation of a claim, the amount payable may be reduced in proportion to the prejudice suffered by the insurer (6.102). But breaches committed with intent or recklessly and with knowledge that prejudice would probably result will enable the insurer to avoid paying the claim entirely.
The insurer is required to take all reasonable steps to settle a claim promptly – a requirement similar to the ICOBS obligation to handle claims "promptly and fairly".
Under the PEICL, however, the claim will be deemed to have been accepted unless the insurer responds in writing either to reject the claim or to defer acceptance - with reasons - within one month after receipt of the relevant documents (6.103).
Where the claim or part of the claim is accepted, the insurer must pay up without undue delay and not later than one week after acceptance and quantification (6.104). Interest on late payment will run from the time payment was due at 7% above the rate applied by the European Central Bank.
In addition, the claimant will be entitled to recover damages for any additional losses caused by the late payment (6.105).
The present position under English law is that in the case of general insurance the insured's only remedy for delay is interest. No damages are payable.
In March 2010, the Law Commissions published an issues paper suggesting that an insurer who acts in bad faith or who breaches its obligation to pay valid claims after it has had an opportunity for reasonable investigation should be liable to the insured for any foreseeable losses caused.
Part 2 of the PEICL deals specifically with provisions commonly found in indemnity insurance.
Article 8.101 is a restatement of the indemnity principle. The insurer is not obliged to pay out more than the amount necessary to indemnify losses actually suffered by the insured. Agreed values are valid even if higher than the actual value, provided no fraud or misrepresentation was involved when the value was agreed.
In the case of underinsurance, the insurer will liable for the full amount insured unless it offered cover on the basis of an averaging clause that reduces its liability in the same proportion the sum insured bears to the actual value (8.102). Where there is overinsurance, either party can request to reduce the sum insured and ask for a corresponding reduction in premium for the remaining period (8.103).
If the insured is separately insured by more than one insurer and an insured event arises, article 8.104 confirms that the insured can claim against any one of them to the extent necessary to indemnify the loss actually suffered. As between themselves, insurers are liable to contribute in proportion to the amount for which they are separately liable to the insured.
In English insurance law, the insured's right to choose which insurer to pursue is often hampered by a "rateable insurance clause" which limits each insurer's liability to its share of the loss. The insured has to claim against each of them if he is to recover in full. As it stands, however, article 8.104 leaves no room for such clauses.
The insurer can, however, reduce the amount payable under the policy according to the degree of negligent fault, as long as this is set out in a "clear clause". Otherwise, all negligent acts or omissions will be covered. But acts or omissions that cause the loss with intent, or recklessly and with knowledge the loss would probably result, will not be entitled to an indemnity (9.101).
The principles also address the question whether an insured who takes reasonable steps to mitigate an insured loss is entitled to recover his costs. Under the PEICL regime he can recover, even if the steps taken were unsuccessful and even if those costs together with the insured loss are greater than the indemnity limit. In effect, therefore, mitigation costs are "in addition" to the indemnity (9.102).
And subrogation rights, although preserved in Article 10.101, are not to be exercised against the insured's household, a person in an "equivalent social relationship", or an employee, unless the insurer can prove the loss was caused by that person intentionally or recklessly and with knowledge that the loss would probably result. The insurer must also not exercise its right to the detriment of the insured.
The European Commission's consultation on the Common Frame of Reference for European contract law closes at the end of January 2011. The Commission will then prepare proposals "before 2012", at which point it might become clearer how the PEICL will fit into the proposed framework.
Contact: Emily Bourne ([email protected] / 020 7418 7099)
Out-Law Legal Update
High Court guidance will reassure banks acting to freeze accounts suspected of holding proceeds of crime