Out-Law / Your Daily Need-To-Know

Third Parties (Rights against Insurers)

Out-Law Guide | 06 Jan 2010 | 3:26 pm | 10 min. read

The Third Parties (Rights against Insurers) Act 2010 makes it easier for a third party to pursue a claim directly against liability insurers if the insured is or becomes insolvent.

This guide is based on UK law and was last updated in June 2016

UPDATE June 2016: This guide was prepared in March 2010 and has been updated in June 2016. The Third Parties (Rights against Insurers) Act 2010 (Commencement) Order 2016 was made on 28 April 2016. It provides for the Third Parties (Rights against Insurers) Act 2010 to come into force on 1 August 2016.

The 1930 Act

The aim of the Third Parties (Rights against Insurers Act) 1930 was to protect insurance proceeds from the effects of the insured's insolvency.

At common law, if a person insured under a liability policy incurs a liability to a third party but goes bankrupt or into liquidation, any money subsequently paid out by the policy will go to the trustee in bankruptcy or liquidator and form part of the insured's assets for distribution to all creditors. 

Under the 1930 Act, however, the insured's rights against its insurer are automatically transferred to the third party on the happening of any one of a series of specified insolvency events. Once the insured's liability has been established, the third party can pursue its claim directly against the insurer and the policy proceeds are preserved from the pot of assets available to the insured's creditors.  

In 2001, the Law Commissions of England and Wales and Scotland reviewed the 1930 Act and concluded that it was not working as well as it should. Their final report set out proposals for reform which have been reproduced in the new Act with only minor modifications.

The Act retains the automatic transfer of rights to the third party. But it enables the third party to pursue its claim in a single set of proceedings and makes it easier to find out information about the insurance policy from an early stage. It also updates and expands the list of insolvency procedures to reflect changes in insolvency law since the 1930s.

The new Act will apply to the UK generally, but includes some provisions specific to court and insolvency procedures in Scotland and Northern Ireland.

Becoming a "relevant person"

Under section 1 of the new Act, the rights of the insured under the policy are transferred to the third party if the insured is already a relevant person when it incurs the liability to the third party, or the insured has already incurred the liability when it becomes a relevant person.

The insured is or becomes a relevant person if there is in force one of the specified insolvency procedures. For individuals, these include a debt relief order, an administration order, an individual voluntary arrangement or a bankruptcy order (s.4).

A limited company or an unincorporated organisation such as a partnership becomes a relevant person if a voluntary arrangement or administration order is in force, a receiver, manager or a  provisional liquidator has been appointed, the body is (or is being) wound up voluntarily or by order of the court, or the company has been dissolved (s.6).

Other procedures specific to Scottish and Northern Irish jurisdiction are included in the list.

Part 6 of the Insurance Act 2015 introduces an amendment to the new Act by providing the Secretary of State with the power to change the meaning of ‘relevant person’ by regulation (new section 19 of the new Act).

Establishing liability

Under the 1930 Act, before it could start an action against the insurer, the third party had first to "establish" the insured's liability by judgment, settlement or arbitration award. If the insured company had been dissolved, the third party would also have to apply to the court to restore the company to the register. 

Under section 1 of the new Act, however, once rights have been transferred, the third party may bring an action against the insurer "without having established the relevant person's liability". The insured's liability must be established before those rights can actually be enforced, but this can be achieved by a declaration of the court, as well as by judgment, settlement or arbitration award.

These important provisions mean that the third party only has to issue one set of proceedings against the insurer (and, optionally, the insured), asking the court to make declarations both as to the insured's liability to the third party and the insurer's liability under the policy (s.2).

The declarations will bind the insurer but not the insured, unless the insured is a party to the proceedings. New court rules will require the third party to notify the insured about the action against the insurer, giving the insured the option of applying to be joined as a defendant.

Where the claim is brought in arbitration, the tribunal can be asked to make the same declarations as the court. There are also specific provisions about establishing liability in Scotland, where the third party applies for a "declarator" from the court or arbitration tribunal.

Defences

As under the 1930 Act, the transfer of rights will not put the third party into any better position than the insured.

The insurer can, therefore, rely on any defence the insured would have had against the third party had the action been brought against the insured, such as limitation or contributory negligence (s.2(4)).

In its claim against the insurer, the third party will be subject to the same policy terms, indemnity limit and excess as would have applied to the insured. And the insurer will, for the most part, have the same policy defences against the third party as it would have had against the insured.

Consequently, if the insured made a material non-disclosure or misrepresentation when taking out the cover, or if it has breached a warranty or a condition precedent in the policy, the insurer will have a defence to the claim.

The new Act, however, includes some exceptions. In cases where the transferred rights are subject to a condition the insured has to fulfil, anything done by the third party which, if done by the insured, would have fulfilled the condition, will be treated as if done by the insured (s.9(2)).

This would apply, for instance, to a condition precedent requiring the insured to give notice of a claim within a certain time limit. If the third party notified the claim within the time limit, the insurer could not rely on the fact that the notice was not given by the insured. The third party would nevertheless have to act promptly to ensure the claim was notified in time.

Transferred rights will also not be subject to any condition that requires the insured to provide information or assistance to the insurer if the condition cannot be fulfilled because the insured no longer exists - because he has died or it was a company that has been dissolved (s 9(3)).

"Pay first" clauses, which require the insured to pay sums due to the third party before claiming under the policy, will also not apply when rights have been transferred under the Act, except to a limited extent in marine insurance and then only where the liability is for death or personal injury (s.9.(5) and(6)).

In addition, the insurer has a right to set off against its liability to the third party any liability the insured had to it, such as unpaid premium (s.10).

Limitation

There are two relevant limitation periods. One applies to the third party's claim against the insured and the other to the third party's claim against the insurer under the new Act.

Under the Limitation Act 1980, claims must generally be brought within six years from the date on which the cause of action accrued.

If the third party's claim against the insured is in contract, time runs from the date of the breach. In negligence claims, the cause of action accrues when damage occurs. In the case of latent damage, however, there is an alternative limitation period of three years from the date the claimant had the knowledge required to bring an action and the right to bring it.

The third party's claim against the insurer is subject to the same limitation period as the insured's claim against the insurer: six years from the date the cause of action arose, which is the date when the insured's liability to the third party was established.

Under the new Act, as under the 1930 Act, the insurer will generally be able to rely on any limitation defence the insured would have had against the third party and on any limitation defence the insurer would have had against the insured.

There is one proviso, however. If the third party began proceedings against the insured within the limitation period, but before those proceedings were concluded and after the original limitation period expired, it started a new action against the insurer under the new Act, that claim would not be time-barred. The insurer would only have a limitation defence in these circumstances if the insured had a valid limitation defence to the first action (s.12).

What is recoverable

If the insured's liability to the third party is less than the insurer's liability to the insured, the third party has no right to claim the difference (s.8). This would apply if, for instance, the policy covered the insured's costs of defending the third party claim. The insured would retain the right to recover those costs from the insurer.

The new Act also confirms that, once rights have been transferred, the third party can no longer enforce those rights against the insured, except to the extent the insured's liability exceeds the amount recoverable from the insurer (s.14). This was an area of uncertainty under the 1930 Act. The new Act makes it clear that the third party can only pursue the insured to the extent there is a shortfall in cover.

Specific provisions apply where the insured has become a relevant person as a result of a voluntary procedure. Arrangements under that procedure will apply to any shortfall recoverable from the insured.

If the third party is unable to recover from the insurer because of the insurer's own financial difficulties, it will, if eligible, be able to claim under the Financial Services Compensation Scheme (s.14(7)). If it fails to do so, this could reduce any shortfall it may be able to claim from the insured.

Obtaining Information

Under the 1930 Act, one of the main difficulties for third party claimants was obtaining information about the cover, or even the identity of the insurer. Insolvency practitioners can be slow to respond to requests and may not be able to provide any information at all if records have been lost or badly filed.

The new Act attempts to limit these problems by widening the category of people who can be asked to provide information and by setting a time limit on their response.

Under Schedule 1, the third party can ask for information by notice in writing from the insured or from any person who is able to provide it. This might include insurers, brokers and anyone else authorised to hold policy information. A person is able to provide information if he can do so "without due difficulty" from a document within his control or from his own knowledge.

Before requesting information from the insured, the third party must reasonably believe the insured has incurred a liability and is a relevant person, i.e. is subject to one of the listed insolvency procedures.

Before requesting information from anyone else, the third party must also reasonably believe an insurance policy was in place, that rights under the policy have been transferred to it and that the person in question is able to provide the information.

Paragraph 1(3) sets out what information the third party is entitled to request. This includes: whether there was a policy in place that might cover the supposed liability; the identity of the insurer; the policy terms; whether the insurer has denied liability; whether any proceedings have been issued (and if so, relevant details); whether there is an aggregate limit of indemnity and, if so, how much (if anything) has been paid out on other claims; and whether there are any fixed charges which would apply to any sums paid out.

A person receiving the notice must respond within 28 days providing what information he can, or explaining why he is not able to provide it and (in the case of documents no longer in his control) who he knows or believes has the information. If the person fails to comply, the third party can obtain a court order against him.

In the case of defunct companies, paragraph 3 enables the third party to obtain disclosure of relevant documents from the ex officers or employees of the company or from an appointed insolvency practitioner or official receiver, without first having to restore the company to the register.

For this mechanism to apply, the third party must have already started proceedings against the insurer and the notice requesting the information must be accompanied by particulars of the claim. Court rules on disclosure and inspection then apply and the recipient has 28 days to serve a list of documents.

Scope

The new Act, like the 1930 Act, will not apply to reinsurance. Section 15 confirms that it does not apply "where the liability referred to…is itself a liability incurred by an insurer under a contract of insurance."

There was some doubt whether the 1930 Act applied to a liability voluntarily undertaken by the insured, such as a liability under an extended warranty. In 2001 the Law Commissions recommended the position be clarified so that the legislation clearly included such liabilities. The Court of Appeal in Re OT Computers [2004] subsequently confirmed that the 1930 Act applied.

Section 16 of the new Act puts the issue beyond doubt by stating that the question whether or not the insured's liability was incurred voluntarily is irrelevant.

Many liability policies, however, specifically exclude claims which have arisen purely as a result of agreement between the parties. If such an exclusion applies to the insured, it will also apply to a third party claiming against an insurer under the new Act.

The new Act also confirms that provisions in an insurance contract purporting directly or indirectly to avoid or terminate the contract or alter the parties' rights if the insured becomes a relevant person or dies insolvent will have no effect (s.17).

Lastly, section 18 provides that the Act will apply whether or not the case has a foreign element because, for example, the liability was incurred outside the UK or the parties are based abroad.

The Third Parties (Rights against Insurers) Act 2010 will come into force on 1 August 2016.

See:

See also: Bill clears the way for third party claims against liability insurers, OUT-LAW News 30/11/2009