Breach of " irrelevant" warranties should not invalidate insurance cover, say Law Commissions

Out-Law News | 08 Dec 2014 | 8:00 am | 3 min. read

Policyholders would be able to challenge attempts by UK insurers to refuse  cover of losses simply because a policyholder breached a contract condition that was "totally irrelevant" to and "could not have affected the actual loss suffered", under plans put forward by the Law Commission for England and Wales and the Law Commission for Scotland.

The Insurance Bill, which is currently before the House of Lords, does not currently include all of the reforms proposed by the law reform bodies in July 2014. One of the omitted reforms sought to change the remedies available to Insurers when there are breaches of insurance contract terms which are classed as 'warranties' and which relate to losses of a particular type or losses at a particular time or place.

The UK government asked for an alternative draft of the proposals as it was concerned that the commissions' original draft would have created uncertainty. The commissions have now produced an alternative 'clause 11', which they hope will be agreed in time for inclusion in the final bill.

Under current rules, insurers may refuse claims on the basis of a policyholder's breach of warranty or other condition in the contract, even where that term is not related to prevention of the loss suffered. In their original reform report, the law commissions said that this was unfair and noted that it was not generally seen as good industry practice to rely on such breaches as grounds for refusing a claim.

To address concerns about the previous wording, the new clause explicitly states that the insurer should only have to pay if the policyholder can show that the breach could not have increased the risk of loss that actually occurred in the circumstances in which it occurred.

It also only applies to specific risk mitigation clauses and explicitly states that insurers can still rely on breaches of terms "defining the risk as a whole" in order to avoid liability. In an explanatory note accompanying the new version, the commissions gave examples of breaches that would not be affected by this proposed change, including those of terms governing the use to which property could be put, the class of a ship, breaches of geographical limits of a policy and the minimum age, qualifications or other characteristics of an insured person.

In addition, it is up to the policyholder to demonstrate that the clause applies and that they can benefit from it. If the policyholder is unable to do this, the insurer may not legally be required to pay for any losses incurred.

The commissions said that the policy behind the draft clause had been "well supported" by the insurance industry at the time of their original report on insurance contract law reform. They are now seeking feedback on the alternative draft until 9 December, which they plan to share with a House of Lords Special Public Bill Committee set up to consider the new legislation.

Insurance law expert Nick Bradley of Pinsent Masons, the law firm behind Out-Law.com, said that the new wording "explicitly addressed" some of the concerns raised by insurers in relation to the original proposal.

"One of the major concerns raised was the lack of certainty over how the original version of clause 11 would be interpreted and applied by the courts. In particular, there was uncertainty for insurers as to whether the clause may apply to contract terms which operated to reduce the risk profile as a whole, rather than only for a specific risk," he said. "This concern has been explicitly addressed with additional wording in the new version of the clause, and the commissions have reiterated that the provision's effect is that insurers should pay a claim when the breach of a specific risk mitigation term is totally irrelevant to the loss that has taken place."

"Given the current progress of the Insurance Bill through parliament, we hope that the renegotiation of clause 11 at this late stage, and the tight timeframe for agreement in place, will not cause any delays to the bill's expected royal assent in March next year," he said.

If passed in its current form, the new Insurance Bill would align business insurance rules more closely with those that govern consumer insurance laws. Policyholders would be subject to a new "duty of fair presentation", requiring them to make insurers aware of the risks that that they would be taking on if they were to proceed with providing that business with cover. The bill would also abolish 'basis of the contract' clauses and introduce new rules on warranties.