Law Commissions to rethink business insurance law reforms

Out-Law News | 23 Oct 2008 | 11:47 am | 4 min. read

There has been a mixed reaction to proposals for the reform of business insurance contract law, according to a summary of responses published by the English and Scottish Law Commissions this month.

In particular, consultees have criticised measures intended to provide additional safeguards for business insureds contracting on insurers' standard written terms and attempts to clarify the role of the insurance intermediary.

Announcing the publication of the summary of responses last week, Law Commission solicitor Elizabeth Waller said: "There is support for reform of business insurance law but we will be consulting further on this subject.  We shall publish an Issues Paper this winter which will contain details of some revised proposals for businesses."

The Commissions' July 2007 consultation paper considered pre-contract disclosure of information, warranties and the role of the broker in both consumer and business insurance.

For consumers, the paper set out a mandatory regime that would bring the law into line with current industry practice and the 'fair and reasonable' test applied to complaints handled by the Financial Ombudsman Service.

For business insurance, the Commissions asked for comments on a default regime that would allow parties to 'contract out' if they wished. 

The consumer proposals received widespread support from consumer groups, brokers, lawyers and insurers. In May this year, the Commissions announced they would be prioritising a draft bill on pre-contract information in consumer insurance, due to be published in the summer of 2009.

Reactions to the business proposals, however, have been less clear-cut. The Association of British Insurers reported that the insurance industry "remains to be convinced of the need for reform of the law in this area". Other consultees thought it inappropriate for commercial insureds to be given additional protections when they have access to expert advice. Buyers of insurance and brokers were, predictably, more in favour of change.

The Law Commissions, however, emphasise that they have not yet reached any conclusions or formulated their recommendations. The aim of the paper is to summarise the written responses received and indicate the spread of opinion on a particular point. 

"We are looking at the quality of argument rather than simply counting numbers.  This would not be appropriate: for example some organisations speak on behalf of many members; others are sent on behalf of individuals".

The duty to disclose

Under the proposals, businesses would still have a duty to volunteer material information when applying for insurance cover, but the test for materiality would be based on whether the information was something a reasonable insured would have appreciated the insurer would want to know about, rather than whether the information would have influenced a 'prudent insurer'.

Eighty-one percent of consultees were in favour or retaining the duty of disclosure, but a much smaller majority (52%) approved the new 'reasonable insured' test. Those in favour welcomed its flexibility; those against thought it added too much uncertainty.

Most consultees supported the introduction of proportionate remedies for breach. Fifty-nine percent agreed that, where a business insured has negligently provided inaccurate or misleading information, the insurer should have a range of remedies, depending on the degree of fault. Insurers would only be able to avoid the policy altogether in cases of deliberate or reckless conduct.

But 65% also said the insurer should be entitled to avoid the policy in cases of negligence if it would not have accepted the risk had it known the full facts.

Warranties

There was strong support for the Commissions' proposals on warranties. Under current law, if a warranty in an insurance policy is breached, the cover automatically terminates, even if the warranty is about something relatively unimportant and even if there is no connection with the loss claimed under the policy.

The consultation paper proposed a new requirement for a "causal connection" in such cases, which would mean an insurer would only be able to avoid paying all or part of a claim if the breach caused or contributed to all or part of the loss.

Seventy-three percent of consultees approved this suggestion. Seventy-eight percent were also in favour of abolishing 'basis of the contract' clauses, which automatically transform statements made by the insured into warranties.

Standard terms

One difficulty with any business insurance regime is how to protect smaller businesses who may not be any better informed about insurance than consumers and are likely to buy off-the-shelf insurance cover without obtaining advice.

The Law Commissions' solution was a mandatory rule that would prevent insurers contracting on standard written terms from giving themselves greater rights to avoid claims than under the default regime, if this would defeat the insured's reasonable expectations of cover.

Only 28% of responses agreed with this proposal. Many acknowledged there was a case for providing extra protection for small businesses, but most were concerned about what would constitute standard terms in a market that frequently uses combinations of tried and tested wordings.

"It is difficult to analyse the numbers who agreed with the principle which lay behind the proposal; i.e. that controls should be placed on contracting‑out to protect less sophisticated businesses," the Commissions' paper commented. "Several consultees indicated that they were not in favour of the test because as a matter of practicality it would not work, rather than because it was not the right thing to do in principle. Others did not separate the practical problems from the principle".

Intermediaries

There was also strong opposition to the Commissions' attempt to clarify the law on whether a broker or intermediary acts as agent of the insurer or the insured when he receives pre-contract information. The issue determines whether insurer or insured bears the risk of the broker getting it wrong.

Seventy percent of consultees strongly opposed the suggestion that a broker who does not search the whole market would not be independent and so would be treated as acting for the insurer.  Most argued that the situation was more complicated. In specialist markets, for instance, there may be only a few potential insurers. Eighty percent thought the question should be left to the common law.

"We received a clear answer to our question about whether those intermediaries who only carried out a limited search of the market should always be regarded as acting for the insurer" the Commissions comment. "As with consumer insurance, it appears that a bright‑line test, whilst welcome by some for its simplicity, would cause problems for many others."

Next steps

The Commissions continue to work on a final report and draft legislation covering the consumer reforms, planned for the summer of 2009.

In addition to the revised business insurance proposals, the Commissions are due to publish a further paper on the late payment of insurance claims this winter.