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Supreme Court abolishes ‘fraudulent device doctrine’

In Versloot Dredging v HDI Gerling (The DC Merwestone), the Supreme Court held, by a majority of 4-1, that the ‘fraudulent claim rule’ (whereby an assured who fraudulently exaggerates his claim under an insurance policy forfeits any lesser claim which it could otherwise properly make) does not extend to the deployment by the assured of a ‘fraudulent device’. A fraudulent device in this context means a lie or false evidence that is deployed by an assured to gain an advantage in the claims process, whether to throw the insurers off a line of enquiry that might lead to a potential defence or to expedite the claim payment or settlement, or otherwise to influence the insurers’ response to the claim. 

In doing so, the Supreme Court overturned the Court of Appeal’s judgment in the present case and decided that Lord Justice Mance (as he then was) had been wrong in the seminal Court of Appeal case, The Aegeon, in expressing the opinion that the public policy objective of deterring fraud in the insurance claims context warranted the forfeiture of a claim that had been promoted by fraudulent means, even though the claim was in all other respects valid.

The decision upsets settled expectations and assumptions as to the state of the law: The Aegeon had been applied twice by the Privy Council, recognised by the Supreme Court (in Summers v Fairclough) and applied in numerous first instance cases.


Claim struck out for failure to comply with disclosure order

Suez Fortune Investments v Talbot Underwriting involved a disputed insurance claim by shipowners and the mortgagee bank for over US$100 million in relation to the constructive total loss of the vessel Brillante Virtuoso. The defendant war risk insurers alleged, among other things, that the loss had been caused by the wilful conduct of the owners or their agents. The owners applied for an extension of time to comply with a final order to disclose documents relevant to the issues in the case and, alternatively, for relief from the sanctions the English court can apply to parties in default of such orders.

The court dismissed the applications, holding that the owners had deliberately misled the court and had knowingly put the relevant documents (an electronic archive) outside their legal control. There was no basis on which to grant a time extension. Applying the test for relief from sanctions set out in Denton v TH White Ltd, the court held that the owners’ breach was serious and significant, the default was deliberate, and justice did not require relief from sanctions to be granted. Furthermore, it held, there could be no fair trial between owners and insurers unless there was full and proper compliance by the owners with their disclosure obligations, including handing over the archive. The claim under the war risk policy was therefore struck out. However, the insurers still face a claim by the mortgagee bank.


Riots revisited

The Mayor's Office for Policing and Crime v Mitsui Sumitomo Insurance Co (Europe) Ltd was concerned with the liability of the Mayor's Office for Policing and Crime (the statutorybody responsible for oversight of the Metropolitan Police) under s.2 of the Riot (Damages) Act 1886 to compensate various parties who suffered loss following the looting and burning down of the Sony distribution warehouse in Enfield Lock by a group of youths on 8 August 2011. 

At first instance it was held that the group of youths were “persons riotously and tumultuously assembled together” within the meaning of the Act (as amended). As such, where property in a police area had been stolen or damaged, any person who had suffered loss “by such injury, stealing or destruction of property”, or his insurer in his place, was entitled under the Act to be compensated by the “police fund of the area”. That compensation would be limited, however, to physical damage to the property itself and would not include consequential losses, such as loss of profit or loss of rent. The Court of Appeal agreed with Flaux J’s finding that losses were to be compensated under the Act. However, the Court of Appeal disagreed with Flaux J’s finding as to the extent of that compensation, holding that it covered consequential losses. 

The Supreme Court unanimously held that consequential losses were not covered. While the Act itself did not provide a clear cut answer, the history of riot legislation showed that there was no broad principle of compensation. The Act, like its predecessors, sets out a self-contained statutory compensation scheme which does not extend to cover consequential losses. 

It is unlikely that the court will be required to consider the Riot (Damages) Act 1886 again because in March 2016 the Riot Compensation Act 2016 received Royal Assent (though the date for it coming into force has not yet been set). This Act:

  • Repeals the Riot (Damages) Act 1886 and creates a new scheme that allows compensation to be claimed from the appropriate local policing authority for property that is damaged, destroyed or stolen in the course of a riot; 
  • Introduces a £1 million cap on the compensation that can be paid out in any single claim; and
  • Provides that consequential loss is not recoverable, apart from costs incurred as a result of the claimant needing alternative accommodation.

Policy interpretation

Meaning of “deliberate or fraudulent non-disclosure”

The defendant insurers in Mutual Energy Ltd v Starr Underwriting Agents Ltd were two of five who insured Mutual Energy Ltd (MEL), the owner of the Moyle Interconnector, which provides a link between the electricity systems of Scotland and Northern Ireland. Following a loss of power flow caused by two failures of the insulation around a conductor, MEL made a claim under the policy. Three of the insurers agreed to indemnify MEL but the defendants did not, alleging that MEL had deliberately failed to disclose certain facts, including that there had been problems with the cables.

The issue for the court was whether the reference to “deliberate or fraudulent” in a non-disclosure clause in the policy meant that the contract could be avoided in circumstances where MEL had honestly but mistakenly decided not to disclose a particular document or fact (as contended by insurers) or whether it meant that avoidance was only available if there had been a deliberate decision not to disclose a particular document or fact which MEL knew was material, such that its non-disclosure involved an element of dishonesty (as contended for by MEL). 

Referring to various authorities on the interpretation of contracts, Coulson J held that the words meant that an element of dishonesty by MEL was required before the insurers could avoid the policy for non-disclosure. There was no evidence of dishonesty and therefore the claim was payable. The decision is of interest because, while there are several decisions on the meaning of the word "deliberate" in the context of a breach of contract, there are no reported decisions on the meaning of the phrase "deliberate or fraudulent non-disclosure" in an insurance context. The Insurance Act 2015 retains the right for insurers to avoid a policy where the insured acts “deliberately” or “recklessly” and so Coulson J’s interpretation will continue to have relevance once the Act has come into force.

Meaning of “use” in a motor liability policy 

In the claim giving rise to UK Insurance Limited v Holden, a mechanic obtained permission from his employer, Phoenix, to use Phoenix’s loading bay to carry out some work to his own car. In the course of the work, sparks from welding ignited flammable material in the car. The fire caught hold and caused substantial damage to premises belonging to Phoenix and also to neighbouring premises. Phoenix’s property insurer, Axa, paid the property damage claim and then brought a subrogated claim against the mechanic. One question for the court was whether what had occurred could be said to have arisen out of the “use” of the mechanic’s car. Section 145(3) of the Road Traffic Act 1998 provides that insurance is required only for the “use” of a vehicle “on a road or other public place” and the issue was whether the mechanic’s motor insurance policy impliedly followed that wording. The insurer argued that the policy was implicitly limited to use of the car on roads. Phoenix submitted that the policy covered accidents off-road as well.

The court considered the European Court of Justice decision in Vnuk v Zavarovalnica Triglav. The starting point, it said, in the light of Vnuk, was that the accident had to have been caused by or arisen out of the “use” of the car by the mechanic, in the sense that it was a use consistent with the car’s normal function. It was not a normal function of a car to undergo repair. Driving it to test a repair was a different matter, as might be running the engine to test a repair or for some other purpose since at least some important part of the car was being operated in the usual way. The repair that had been undertaken to the car in this case did not constitute “use” of the car. The car had not been operated at all but had been immobile and partly off the ground so that it could be worked on. Nor could it be said that the fire was caused by the use of the car. The fire was caused by and arose out of the allegedly negligent repair of the car by the use of grinders and welders without taking any precautions with regard to flammable materials in the car itself. Accordingly, there was no liability on the part of the insurer. 


Liability for a negligent investment

In ARC Capital Partners Limited v Brit Syndicates Limited, a professional negligence claim was brought against the claimant investment management company, who had professional indemnity insurance with the defendant insurers. The insurers came on risk on 5 June 2009. A ‘Retroactive Date Clause’ in the policy provided that the claimant would not be indemnified against “any claim or claims arising from or in any way involving any act, error, or omission committed or alleged to have been committed prior to 5 June 2009.” The insurers disputed coverage and one of the issues the court was required to consider was the degree of the connection required between the acts, errors and omissions in question and the claim. 

In determining the degree of causal connection between a claim and a prior “act, error or omission” for the purposes of the Retroactive Date Clause, the court held that the words “arising from” did not have the same meaning as the words “in any way involving”. The latter term should be taken to mean “indirectly caused by”. Accordingly, in order for a claim to be rejected on the basis of the retroactive date, the clause required a causal connection, either direct or indirect, between a wrongful act committed prior to 5 June 2009 and the claim made in the policy period for which ARC was liable. Causation was a key element of the exclusion; it was not enough that circumstances arose prior to that date and that a wrongful act took place thereafter. That was merely the historical context. For the exclusion to apply, there had to be an act, error or omission which could give rise to liability, occurring before the retroactive date and which was genuinely part of a chain of causation leading to liability for the claim in question. All the Fund’s complaints about ARC’s acts, errors or omissions related to steps taken or not taken in 2010; the earlier factors in 2008 did not have any causal connection. Accordingly, the claim was not excluded by the Retroactive Date Clause.

Establishing causation in mesothelioma claims

Mr Heneghan died from lung cancer. He had been exposed to asbestos by multiple employers, who admitted breach of duty. The claimant in Heneghan v Manchester Dry Docks Limited & Ors (the deceased’s son) argued that each defendant was liable in full on the basis that each had materially contributed to the cancer. At first instance the court applied the principle in Fairchild v Glenhaven Funeral Services Ltd and awarded damages against each defendant in proportion to the increase in risk for which it was responsible. The claimant appealed. 

In Fairchild, it was held that a defendant to a mesothelioma claim is liable if the negligent exposure “materially increased the risk” of the claimant developing the disease. This is an exception to the usual common law rule that a claimant must show that, ‘but for’ the defendant’s negligence, the claimant would not have suffered the disease. This exception was developed to overcome the evidential difficulty for claimants in mesothelioma cases in identifying the source of the asbestos fibres which triggered the disease. This case was the first time that the Court of Appeal considered whether the Fairchild exception applied to a case of multiple exposures to asbestos leading to lung cancer, rather than to mesothelioma. It held that it did, finding that lung cancer and mesothelioma are legally indistinguishable diseases, which made it logical to follow the approach taken in Fairchild. The ‘but for’ test, it held, only applied where the court was satisfied on the scientific evidence that the exposure for which the defendant was responsible had in fact contributed to the injury. Where scientific evidence does not permit such a finding, then the Fairchild exception should be applied. The claimant’s appeal was therefore dismissed and the apportionment of damages stood. 

Brokers' liability

In Ocean Finance & Mortgages Ltd & Anor v Oval Insurance Broking Limited, Ocean Finance was a company that sold secured loans and payment protection insurance. It retained Oval as its broker for the placement of professional indemnity (PI) cover. Oval acted as producing broker and appointed SWIL as its placing broker. Neither broker had experience of PPI. The PI policy was on a claims made basis and contained a clause requiring Ocean Finance to notify “circumstances that may give rise to a claim”. In 2010 Oval gave a block notification of potential PPI claims. One of the PI insurers asserted that the notification should have been made in 2009 and that cover was excluded from the 2010 policy by reason of an exclusion for circumstances notifiable in a previous policy year. Oval admitted that it had been negligent in failing to advise Ocean Finance to give a block notification of PPI claims in 2009 and a settlement was reached. In this case Oval sought indemnity or contribution from SWIL.

The court noted the issues in deciding whether and when to make a block notification under a PI policy. On the one hand, delaying notification might amount to a non-disclosure of material facts, thus affecting the validity of any renewal and the possibility of declinature of future claims under a “prior knowledge” exclusion clause or a notification clause. On the other hand, premature or vague notification might be found to be invalid. The court noted that the balancing of these risks could be a very difficult exercise, involving complex questions of fact and law and that expert evidence showed “a market awareness of the unwillingness of underwriters to accept block notifications”. He also accepted that there had been a risk that the insurer would have rejected a block notification under the 2008-9 year. Notwithstanding that, it was held that a reasonably competent broker would have seen the risk of non-notification of circumstances as greater than any risk involved in notification. Whatever difficulties surrounded the making of such a notification and the decision to make it, no competent broker would have failed to consider notifying and recommending to the insured that it should, subject to taking legal advice, take such action. Adopting a broad brush approach, the court held that SWIL’s liability for Ocean Finance’s loss was 30% and Oval’s 70%. This apportionment reflected Oval’s superior knowledge of the facts which should have led to an earlier block notification. 

These summaries were written by members of Ince & Co's Insurance & Reinsurance Business Group.

Simon Cooper

Simon Cooper Consultant

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