Under British Rule
If you think Brexit has the potential to give you an anxiety attack, look at what the English recently did to the insurance market.
In August, a new law governing insurance contracts, known as the Insurance Act 2015, came into force in England and Wales. It affects all policies underwritten or amended in England after August 17 as well as those written elsewhere that are governed by English law. No big deal, right? Well, hold on. Things are set to change.
Many nations, especially those of the British Commonwealth, have adopted English law. More importantly for U.S. brokers, the law applies to many contracts that directly or indirectly cover U.S. risks. These include some excess and surplus lines policies placed in London and many delegated authorities placed with Lloyd’s and London underwriters. Essentially, even though the number of U.S. policies governed under English law is unknown, the effect in the United States will be big—really big.
Which nation’s rules apply to a contract is “governed by the respective terms of business agreements chosen by the contracting parties,” says Christopher Croft, chief executive of LIIBA, the London & International Insurance Brokers’ Association. “We have no statistics on individual contracts, although it is generally recognized the legal framework is an advantage of placing business in London.”
“The Marine Insurance Act is in the DNA of the market,” says Kees van der Klugt, director of legal and compliance at the Lloyd’s Market Association. The new law “will create the most significant changes in the legal framework of the market in more than 100 years.”
“The Insurance Act is very much good news for the policyholder,” Croft says. The new act reforms important parts of the Marine Insurance Act of 1906, which has governed the legal side of London’s international wholesale market for more than a century (and follows the common law set down in the late 1700s).
The Insurance Act 2015 will require some fundamental changes to the way insurance brokers and carriers negotiate contracts. It will alter the responsibilities of insurance brokers as the agents of buyers with responsibility for the relationship between their clients and underwriters. And it will extend the broker’s duties into the period after the contract negotiation has been completed.
According to the British Insurance Brokers Association, “The changes…will inevitably have a significant impact on how insureds and insurers approach policies and on the role of insurance brokers as agents, acting as the conduit between the two contracting parties.”
The new law seriously affects commercial broking in two areas:
- The new duty of fair presentation eases disclosure rules that require brokers to reveal information that even their clients may not know before a contract is signed.
- Remedies in cases of breach of warranty and nondisclosure are eased in favor of the insureds.
Advice from the British Insurance Brokers’ Association
> Is there anything special or unusual about our risk compared to other similar businesses that should be flagged clearly to insurers?
> Who is likely to count as “senior management” and “people responsible for placement of insurance” in our business?
> Do we ask enough questions of senior management at the moment, or do we need to change our standard data-gathering process to be more in-depth?
> Based on the structure of the business, who needs to be consulted as part of a reasonable search for the insurance we buy as a business?
- How much time should we allow for people to gather information and respond to us?
- What is the best format to do this in? (A formal written questionnaire? Short discussions with key staff? Site visits?)
> For policies purchased by a business that cover multiple individuals (e.g., D&O, pension trust liability, medical malpractice, etc.), how can we ensure we check those individuals who have no material information that needs to be shared without requiring several individuals to fill out a lot of forms?
> How can we document that a reasonable search has been undertaken and signed off by appropriate people in case we need to rely on it in court?
Duty of Fair Presentation
The old language, which states a broker must disclose “every material circumstance which the insured knows or ought to know,” remains. But “knows or ought to know” is now modified with: “Failing that, [the buyer or broker must make] disclosure which gives the insurer sufficient information to put a prudent insurer on notice that it needs to make further inquiries for the purpose of revealing those material circumstances.”
Disclosures now include what is known by the insured’s senior management and the broker along with any information that would be disclosed by a “reasonable search.” An example of a reasonable search? Making relevant inquiries of a subsidiary company. Furthermore, disclosure must be made in “a manner which would be reasonably clear and accessible to a prudent insurer.”
“Brokers will need to work with their clients to assist them in having adequate processes and procedures in place to be able to meet their duties,” says Amanda Doran, head of commercial combined at the London operation of insurer QBE. “These and other risk management activities are not always well developed within organizations, and, as trusted advisors, brokers will need to work out how to support their clients in this respect.”
Better-structured presentations and a longer renewal lead time may be required, she says. The extra time will be necessary to carry out the “reasonable search” for information that the new act requires.
Stanley Kamalu, an attorney at the London law firm Clarks Legal, describes the new requirements as “a diluted version of the current obligation to disclose all material circumstances, which are known or ought to be known by the insured.” However, he warns that the “clear and accessible” provision, which is new, places an extended responsibility on brokers.
“The inevitable impact is that the broker will have to provide an extra layer of advice to ensure the information is in the correct form. This could potentially be problematic in the scenario where an insured has provided large amounts of irrelevant information to a broker that obscures something material and [the broker] does not have the time to filter through.”
Brokers will either have to sift through the information themselves, at the risk of missing something, or submit it as is and risk that the “clear and accessible” provision is breached. Brokers choosing the latter “should be prompted to shift the burden back to the client to provide the information needed via a warning to the client, which may affect the commercial relationship,” Kamalu says.
The “clear and accessible” provision targets a specific practice, van der Klugt of Lloyd’s says. It is “designed to deal with the problem of electronic ‘data-dumping’ by an insured or its broker in a literal but unfair interpretation of the requirement to disclose every material circumstance.” Also in insurers’ favor is the new requirement that facts presented be “materially correct,” which one hopes is the usual practice.
If the requirements for fair presentation are not met, insurers may void the policy, but only when the nondisclosure or misrepresentation is deliberate or reckless. If this “deliberate or reckless” test, which will no doubt be applied by English courts, is not met, the new law intends to put underwriters back into the position they would have been in if full disclosure had been made. That is to say, if relevant information was not reported but that was due to a cause other than deliberate or reckless nondisclosure, terms of insurance may be applied which would have been used had there been full disclosure. This differs from the law before the Insurance Act 2015 when insurers could void the contract for any case of nondisclosure.
As a result of the revised law, brokers’ responsibilities might be extended, and it could put them at risk, Kamalu warns.
“They will often be asked to play a part in the process of advising the insured in their discussions with the insurer to decide which remedy should apply,” he says. “In such scenarios it is quite possible a broker’s advice on how to approach one particular claim might adversely affect the insured later.”
It’s crucial for brokers to weigh the options carefully and provide balanced advice. As a result of this increased liability, QBE’s Doran says, “brokers may need to consider things such as clarifying roles, responsibilities and liability within their terms of business agreements with clients.”
Breach of Warranty
The second big change is the reduction of the breach of warranty, which adds new broker responsibilities. Under the old act, any breach of a warranty automatically ends the insurer’s liabilities under the policy. Under the new law, coverage is merely suspended, giving the insured the opportunity to repair the breach, after which coverage is reinstated.
It may be up to brokers to ensure this process occurs smoothly and that all parties remain informed throughout. If a policy is voided by insurers due to a midterm breach, the broker could be left open to action.
“This differs from the law [prior to the Insurance Act 2015], where a broker would simply defend itself by establishing they gave appropriate advice at policy inception, making the failure to advise later irrelevant,” Kamalu says.
The 1906 Act (and common law since the 1770s) held that—if any terms of a policy are breached—the policy is void and the insurance buyer has no coverage at all. The potential of insurers to invoke that draconian measure has been removed under the new law. Henceforth, if the insured breaks the “terms [of an insurance contract] not relevant to an actual loss” and the breach does not increase the risk of loss for which a claim is made, then the policy stands.
“This section of the act is already known by many as the ‘irrelevant warranties’ provision,” says van der Klugt, “although it goes wider than that because it applies to all terms that tend to reduce the risk of a loss except those that define the risk as a whole.”
The onus is on the insured to prove the relevant risk was not increased—a duty that may fall to brokers.
Another change alters the extent of warranties. “Basis of contract” clauses, which convert all information provided by the insured into binding warranties under the policy, have been prohibited. Changes to circumstance, therefore, will not automatically void the policy.
Other than this prohibition of the basis-of-contract clause, the underwriter may choose to “contract out” of the new law. In other words, insurers can include more stringent terms. However, these must be brought to the attention of the buyer or they are void. If the underwriter informs the broker of a contracting out clause, it is the broker’s responsibility to inform the client. If the broker fails to do so, the “contracting out” is still in force. Many London underwriters are intent on contracting out whenever possible, and the burden will be on brokers to find the ones who won’t.
The New Environment
The wording of marine insurance policies underwritten in London stayed remarkably static over the 400-year period from about 1580 to the 1980s. The main reason for this remarkable continuity is every word of the standard policy had been litigated and any change would thus introduce ambiguity. Since certainty of coverage benefits both underwriters and buyers, the changes introduced by the Insurance Act 2015 are likely to bring with them some short-term pain while the new verbiage of the insurance act is considered by the courts.
“The Insurance Act will be very much case-law driven, and so once implemented…it will evolve,” says LIIBA’s Croft. Many phrases used in the act, such as “reasonable search” and “reasonably clear and accessible,” are likely to be tested.
However, some see the new law as a sensible modernization of the outdated, unbalanced legislation that governed much of the world’s risk transfer. They argue this will make the legal environment better for insurance buyers.
The new law is also certain to increase the responsibilities of brokers placing policies governed by English law. And they now have little time to consider the effects of the law on the way they do business. Meeting those new responsibilities will be important in ensuring their clients—and their own companies—are fully and properly covered.