Apart from specific requirements imposed to minimise the chance of loss, the insurer may also insist on more general obligations, such as a clause requiring the insured to take reasonable care to avoid liability, loss or damage.
Reasonable care
Such clauses appear conceptually repugnant because they may remove the benefit of the insurance from its purchaser. However, if it is accepted that an insurer can specify that certain conditions must be fulfilled before it is liable (such as installing and maintaining sprinklers or proper credit reference procedures), and only insure on the basis that they are fully discharged and that they simply reflect the specifics of a reasonable care clause broken down into its component parts instead of a more general obligation to take care, then why should the clause itself be repugnant? If the insured negligently fails to comply with specified and agreed requirements, they are unable to recover if that failure is causally related to the loss. The answer may be that an expressly agreed clause requiring the insured to take some specific action is one thing, but a general obligation that may be capable of being stretched into a viable reason for non-payment of a claim by insurers, even if breached negligently where insurance exists to cover negligence, is another.
The courts have also stated that in such clauses:
- It is the insured itself who must take reasonable precautions. Provided the appropriate procedures are set up, any failure by an employee to effect them would not be a breach of the condition.1
- The condition cannot mean that the insured must take measures to avert dangers that they do not themselves foresee, even though the hypothetical reasonably careful insured would foresee them.
- ‘Reasonable’ means reasonable as between the insured and the insurer having regard to the commercial purpose of the contract, which is inter alia to indemnify the insured against liability for their personal negligence.
- It is not enough that the insured’s omission to take any particular precautions to avoid accidents should be negligent, because insurance is intended to cover the insured’s negligence. It must be at least reckless, ie made with actual recognition by the insured themselves that a danger exists, not caring whether or not it is averted.2 The purpose of the condition is to ensure that the insured will not refrain from taking precautions that they know ought to be taken because they are covered against loss by the policy.
Increase in Risk
There is a distinction between an alteration of the risk and an alteration of the subject matter insured. In the latter case, the identity of the subject matter does not constitute an alteration of risk but a substitution of a new risk and so the premise on which the insurance was founded is nullified. An alteration of the subject matter of the contract automatically terminates the insurer’s liability under the contract, because varying the subject matter is actually substituting a new risk for the one insured.3
It might be thought that a contract of insurance is agreed on the basis of the risk as evaluated by the insurer at the time of its formation and, by definition, any loss later caused by a peril insured is payable with good grace, the downside of any increase in risk (unless it is a change in the subject matter of the insurance) being borne by the insurer. Insurers may take a different view in that they are prepared to insure a risk on the basis of its evaluation at that date, but if a generic change takes place during the policy period, such that the framework within which the risk was assessed is materially changed, then it is a different risk that should not be insured. Without a specific clause dealing with this issue, an increase in the risk would be payable by insurers.4 The fact that the burden of the contract is higher is no reason to avoid payment, given that one or other of the parties must inevitably suffer in such circumstances. Such a clause is often included in insurance contracts where the amount of the original loss is payable according to a statutory scale of benefits, eg workers’ compensation, where a change in the scale of benefits could materially increase the insurer’s liability, sometimes retroactively. A variation of this particular clause provides that the scale of benefits in force at inception of the treaty applies regardless of the change in law. Another variation provides for the terms of the insurance to be renegotiated in the event of a change in law.
The issue invariably concerns the construction of the policy. Where the policy contains no term at all as to any increase of risk, the risk can be increased provided the subject matter is not altered.
Whether an express term as to the description of the subject matter may also impose an obligation not to increase the risk is a matter of construction of the term in question. The term may be a representation of an intention honestly held at the date of the contract (which will of course enable the insured to change their intention and alter the risk), or it may be a warranty that continues into the future so that the description must prevail throughout the currency of the policy. It may also be a term merely delimiting the risk so that the insurer need not pay any claim made while the warranty is not complied with.
In Kausar v Eagle Star Insurance Co Ltd [2000] the Court of Appeal considered a condition requiring the insured to notify the insurer of any change of circumstances after inception that increased the risk of injury or damage, stating that the insured would not be covered until the insurer had agreed in writing to accept the increased risks. The Court of Appeal refused to construe this condition literally and considered it ‘bizarre’ that should there be any change in circumstances increasing the chance of risk all cover would automatically cease until the risk was accepted in writing:
‘The appearance of a hurricane on the weather forecast or of a fire spreading down the street would bring the cover to an end. That cannot be right or at least if it was intended the parties should have made it abundantly clear.’
Eagle Star had argued that a term should be implied into the policy giving the insured a reasonable time to report a change of circumstances, but the court held that there was no basis for such a qualification. The court considered that the purpose of the condition was to restate, in user-friendly language, the common law principle that without the further agreement of the insurer no cover would exist where the circumstances had so changed that the new situation was not one that the insurer had agreed to cover.
In the insurer’s favour is Forrest & Sons Ltd v CGU Insurance plc [2006], in which the insurer was informed that an oven had been taken out of use, but was not notified when it was recommissioned, in the face of a clause specifying that avoidance shall occur:
‘With respect to any part [of the policy]… whereby the risk of loss, destruction, damage accident or injury is increased.’
The judge was satisfied that, as a result of the recommissioned oven, the risk of a fire starting was greater and so was the risk of the extent of any damage likely to occur. Although Kausar was not cited in the judgment, it is apparent that the parties’ position is capable of variation by contract, provided it is clear.
In Ansari v New India Assurance Ltd[2009] the insured described the tenant’s business to the insurer as ‘wholesaling kitchenware’ and confirmed that the premises were protected by an automatic sprinkler. The declaration on the proposal form stated that the insured had answered questions to the best of their knowledge and belief. The policy stated that:
‘This insurance shall cease to be in force if there is any material alteration to the premises or business, or any material change in the facts stated in the proposal form or other facts supplied to the insurer.’
Following the fire it became clear not only that the sprinkler system had been turned off, but that there was no supply of water to the premises. It also turned out that the tenant’s business involved selling large toys, including bicycles and small motor cycles. The insurers were found not liable because the insured had stated that the sprinkler system protected the premises, which was to be construed as meaning that the system was operative and not that it was merely installed. There had also been a material change in the facts stated about the sprinkler system. The test of materiality was not the wide one laid down for pre-contract disclosure, but was a narrower one that asked whether the alterations had a significant bearing on the risk.
The courts have not visited increases in risk clauses with any reference to the old case law on fundamental breach (a now almost – defunct doctrine that existed to minimise the effect of unfair exclusion clauses prior to the Unfair Contract Terms Act 1977) and now rely solely on a commercial construction of the wording to minimise their impact. Such clauses are clearly inconsistent with the concept of insurance, where the insurer evaluates, rates and accepts the risk at the formation of the contract, and is generally thought to bear the risk thereafter, which should have been rated to include the possibility of an increase in risk. The parties are free to allocate the impact of any increase in risk, but to lay that increase on the insured is attractive neither generally nor to the courts. An insured might consider that such a clause would be absurd, contrary to any benchmark of common sense and/or commercially nonsensical, all of which rules of construction are applied by the courts to ameliorate the effects of such one-sided clauses. Of course, if the court feels that the parties have used the wrong words to express their common intention, ‘there is no limit to the amount of red ink or verbal rearrangement or correction which the court is allowed.’5 Thus where such a clause ‘is so one-sided that I am surprised to find that it extends over both sides of the paper’ the possibility of judicial intervention still exists.6
An increase in risk clause should:
- specify the type of change (eg material amendments to any system of risk management or loss reduction, or to any supervision, controls or checks declared to the insurer, but not usually changes in stock markets, interest rates, exchange rates, commodity prices or other general economic conditions, or changes in conditions generally affecting the sector in which the insured operates (except to the extent that they have an impact on the insured that is disproportionate to the effect on other similar companies operating in that sector) and whether the insured is obliged to accept the change;
- require the insurer to specify the change in risk;
- require the insurer (or a third party) to propose an amendment to the terms of the policy (including the premium) for the unexpired policy period; and
- allow the insured to reject the insurer’s amendment within a specified period and maintain the insurer’s liability on the policy as unamended until receipt of written rejection and termination of the insurance, the insured being repaid all unearned premium for the remaining policy period.
Change in Law
It might be thought that a change-in-law clause should not give rise to any substantive issues and should therefore be relatively easy to draft. However, nothing is ever that simple. The parties have to agree the allocation of risk, being a contract primarily for the redistribution of risk from the insured to the insurer. It might be considered that an insurer (or reinsurer) may be entitled to take the benefit of a change in law clause after any such change, but that the insured should not be penalised for something that it could not have foreseen. In professional indemnity insurance, would the clause be triggered by a case potentially extending the liabilities of the insured? Similarly, what if a reinsurance case impacted unfavourably on the reinsured? Should they be entitled to the benefit of the clause? One option would be to try to return the parties to their original position, but what if the change in law is so fundamental that it is not possible to revert to the position of the parties at the date of the contract, which, given the title and purpose of the clause, is almost the position by definition? In reality such clauses, which are rarely set out in any detail, only work if the parties respond reasonably.
Hardship clauses
Many international commercial contracts contain hardship clauses instead of, or as well as, force majeure clauses. Hardship clauses also usually deal with the effects of post-contract developments and are designed to apply when it has become onerous for one party to perform a contract. The main difference between hardship clauses and force majeure clauses is that the former usually allow a party that complains of hardship to commence a phase of renegotiation, so that the contractual relationship continues while the terms of the contract are adapted to the changed circumstances. A hardship clause may operate in much wider circumstances than a force majeure clause, eg where a party believes it is suffering grave economic hardship, despite the fact that it can still manage to perform its obligations under the contract. On the other hand, however, a force majeure clause will often only cover situations where performance is actually delayed or prevented (or at least seriously hindered). Hardship clauses do not appear in insurance contracts, but can surface in contracts of agency where the broker is content to service claims for a reasonable period but not indefinitely, as they were obliged to do with asbestosis, sometimes 40 years after inception. They are not unreasonable, but need to take into account a clear definition of the hardship event(s) and the effect of such event(s), such as renegotiation with a remedy to resolve the position should the parties fail to reach agreement, eg arbitration, suspension or termination of the contract. As with force majeure clauses, a hardship clause should also include a requirement for notice to be given and impose appropriate time limits. Comment
All of these clauses are intended to benefit the insurer or broker, but with thought and careful drafting the insured can reduce their potentially Draconian effect.
Notes
- 1 Although the employer might be liable vicariously for the employee’s negligence or breach of statutory duty.
- 2 See Devco Holder v Legal & General Insurance Society [1993] 2 Lloyd’s Rep 567, Sofi v Prudential Assurance Co Ltd [1993] 2 Lloyd’s Rep 559 and Hayward v Norwich Union Insurance [2001] EWCA Civ 243. The courts have also tempered the effect of such clauses by retaining the burden of proof on the insurer: Fraser v BN Furman (Productions) Ltd [1967] 2 Lloyd’s Rep 1.
- 3 See Law Guarantee Trust & Accident Society Ltd v Munich Reinsurance Company [1912] 1 Ch 138; Kausar v Eagle Star Insurance Co Ltd [1997] CLC 129; Swiss Reinsurance Company & ors v United India Insurance Company Ltd [2005] EWHC 237 (Comm).
- 4 See Manifest Shipping Company Ltd v Uni-Polaris Shipping Company Ltd & ors [2001] UKHL 1, para 56.
- 5 See Chartbrook Ltd v Persimmon Homes Ltd & ors [2009] UKHL 38, para 25.
- 6 Attributed to Lord Evershed (1899-1966).