Monday, 19 July, 2010
Marine Insurance-uberrimae fidei or utmost good faith
The relationship between the assured and the insurer is one of uberrimae fidei, or of utmost good faith. In the event that either party does not observe utmost good faith, the innocent party may avoid the contract . Generally, the insurer will seek to avoid the obligations under the contract by citing the lack of good faith on the part of the assured. Then the duty of disclosure is given in Sections 18 to 21 of the MIA 1906 (Marine Insurance Act). According to Section 18(1), the assured must disclose to the insurer, before the conclusion of the contract every material circumstance, which is known to the assured. And if the assured fails to make such a disclosure, the insurer may successfully avoid the contractual obligations. In addition, according to Section 20(1), every material representation made by the assured or his agent to the insurer during the negotiations for the contract and before the contract is concluded, must be true. If it is untrue, the insurer may avoid the contract. This gives the insurer the power to avoid or not to avoid the contract .
The Doctrine of utmost good faith binds both the parties, but the burdens and duties do not treat the assured and the insurer equally. The provisions of MIA 1906 are heavily in favour of insurer. There are no pre contractual duties similar to Sections 18 and 20 to bind the insurer, regardless of the fact that the insurer’s role at the pre contractual stage is much greater than that of the assured. He should guide the assured, by asking questions and requesting documentation. Even then, his duty is single, just observe utmost good faith .
The Pre-formation Contractual Duties of the Assured:
The assured’s duties are more burdensome and the penalties for failure to observe them are severe, i.e. the avoidance of the contract at the option of the insurer.
In Carter v. Boehm
This is justified based on the opinion that the insured and the insurer do not share equality of information. Prior to the contract the insured will posses most, if not all, of the knowledge and the onus is therefore upon him to disclose that which is material to the insurer in accordance with Section 18. If observances to the disclosure requirements of the MIA 1906 are strictly enforced, this is because there is a strong public policy argument for maintaining an obligation on the assured of communicating to the underwriter every material fact. This is fair; the problem is that only the insured has ultimate responsibility for deciding about a fact, which is material and should be disclosed or a fact, which is irrelevant and may be omitted. As the party who stands to lose most from any non-disclosure, and the party with control of the greatest share of the information, it can be argued that it is the insured, who is in the weakest position, as he does not necessarily know what information the insurer wishes to have . The MIA 1906 does not provide for a simple test to enable the insured to assess the materiality of information in his possession and the Act does not encourage a more active role on the part of the insurer in compiling the proposal and making disclosure. More active participation by the insurer through greater questioning of the insured is discouraged by the risk that this would define the limits of materiality and relieve the insured from the duty of disclosing facts, which were nevertheless not known to the insurer . The insured must decide that which is material under Section 18(2), which provides that every circumstance is material, which would influence the judgement of a prudent insurer in fixing the premium or determining whether he will take the risk.
The House of Lords have settled the uncertainty with regard to the meaning of the test of materiality in
Pan Atlantic Insurance Co. Ltd and Another v. Pine Top Insurance Co. Ltd
The House of Lords held that the insured must disclose every circumstance that the insurer would have wanted to know and take into account (the objective test) and for the matter to be material, the particular insurer concerned would have taken into account when assessing the risk, which had been disclosed ( the subjective test). The uncertainty may arise in the application of this test by the insured. The MIA 1906 expects the insured to assess materiality based on objective standard outside his experience. Similarly even the courts cannot determine what a prudent insurer needs without asking for one .
Another concern for the honest insured is that he may infringe the Sections 18(1) and 20(1) of MIA 1906 unknowingly. Even though such acts of assured do not constitute a breach of Section 17 and the Doctrine of utmost good faith, the penalty remains the same. Innocent non-disclosures can occur in many ways. Innocent non-disclosures may take place, when the insured makes an honest mistake in assessing the materiality of information in his possession . The assured may disclose the information, which is only material to risk. Then due to ignorance, the assured may decide not to disclose rumours or communications that he believes to be false. This constitutes breach of Section 18(5). Then the assured may answer a question from insurer honestly but mistakenly, which may not be material to the contract. This constitutes breach of Section 20(1) .
In Graham v. Western Australia Insurance Co.Ltd
According to Roche J, if there is information given, be it quite innocent, which is not a matter of contract, and never becomes a matter of contract yet nevertheless, if it is inaccurate, it can be used to avoid the policy or policies in question.
Then the information, which is in the hands of the servants of the insured and if it is material to the contract, but not communicated to him constitutes circumstances, which will lead to the avoidance of the contractual obligations by the insurer. Another issue is that information, which is material in an occasion, may not be material in another occasion. Therefore, it will make the insured more vulnerable to heavily biased provisions of MIA 1906.
The courts attempted to restructure some of the practices of the law relating to the innocent non-disclosures.
In Pan Atlantic Insurance company Co.Ltd and Another v. Pine Top Insurance Co.Ltd
It was held that the insurer required to undergo an objective test i.e. the prudent insurance test and a subjective test i.e. the actual inducement test. This made the situation not favourable to insurer, when it comes to the materiality of non-disclosed information . The courts will make an assessment based on whether or not the insurer was in fact induced into the contract on the relevant terms by the misrepresentation or non- disclosure. The two-part test laid down in the above case rejected the unnecessary tilt towards insurers in decisive influence test (the non-disclosure induced a different decision on the part of the prudent insurer or exerted a decisive influence on his judgement) put forward by CTI v. Oceanus Mutual Underwriting Association case.
Then according to Section 18(1) every circumstance, which ought to have known to the insured should be disclosed. The courts limited the effect of these provisions so that the insured were not expected to conduct exhaustive inquiries prior to entering into a contract of insurance .
The Post-Formation Contractual Duties:
The post-formation duty of utmost good faith derives from Section 17 of MIA 1906. The application of Sections 18 to 20 ends when the contract is concluded i.e. according Section 21, when the insurer accepts the proposal of the assured. In
Niger Co.Ltd v. Guardian Assurance Co.Ltd it was held that the insured is under no duty to disclose a material circumstance, which comes to light after the contract, was concluded.
The issue is that when an honest insured wrongly assess the materiality of information, it is excessively harsh that there are no means whereby the insured can attempt to rectify the error. If he informs about this matter to insurer, he can avoid the contract, this is not favourable to insured unless he obtains replacement insurance. Hence, there is considerable penalty for observing utmost good faith in this situation and dishonesty and concealment are rewarded.
But in Black King Shipping Corp v. Massie (The Listion Pride ), it was held that a fraudulent claim could amount to a breach of S.17, thereby entitling the insurer to avoid the contract ab initio . The duty of good faith continues throughout the contractual relationship at a level appropriate to the moment in other words there is a continuing duty of good faith resting upon the assured, which continued beyond the formation of a contract . However, this was no longer a good law in the light of the Star Sea Case (Manifest Shipping Co.Ltd v. Unipolaris Shipping Co.Ltd) .
In Star Sea, the Court of Appeal accepted the same view as the above case and held that the essence of Post-Formation and Pre-Formation is the same. Hence, duty of good faith continues throughout the contractual relationship. But the House of Lords in Star Sea held that suitable caution should be exercised in making any extensions to the existing law of non-disclosure and that the courts should be on their guard against the use of principle of good faith to achieve results which are questionably capable of being reconciled with the mutual character of the obligation to observe good faith. The Court of Appeal decision allowed the strict application of Doctrine of utmost good faith even in the post formation stage. This decision was not in favour of the assured because the insurers have already honed the doctrine of pre-contractual uberrima fides to a most formidable defence, which has few peers in terms of harshness. But according to Lord Clyde, the idea of good faith in the context of insurance contracts reflects the degree of openness required of the parties at the various stages of their relationship (i.e. not an absolute to be uniformly applied) and while it is reasonable to expect a very high degree of openness at the stage of the
formation of the contract, but there is no justification for requiring that degree….
necessarily to continue once the contract has been made .
The insured has duty to not present a fraudulent claim; the breach of this duty constitutes the avoidance of contract by the insurer. According to Listion Pride Case the contract is void ab initio with regard to pre-contractual non-disclosure and the same is applicable to post-contractual non-disclosure as well. However, the House of Lords decision rejects this in Star Sea and held that the presentation of dishonest and fraudulent claim entitles the insurer to repudiate liability for that claim and discharge liability prospectively. This decision of the House of Lords clearly shows that the strict application of the Doctrine of Utmost Good Faith at Pre-Contractual level is not necessary in Post-Contractual level .
Bilateral Duty and the Assured in MIA 1906:
According to S.17 of MIA 1906, the duty to observe utmost good faith operates on a bilateral basis. In other words it imposes a duty on both the insurer and insured.
In Banque Financiere de la Cite SA v. Westgate Insurance Company Ltd
Attempted to assert that the obligation of utmost good faith need only be observed by the assured and not the insurer. However, the court rejected this argument, held that the duty to observe utmost good faith is applicable to the insurer as well, and awarded damages for breach of duty in favour of insured. The House of Lords and Court of Appeal accepted the bilateral duty but held that the only remedy for breach is the traditional one of the avoidance of the contract and the Doctrine of utmost good faith was not based upon a contractual term and therefore did not sound in damages for breach of contract and reversed the award of damages, because the doctrine was equitable in nature .
According to this case, insurer should at least disclose all the facts known to him, which are material either to the nature of the risk sought to be covered, and the assured has a right to avoid the policy (this right arise from common law) in the event the insurer breaches the utmost good faith. This raises the question of credibility of the insurer .
The main issue with regard to the bilateral duty under MIA 1906 is that, if the insured breaches the observance of utmost good faith, the insurer can easily avoid the contract by pointing out to the breach. However, if the insurer breaches the observance of utmost good faith, the insured can just avoid the contract and get back his insurance premiums, but his right to be covered by the insurance is lost. This is very important when the assured’s property is met with the insured peril. In this situation, the assured does not have any right to get the insurance for covered peril and any damages for breach of the utmost good faith in accordance with the above case. Therefore, in reality the bilateral duty is of little comfort to the insured even though this doctrine is developed with a potential benefit to the assured as well .
There is a need for statutory reform of the MIA 1906 in the interest of justice between the insured and the insurer. Attempts by the courts, to give greater protection to insured are limited in scope. A coherent reform of the Act through legislation would certainly be in the interests of certainty .
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