Consumer Insurance Law: Pre-Contract Disclosure and Misrepresentation

Current project status

• Initiation: Could include discussing scope and terms of reference with lead Government Department
• Pre-consultation: Could include approaching interest groups and specialists, producing scoping and issues papers, finalising terms of project
• Consultation: Likely to include consultation events and paper, making provisional proposals for comment
• Policy development: Will include analysis of consultation responses. Could include further issues papers and consultation on draft Bill
• Reported: Usually recommendations for law reform but can be advice to government, scoping report or other recommendations

This part of the Insurance Contract Law project is complete. The Consumer Insurance (Disclosure and Representations) Act 2012 received Royal Assent on 8 March 2012. It came into force on 6 April 2013.

The Law Commission and the Scottish Law Commission recommended the creation of a new consumer statute setting out what a consumer should tell their insurer before taking out insurance. The law under the Marine Insurance Act 1906 requires consumers to volunteer information about everything which a “prudent insurer” would consider relevant. We think this duty should be abolished. Instead, insurers should be required to ask questions about what they want to know.

The Marine Insurance Act 1906 (“the 1906 Act”) is based on eighteenth and nineteenth century principles. The law imposes a duty on consumers to tell insurers anything which would “influence the judgment of a prudent insurer” in fixing the premium or deciding whether to take the risk. The problem is that most consumers have little idea of what might influence a prudent insurer. Yet the penalties for failure to disclose information to insurers are harsh. If a consumer fails to disclose material information, the insurer may treat the policy as if it does not exist and refuse all claims under it.

The current law is inappropriate for modern consumer insurance and operates harshly. There are four main problems with the 1906 Act:

• The duty to disclose may operate as a trap for consumers, who are usually unaware that the duty exists.
• Policyholders may be denied claims even when they have acted honestly and reasonably.
• The remedy may be overly severe. If the consumer has made a mistake, the insurer may refuse all claims, even claims which it would have paid had it been given full information.
• Proposal forms sometimes state that the answers “form the basis of the contract”. In law, this means that if any statement is incorrect, the insurer may refuse all claims, even if the mistake is unimportant.

The case of Lambert v Co-operative Insurance Society Ltd [1975] 2 Lloyd’s Rep 485 illustrates the problems with the duty to disclose. When Mrs Lambert insured her family’s jewellery the insurer did not ask about her husband’s previous convictions and she did not mention them. When Mrs Lambert claimed £311 for lost jewellery, the insurer avoided the policy. The Court of Appeal held that the insurer was entitled to do so under the rules of law set out in the 1906 Act. The conviction was a material circumstance, which would have influenced a prudent insurer. It did not matter that a person in Mrs Lambert’s position would not have realised this. The law was clear, though not necessarily fair.

The current law is complex and confusing. To mitigate the harshness of the 1906 Act, consumer insurance has been the subject of an array of industry codes, Financial Services Authority (“FSA”) rules and Financial Ombudsman Service (“FOS”) discretion. These various rules are overlapping and inconsistent adding to industry costs.

Consumers are only able to obtain justice from the FOS, not from the courts. Although the FOS decides cases in a fair and reasonable way, it cannot help all those with disputes. Its compulsory jurisdiction is limited to awards of £100,000, and the FOS declines cases which require witnesses to be cross-examined. If the consumer takes the case to court, the court must apply the 1906 Act. Confusion over the law penalises some vulnerable groups.

Particular problems exist for older consumers, for those with criminal convictions and for those with serious illnesses such as multiple sclerosis. The resulting muddle leads to a loss of confidence in the consumer insurance industry. This has particular relevance at a time when there has been discussion about insurance playing a bigger role in welfare provision.There is confusion over whether an intermediary (an agent or broker) acts for the consumer or the insurer. This is significant if an agent is deemed to have acted for the consumer, as the consumer is held responsible for the agent’s actions.

The project

On 15 December 2009, we presented to Government a report that included our recommendations and a draft Bill designed to implement them. The report followed a consultation that closed in July 2007. We received over 100 responses to the consultation and were greatly encouraged by the strong support for reforming the law on misrepresentation and non-disclosure as it affects consumers.

Consultation

This report was informed by a consultation held in 2007: Misrepresentation, Non-disclosure and Breach of Warranty by the Insured. The consultation paper and preceding issues papers are available on the Insurance Contract Law main project page.

Implementation

The Law Commissions’ recommendations were accepted by the Government on 16 May 2011. The Consumer Insurance (Disclosure and Representations) Bill was introduced in the House of Lords also on 16 May 2011. The Consumer Insurance (Disclosure and Representations) Act 2012 received Royal Assent on 8 March 2012 and came into force on 6 April 2013.

The Bill followed the procedure for uncontroversial Law Commission Bills.

Our recommendations

The scheme we recommended is best thought of as a series of questions that the insurer, court or ombudsman must ask before deciding to reject all or part of the claim.

The Act:

• applies only to consumers and deal only with the issue of what a consumer must tell an insurer before entering into or varying an insurance contract. It abolishes the consumer’s duty to volunteer material facts. Instead, consumers must take reasonable care to answer their insurer’s questions fully and accurately. If consumers do volunteer information, they must take reasonable care to ensure that the information is not misleading, and
• prescribes the insurer’s remedies where they have been induced by a misrepresentation to enter into an insurance contract. The insurer’s remedy depends on the consumer’s state of mind:
  1. if the misrepresentation was honest and reasonable, the insurer must pay the claim. The consumer is expected to exercise the standard of care of a reasonable consumer, taking into account a range of factors including the type of insurance policy and the clarity of the insurer’s question.
  2. if the misrepresentation was careless, the insurer will have a compensatory remedy based upon what the insurer would have done had the consumer taken care to answer the question accurately. If the insurer would have excluded a certain illness, for example, the insurer need not pay claims which would fall within the exclusion but must pay all other claims. If the insurer would have charged more for the policy, it must pay a proportion of the claim.
  3. if the misrepresentation was deliberate or reckless, the insurer may treat the policy as if it never existed and may decline all claims. It will also be entitled to retain the premiums, unless there was a good reason why they should be returned.
• abolishes “basis of contract” clauses, bringing the law into line with recognised good practice
• establishes a statutory code to determine for whom an intermediary (an agent or broker) acts when arranging insurance
• includes special provisions for group schemes and for insurance taken out on the life of another, and
• prevents insurers from including terms in insurance contracts that put the consumer in a worse position in respect of pre-contract disclosure and representations than the draft Bill will permit.