Good Faith and Insurance Contracts

Peter MacDonald Eggers and Sir Simon Picken

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CHAPTER 15 Examples of material facts

15.01 There has been some discussion above1 of the meaning of materiality and the manner in which a particular circumstance may be adjudged material. Given the frequency with which insurance disputes find their way before the courts and the long-established test of materiality, it is not surprising that there have been a great number of cases where various facts have been branded as material and immaterial. It is useful to review the array of cases and illuminate the nature of materiality by reference to these examples revealed by the authorities. If there is any guiding principle to be garnered from the authorities, it is that the more unusual the fact is material to the risk, the less it may be assumed that the insurer should know the fact, the more obviously material it becomes.2 15.02 The cases exemplifying materiality will be considered looking at facts that concern principally the assured and the subject-matter of the insurance, although other miscellaneous and relevant matters will also be discussed. It should be borne in mind that no universal rules can be laid down as to the materiality of certain facts. In all cases, the materiality of a fact will depend on the subject-matter of the insurance, the nature of the insurance product, the perils insured against, the presentation of the risk made by the assured and the attitude of the perennial prudent underwriter.3 For example, in Johnson v IGI Insurance Co Ltd,4 the assured hire-purchased a vehicle for use as a taxi; the car salesman also sold the assured a medical insurance policy indemnifying the assured’s responsibility to repay the charges due under the hire-purchase finance agreement. The assured suffered pain in his thoracic spine and so was rendered unfit to continue working and pay the finance charges. The assured had failed to inform the insurer’s agent, the car salesman, that he had suffered lower back pain for some ten years before the contract. It is notable that the proposal form asked no questions of the assured as to his medical history. Evidence was given that the insurance policy was a “mass insurance product”, which is issued in large numbers by insurers and subject to manageable financial limits so that the insurer will accept both good and bad risks. The Court of Appeal affirmed the judge’s decision that the assured’s prior health record was not material, given the nature of the product, even though such circumstances might be material in the ordinary course, particularly if the policy had been an “individual” policy.

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15.03 The examples suggested by no means are exhaustive. Material circumstances may be found in all varieties, if one looks hard enough.5

The assured

15.04 The circumstances surrounding the person or situation of the assured will be at least potentially relevant to all insurance contracts. This is because of two connections that the assured has with the insurance: first, the assured’s life or health may be the subject-matter of the insurance or he otherwise may be interested in the subject-matter insured (for example, he may own the property insured);6 secondly, the assured is the insurer’s contracting counterpart. 15.05 The circumstances touching upon the assured that have been treated as material have included the assured’s identity, age, occupation, qualifications, nationality, financial history, habits or practices, health and probity. Each shall be considered in turn. Before doing so, it should be noted that there are certain characteristics of the assured, which are “protected” from discrimination, pursuant to the Equality Act 2010, by sections 29 and 31 and Schedule 3, Part 5. Discrimination is prohibited in the provision of insurance services by reference to gender re-assignment, race, religion or belief, sex or sexual orientation. That said, in the provision of insurance services, the insurer is permitted by this legislation to take into account certain protected characteristics in assessing a risk to be insured, such as age (section 28(1)(a) and Sched. 3, para. 20A), disability (Sched. 3, para. 21), and marriage and civil partnership (section 28(1)(b)). It had previously been provided by this legislation that the insurer could take into account the assured’s gender in assessing the risk, but this was held to be unlawful, being contrary to articles 21 and 23 of the Charter of Fundamental Human Rights, by the European Court of Justice in Association Belge des Consommateurs Test-Achats ASBL v Conseil des Ministres of the Kingdom of Belgium.7

Identity

15.06 It is not unusual for the insurer to be ignorant of the assured whose interest he is insuring, where the nature of the insurance is such that the assured’s identity generally plays little role in the assessment of the risk. If a marine insurance policy covers the shipment of containerised goods on a regular liner service, the identity of the assured may not be material because the assured has less influence over the success of the adventure than he would if he were undertaking the transport himself.8 Indeed, in many cases, the insurer will grant cover to a broker on the basis that the latter need not disclose the name of his

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principal. This is not to say that the identity of the assured may not be relevant even in such cases, particularly if the assured has a history of insurance fraud or other dishonesty.9 Indeed, if the insurer asks the broker for the name of the assured or asks whether the assured is a particular person, the broker should answer truthfully.10 15.07 In many cases, however, the identity of the assured will be material. In Becker v Marshall,11 both Salter J at first instance and the Court of Appeal treated the foreign origin of the assured and the change of name of one of the assureds as material, although Scrutton LJ considered that the name of one of the assureds, being foreign, may have put the insurer on enquiry and that the change of name may not be relevant as the identity of the assured changed during the insurance relationship.12 Similarly, in Dunn v Ocean Accident & Guarantee Corporation Ltd,13 the assured included on the proposal form only her maiden name. The court held that the assured’s married name was material and should have been disclosed to a motor insurer as her husband, with a history of dangerous driving, was accustomed to drive the insured vehicle and such disclosure would have permitted the insurer to investigate the assured’s husband. 15.08 Where the adventure insured is associated closely with the assured, the assured’s identity will very often be material. Indeed, this may also be true of the proposer who acts on behalf of the assured. In Gallé Gowns Ltd v Licenses & General Insurance Co Ltd,14 the director who completed the proposal form for a fire insurance policy to be issued in favour of a trading company signed his name as “For and on behalf of Gallé Gowns, Ltd. A. Hershorn, Director”, whereas in fact the proposer was Abraham Gergshorn, a man with a “hectic financial past”. The London special jury to whom the question of materiality was addressed considered this omission to be material. 15.09 In Johns v Kelly,15 Lloyd’s brokers were insured against the risk of professional liability and claimed under the policy in respect of a risk underwritten through them on the instruction of non-Lloyd’s brokers for the benefit of Hoover in connection with an extended warranty offered by Hoover to their customers on products sold. The professional indemnity insurers declined the claim on the ground that the Lloyd’s brokers failed to disclose the existence of an umbrella arrangement whereby the Lloyd’s brokers made available to the non-Lloyd’s brokers the broking facilities that they had in place at Lloyd’s. Bingham J commented that in such a case the identity of the assured, here the broker, was material because it revealed the level of the assured’s competence and care in the conduct of his business, his reputation, the volume of his business and the nature of the risks broked

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by him which in turn reflected the level of negligence claims which might be brought against him. 15.10 The duty of disclosure can interact with the law concerning undisclosed principals. The duty of course requires disclosure of material circumstances, which may well include the identity of those whose interest is being insured under the policy. On the other hand, the doctrine of undisclosed principals permits an agent to contract with another on behalf of a person whose identity and existence are unknown to the counterpart. The scope of this doctrine is limited in the context of insurance contracts if the identity of the principal would have to be disclosed to the insurer as a material circumstance. In Talbot Underwriting Ltd v Nausch, Hogan & Murray Inc,16 a marine policy was placed in respect of a vessel under construction in favour of the shipowner, who had contracted with a shipyard to procure insurance for the benefit of the latter. The policy, however, did not name the shipyard as a co-assured, and it was argued that the shipyard was a party to the insurance contract as an undisclosed principal, because the shipowner and its broker were authorised and intended to contract on behalf of the shipyard. Cooke J at first instance and the Court of Appeal held that as a matter of construction of the contract, the shipyard was not a principal. However, they both further held that if the shipyard had been a principal, there may well have been an obligation on the shipowner to disclose the identity and characteristics of the shipyard.

Nationality, origin and residence

15.11 The most celebrated case in which the materiality of the assured’s nationality or origin was examined is Horne v Poland.17 This case concerned a burglary insurance policy issued to a man who had arrived in England at the age of 12, having been born in Romania. The assured was educated in the East End of London, married an Englishwoman and carried on business in London. He changed his name and adopted a name that was the closest English equivalent to his mother’s Romanian maiden name, although his father continued to use his Romanian name. The assured was married in his Romanian name, but otherwise lived his life under his new name. Although it is not clear from the report when the policy was issued, it appears that the assured took out the policy some 20 years after his arrival in England. The insurers alleged that the assured failed to disclose his foreign origin and so sought to avoid the contract. The materiality of the origin of the assured was left to the court. 15.12 Lush J held that no universal rule could be applied that such matters as nationality and origin would always be material, as it may be the case that the assured’s education and training in the land of his birth would be the same as in England so that the insurer would be unable to discern any difference between the attitude of an Englishman and the national of that other country. Each case is to be tested according to its own facts. The judge held that nationality, caste or domicile may well be material to the risk that the underwriters run

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in insuring the interest of the assured; there are differing national standards of training and education and the like, each of which may contribute to the assured’s standard of honesty and good faith. The judge went out of his way to dispel the tendency of some to generalise and attribute traits to particular races.18 These principles have been applied in subsequent cases. The court then concluded that the assured in this case failed to disclose a material fact. While there may well be occasions where nationality is material (particularly where national trade sanctions exist in respect of, or there is war against, particular nations)19 and whilst the test applied by the court was no doubt correctly applied (although its connection to the risk at hand is difficult to discern), it is hard to believe that the assured’s origin in this case was material, as the training and education that the assured received, and to which the judge attached importance, was conducted in England.20 A hard case indeed. 15.13 This decision was distinguished by reference to its facts in Lyons v JW Bentley Ltd,21 where Lewis J held that it would not be material for an assured to disclose to an insurer the fact that he had been a Russian who came to the United Kingdom at the age of five, when at the time of the insurance contract he was 65 years old, having led an honest life. 15.14 The Equality Act 2010, by sections 29 and 31 and Schedule 3, Part 5 prohibits discrimination in the provision of insurance services, by reason of certain protected characteristics, including that of race. Section 9(1) of the 2010 Act provides that “race” includes colour, nationality and ethnic and national origins.22 The 2010 Act therefore prohibits the actual or the prudent underwriter from taking such matters into account.23 Such matters as race and nationality will therefore not be material. It may be, however, that an insurer is asked to insure a person’s property which may be exposed to greater risks because of his nationality. For example, an insurer may be asked to insure the property of a person who is a citizen of a nation at war with another nation, thus exposing his property to greater perils than would otherwise be the case. If the insurer were to impose a higher premium for such a risk, would this be a case of unlawful discrimination? The argument that it would not depends on the fact that the increased risk relates to the property rather than the assured’s nationality. Nevertheless, if it were not for the assured’s nationality, such an increased risk might not exist. The point is untested. 15.15 The ordinary residence of the assured or the life insured may also be material, especially if the place of residence may be seen as increasing the risk of the occurrence of an insured event.24 Often, the residence will be material where it is a matter of identif

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ying the country or city of residence. However, it may be that the suburb, village or street address of the assured may be material, for example in respect of life or accident or motor insurance, where crime rates differ within relatively small areas.

Age

15.16 The age of the assured or life insured often will be material where the age is reflective of life expectancy, experience, ability, health or capacity. This is especially so in the case of life,25 accident or health insurance policies or motor insurance policies.26 Section 31 and paragraph 20A of Schedule 3 to the Equality Act 2010 permit an insurer to take age into account in providing insurance services. Paragraph 20A(2) provides that where an insurer conducts an assessment of risk for the purposes of providing the insurance service to another person, the insurer may rely on the exception to the prohibition against age discrimination only if the assessment of risk, so far as it involves a consideration of the assured’s age, is carried out by reference to information that is relevant to the assessment of risk and from a source on which it is reasonable to rely.

Occupation or profession

15.17 The assured’s occupation will be material where the assured is insured against death, accidents, illness and the like or where his occupation exposes the interest insured to a greater or unexpected risk of loss. Most of the authorities that deal with a contract being avoided on the ground of a non-disclosure or misrepresentation of the assured’s occupation also contain a warranty of the truth of the assured’s declarations.27

Health

15.18 The physical or mental health of the assured or life insured is of the highest materiality particularly where the assured is insured against risks to his own well-being, common in health, life and accident policies.28 Equally, the habits of the assured or life insured

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that have an impact on health (such as alcohol, tobacco and drug use)29 may be material. There are a number of difficulties that are encountered in respect of the assured’s duty of disclosure of matters pertaining to health, for a number of reasons. First, the “seeds of mortality”30 are germinating or at least contained in all human vessels. That is, there are within us the viruses, bacteria, the result of abuses or rich living and the like that may harm us; and there are afflictions from which we all suffer that may or may not be symptomatic of a more serious illness.31 Secondly, good health may not just be the peak of fitness32 or complete freedom from all illnesses, ailments or injuries.33 So the extent of disclosure must always be a question of degree.34 Further, the assured will often be unaware of the medical or psychiatric condition or risks to which he currently is exposed,35 even though he may be aware of the symptoms that might suggest to a medical expert the diagnosis of a particular condition.36 15.19 These difficulties have been sought to be alleviated by emphasising the test of materiality to be applied by reference to the standard of the reasonable person (prudent underwriter), without any specialist scientific or medical skill or knowledge.37 If, therefore, the life insured, to the knowledge of the assured, or the assured himself (where his own life or health is insured) has been suffering from an illness that may be regarded as out of the ordinary or has consulted a physician or a medical practitioner in respect of an uncommon illness or knows of any other fact material to the health or life insured, such matters ought to be disclosed.38 However, if the affliction or disorder is unknown to the assured, then

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clearly the assured is not capable of making such disclosure39 and should not suffer unless he has warranted his good health.40 15.20 Many cases dealing with the health of the assured concerned policies that contained basis clauses, thus warranting the good health of the assured.41 Without such warranties, the obligation of disclosure of material facts pertaining to health remains,42 unless the questions asked by the insurer in the proposal form effectively waive further disclosure.43 If the policy is a consumer insurance, as it will often be, the assured’s obligation is not one of disclosure, but an obligation not to make negligent misrepresentations, that is to answer the questions in the proposal form with reasonable care. Basis clauses are now abolished pursuant to section 6 of the Consumer Insurance (Disclosure and Representations) Act 2012 and section 9 of the Insurance Act 2015.

Insurable interest

15.21 It might be thought that the assured’s interest and its nature in the subject-matter of the insurance may be material facts requiring disclosure. However, if one recalls the definition of insurable interest (namely, an interest that produces an advantage or prejudice for the assured in the event of the safety or loss of the subject-matter insured respectively)44 and the requirement that a loss, other than under a life policy, will be indemnified by the insurer only if the insurable interest is possessed at the time of the loss,45 even though there is no such interest beforehand or afterwards, it may be seen how such matters as the nature or extent of the assured’s interest might not be material. It has been said that such matters of interest need not be specified in the policy46 and so need not be disclosed.47 Nevertheless,

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it may be that the circumstances surrounding the interest may be material, for example, if it alters the risk to be insured;48 such materiality will rest for determination at the time the contract is made.49 15.22 As regards life insurance contracts, the Life Assurance Act 1774 has been held to require an interest to be had by the assured at the time the contract is made.50 Therefore the assured’s interest in the life insured may be material.51

Financial history and practices

15.23 Putting aside any question of history of fraud or dishonesty on the part of the assured, the financial history and business practices of the assured may well be material to a number of insurance contracts in that they may reveal the extent that the subject-matter of the insurance is exposed to the risk of loss, whether it be by theft, liability or business interruption. If the assured operates his business safely and carefully, the risk of loss may be decreased. For example, if the assured incorporates adequate security devices such as alarms and gates on his business premises, the risk of loss may be diminished; indeed, the use of such devices may be presumed in today’s world so that their absence from commercial premises may fall for separate disclosure to the insurer.52 Similarly, the keeping of adequate records on premises where substantial stock is maintained will help to determine the extent of pilferage of stored goods from the premises so that the omission to maintain detailed or any records may be material.53 The assured’s financial history and his propensity to insolvency will be material as they may reveal the assured’s ability to manage risk, which may form the subject of the insurance.54 The nature of the insurance therefore may render the assured’s financial history material: such information would be particularly material in cases of combined business interruption and property insurance,55 financial guarantee insurance,56 credit insurance57 and disability insurance.58 The financial history or solvency of not only the assured, but also those associated with the assured (e.g. if the assured is a company, the financial history of the alter ego of the company, the company’s

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directors or of other companies in the same corporate group or of directors of those other companies), may be material.59 15.24 In addition, the assured’s financial and commercial circumstances may also be relevant to the prospect of fraud affecting the insurance, whether the fraud springs from the intentions of the assured himself or someone else who may inflict a loss upon the assured that is covered by the insurance. Of course, such matters may fall for disclosure in so far as they meet the test of materiality and fall outside the presumed knowledge of the insurer.

The assured’s concerns

15.25 Section 7(4)(b) of the Insurance Act 2015 provides that “any particular concerns which led the insured to seek insurance cover for the risk” are an example of circumstances that may be material. Thus, if the assured had specific concerns or fears as to the safety of the insured subject-matter, that may be material for disclosure, especially as section 7(4)(b) recognises it is a concern or fear that prompted the assured to obtain the insurance cover. In Fraser Shipping Ltd v Colton; The Shakir III,60 the master expressed his concern to the assured about the anchorage arrangements of the tug and the insured tow and the approach of a typhoon that threatened the vessels. Potter J held that these concerns were material to be disclosed and had been concealed. While the learned judge did not explain the basis of this decision, it is to be noted that the master’s concern was one that was supported by the surrounding circumstances, namely the congestion of the port that prevented the tug and tow from moving to a safe berth and meteorological forecasts by the Royal Observatory of Hong Kong.61

Moral hazard

Introduction

15.26 “Moral hazard” is a loaded term. In this context, it refers to the prospect of the assured himself acting in a way which would add to the risk to be insured in that a loss may be sustained through the fraudulent design of the assured,62 whether in the procurement of the loss or the fabrication or exaggeration of a claim;63 indeed, it might also refer, in the broad sense, to the unacceptability of contracting with dishonest assureds.64 The term may also refer to the prospect of fraud by another person that may cause loss to the assured; usually, such a person is intimately associated with the interest insured, such as the alter ego

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or a director of the assured,65 servants or agents of the assured (including an insurance broker),66 the master or manager of a ship,67 the manager of a business68 or a warehouseman.69 15.27 The curious aspect of the supposed materiality of the assured’s propensity towards bad faith and dishonesty is that a loss fraudulently procured or a claim made fraudulently is not covered by any insurance, unless the policy provides otherwise,70 so that any plan to act dishonestly to the detriment of the insurer usually will not result in a loss that the insurer is bound to indemnify. In Banque Financière de la Cité v Westgate Insurance Co Ltd (sub nom Banque Keyser Ullman SA v Skandia (UK) Insurance Co Ltd,71 the House of Lords was considering the nature of the insurer’s duty of disclosure to the assured at the time of placing. Lord Bridge approved the definition of materiality postulated by the Court of Appeal, namely material either to the nature of the risk sought to be covered or the recoverability of a claim under the policy which a prudent assured would take into account in deciding whether or not to place the risk. The assured alleged that the insurer should have informed him of the assured’s agent’s fraud, of which the underwriter was aware. However, Lord Bridge held inter alia that as the agent’s fraud would not, on his construction, have fallen within the policy’s fraud exclusion clause, there was no need to disclose the fraud because the existence of such fraud would not have been material to the recoverability of the claim under the policy.72 This decision is questionable for three reasons. First, Lord Bridge’s test of materiality is wrong as a matter of principle being asymmetric with the test of materiality prescribed for disclosure by the assured; the test put forward by Lord Jauncey is clearly preferable.73 Secondly, it is the existence of the fraud not falling within the exclusion clause that renders the fraud material because it increases the risk of an insured loss occurring. Thirdly, if the decision were correct as a matter of principle, there would be no necessity to disclose factors affecting the moral hazard associated with the assured. However, the better analysis is that this ruling is not correct, having been stated by only one law lord, who found contrary to the Court of Appeal,74 because it confuses the recoverability of a loss under the policy, which the law lord took into account, with the risk of loss to the assured that should have been considered and that the insurer knew he would not have to cover, or risk of loss to the insurer (in the event that fraud cannot be established).

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15.28 In any event, a firm body of judicial opinion has been established to the effect that matters of “moral hazard” must be disclosed, being material.75 Any fact that concerns the moral hazard that the insurer runs in undertaking the insurance may be disclosable, such as prior criminal convictions76 or conduct or the hatching of a plan to defraud the insurer. In the latter case, where there is an intention to defraud at the time of the contract, that intention should be disclosed although, given the sinister design, it is of course unlikely that the assured will “spill the beans”.77 If the intention is formed after the contract, any loss fraudulently connived at or claimed will not be recoverable, being in breach of the duty of the utmost good faith.78 Any intention to defraud the insurer is often accompanied by an over-or under-valuation of the subject-matter of the insurance,79 a topic that will be discussed separately below.80 15.29 Indeed, any fact that goes to the honesty or good faith of the assured may be material for disclosure,81 whether related to the insurance contract or not.82 There does not have to have been criminal conduct on the part of the assured to warrant disclosure.83 However, an inadvertent failure to perform a contractual duty is not a matter of moral hazard.84

Past convictions and dishonesty

15.30 The earliest reference to the possibility of disclosure of matters of moral hazard, albeit without the monicker,85 may be found in Corcos v De Rougement.86 In this case, the assured claimed under a motor insurance policy in respect of a genuine loss. While the proposal form had been completed correctly, the insurers alleged that the assured had failed to disclose the fact that she had for prolonged periods of time driven a motor vehicle without a driving licence in breach of the law. The question arose whether this fact was material. McCardie J said as follows:

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“in considering the question of materiality one must look at the consequences. If there is a duty on the part of one to disclose that when driving one had no licence, it would lead to curious results. [It has been submitted] that where people had been guilty of any breach of law it should be revealed to the insurance companies so that they might ascertain the character of the person proposing. But the result of that would be that not only must you reveal to the insurance companies that omission to take out a driving licence but any breach of law with regard to anything; and I cannot myself see where the result would end if a person’s character is to be weighed in connection with the insurance of a car; and [the] argument comes to this, that he would say it was the duty of a person to reveal to the insurance companies every irregularity in his past life. In my view that is not so; and I am not satisfied that by the omission here this lady is responsible.”87

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