The Insurance Act 2015 came into force in August 2016, and introduced proportionate remedies which insurers can rely on in certain circumstances.
An insurer can proportionately reduce the sum paid out on a claim, where an insured breached its duty of fair presentation of the risk, but its breach was neither deliberate or reckless, and the insurer would have still entered into the policy, but charged a higher premium.
A common example is where an insured inadvertently overlooked disclosing material issues, such as a history of previous claims or directors who were involved in previous companies which entered insolvency. Where the insurer determines these issues would not have prevented it from offering cover, but it would have led to a higher premium being charged, the insurer can reduce the amount paid on the claim.
If for example the insured’s premium was £12,000 per annum, but had the insurer been aware of the issues which were not disclosed, it would have charged a premium of £20,000, the insurer is entitled to pay only 60% of the claim.
The formula to be applied is £12,000 (premium actually charged) divided by £20,000 (higher premium that would have been charged), multiplied by 100, as per schedule two of the Insurance Act 2015.
There are some important practical considerations for an insurer to consider when applying a proportionate reduction:
- The burden is on the insurer to establish that there has been a breach of the duty of fair presentation and that but for the breach, it would have charged a higher premium. Often this will involve obtaining the full underwriting file, underwriting guidelines and correspondence with the insured.
- The insurer will need to show the misrepresentation/non-disclosure was material, in other words, it would have influenced the judgement of a prudent insurer as to whether to take on the risk and on what terms. This may require expert evidence on the issue of materiality.
- For the above reasons, applying a proportionate reduction can be costly for insurers if it is challenged by an insured (or in the limited circumstances where a claimant can challenge the insurer’s position directly). Depending on the circumstances, a commercial view may need to be considered, particularly if the percentage reduction is small or where the claim is of relatively low value.
- Under EL/PL policies, insurers typically have the right to control the conduct of the claim and will instruct solicitors to act on behalf of the insured. Where however a proportionate reduction is applied and the insured is not being indemnified for a percentage of the claim, this can lead to a conflict as to how the claim should be handled and insurers should act cautiously so as not to prejudice the insured.
The proportionate reduction remedy is a useful instrument for insurers to ensure a fair outcome where there has been material misrepresentation or non-disclosure. However, insurers should ensure the remedy can be upheld in the event of challenge and consider the practical issues it can give rise to.