Unfair contract terms in insurance contracts: Australian Securities and Investments

A recent decision of the Full Court of the Federal Court of Australia held that a term requiring the insured to notify the insurer of changes in a home and contents insurance policy was not “unfair” for the purposes of the unfair contract terms regime in the Australian Securities and Investments Commission Act 2001 (Cth) (“ASIC Act”). The case is the first under the unfair contract terms regime and provides some interesting insights into when a term in an insurance contract might be considered unfair.

The facts

Auto & General Insurance Company Limited (“AGI”) is a general insurer which offers home and contents insurance under a number of brands, including Budget Direct, ING, Qantas and Virgin Insurance. Between 2021 and 2023, the Product Disclosure Statement for AGI’s home and contents policy contained a term (the “notification term”) which stated:

Tell us if anything changes while you’re insured with us

While you’re insured with us, you need to tell us if anything changes about your home and contents.

The Australian Securities and Investments Commission (“ASIC”) commenced proceedings in the Federal Court of Australia seeking a declaration that the notification term was unfair and therefore void.

Decision at first instance

The trial judge, Justice Jackman, held that the notification term was not unfair.

The most obvious difficulty with the notification term was that a literal interpretation of the term would require the insured to tell the insurer of any change whatsoever to their home or to the contents of their home. As the contents of any home change constantly, an insured would have to report every item they purchased from the supermarket to their insurer.

His Honour held that the notification term should not be interpreted literally, as that would lead to an absurd result. Importantly, ASIC conceded that the notification term should not be interpreted literally in this proceeding and its subsequent appeal. Instead, the policy was a commercial contract and therefore the court should ask what a reasonable businessperson would have understood the notification term to mean, and should assume that the parties intended to produce a workable commercial result.

Justice Jackman also held that:

• the proper interpretation of the notification term was that the insured must tell the insurer of any change to any information about their home and contents which they had provided to the insurer prior to entering into the insurance contract;
• the notification term should be construed to include the term implied by section 13 of the Insurance Contracts Act 1984 (Cth) (“ICA”), which requires each party to act towards the other with utmost good faith;
• the effect of section 54 of the ICA, which limits the circumstances in which AGI could rely on the notification term to refuse to pay out a claim, should be taken into account in assessing whether the notification term was unfair; and
• the notification term so construed lacked transparency, but when assessed in light of the limitations under section 54 of the ICA, it did not cause a significant imbalance in the parties’ rights and obligations and was reasonably necessary to protect the legitimate interests of AGI, and so was not unfair for the purposes of the ASIC Act.

The appeal

ASIC appealed to the Full Court of the Federal Court, both on the issue of the proper construction of the notification term, and on whether the notification term should be considered unfair. Only the former ground of appeal was successful, and the appeal was dismissed with costs.

The proper construction of the notification term

ASIC submitted, and the majority (Justices O’Bryan and Cheeseman) agreed, that the primary judge was incorrect in his construction of the notification term.

Their Honours held that the primary judge was wrong to characterise the policy as a “commercial contract” and therefore asked what a reasonable business person would have understood the notification term to mean. The policy was a standard form home and contents policy offered to consumers for personal or domestic use. As such, the construction should have involved a consideration of what a reasonable consumer would have understood what a notification term meant. The judgment of Justice Derrington dissented from the majority on this point.

Interestingly, the majority did not agree with the primary judge that the literal interpretation of the notification term should be disregarded. Their Honours considered that while the literal meaning would impose an unreasonable burden on the insured, this did not necessarily equate to absurdity or require the court to rewrite the term. They noted that the “orthodox approach” would be to give the notification term its plain meaning and consider whether that meaning was unfair within the meaning of the ASIC Act. However, as ASIC had conceded that the notification term should not be construed literally, their Honours could not adopt that interpretation, and had to choose one of the interpretations advanced by the parties.

On that basis, the majority agreed with ASIC’s argument that the most proper construction of the notification term is that it requires the insured to notify any changes to the circumstances affecting the home or contents which materially increase the risk insured or which materially alter the nature of the insured risk.

Whether the notification term was unfair

Having adopted this interpretation of the notification, the majority concluded that the notification term was not unfair for the purposes of the ASIC Act: they considered that the notification term did not cause a significant imbalance in the parties’ rights and obligations under the contract, and was reasonably necessary to protect the legitimate interests of AGI.

The majority disagreed with the primary judge that the construction of the notification term should incorporate the utmost good faith term implied by section 13 of the ICA. Instead, their Honours held that the obligations imposed on the insurer by both sections 13 and 54 of the ICA should be taken into account in deciding whether a term is unfair, insofar as they affect how the insurer can exercise its rights under the notification term. As such, the court should consider whether the notification term caused a significant imbalance in the parties’ rights and obligations under the contract, as modified by the ICA.

AGI argued that, when the effect of sections 13 and 54 of the ICA was taken into account,  the notification term did not cause a significant imbalance in the parties’ rights and obligations. ASIC conceded this, but argued that the effects of sections 13 or 54 of the ICA would not be known to most consumers and therefore the notification term was nevertheless unfair due to a lack of transparency. The majority rejected this argument. While their Honours agreed with ASIC that consumers would not be familiar with the effect of sections 13 and 54 of the ICA, they considered that that the notification term did not cause a significant imbalance in the parties’ rights and obligations, even before the effects of the ICA were taken into account.

ASIC also argued that the notification term was not reasonably necessary to protect the AGI’s legitimate interests. In a similar argument, ASIC conceded that the effect of the notification term as modified by the ICA was reasonable, but argued that the effects of sections 13 or 54 of the ICA would not be known to most consumers, and therefore the term was nevertheless unfair due to a lack of transparency. The majority also rejected this argument, on similar grounds - that the notification term was reasonably necessary to protect the AGI’s legitimate interests, even if the effects of the ICA were disregarded.

In other words, it was judged that the “base” notification term (interpreted as discussed above and without taking into account the effects of sections 13 and 54 of the ICA) was not unfair, and so the failure of the term to explain the effects of sections 13 and 54 of the ICA did not make the term unfair.

Key points to note

While the notification term was not held to be unfair in this case, the decision does highlight some important points for insurers:

• If ASIC had not conceded that the notification term should not be given a literal interpretation, it appears the majority would have adopted this interpretation, which likely would have led to the term being held to be unfair. Insurers should not assume that courts will save poor drafting by seeking alternative interpretations of a term to avoid an absurd or unreasonable result.
• The majority held that a term in an insurance policy which is generally acquired for personal or domestic use should be construed in accordance with what a reasonable consumer (not a business person) would understand the term to mean. As such, insurers should draft in a way that clearly explains insurance concepts and policy mechanics in plain language.
• The majority agreed that a term might be so unclear in its meaning that it could be considered unfair. This highlights the importance of clear drafting, particularly in insurance contracts directed to retail consumers.
• While sections 13 and 54 of the ICA will be taken into account when considering whether a term is fair, the effect of those sections on the term needs to be transparent to the reasonable consumer. As such, if an insurer is relying on the effects of those sections to make an otherwise unfair term fair, they need to explain the effects of those sections in plain language in the contract – or else adjust the term so that it is fair, even without the effect of those sections.

Kennedys has extensive experience in advising insurers on insurance contract wordings, including on whether a term in an insurance contract may be considered unfair under the unfair contract terms regime.