Detention perils: broad application of infringement of customs regulations exclusion

Court of Appeal holds that a constructive total loss (CTL) of a vessel detained by customs authorities in Venezuela after drugs were strapped to its hull by malicious persons was not covered under standard war risks policy terms because the infringement of customs regulation exclusion clause applied.

Implications

Vessels are at risk of being used by third parties as a means of smuggling drugs and other materials. When this is discovered, the vessel is likely to be detained for several months, often potentially triggering a claim for a CTL under a war risks cover. Insurers have traditionally not been willing to cover such risks as standard, hence the exclusion for detainment “by reason of infringement of any customs or trading regulations” as found, for example, in clause 4.1.5. of the Institute War and Strikes Clauses.

Until now, the courts have given a broad interpretation to this exclusion to apply to all kinds of smuggling – see for example The Anita [1971] and The Kleovoulos of Rhodes [2003] (in which the insured/its crew were similarly not complicit in the smuggling). The first instance decision of the Commercial Court in this case seemed to turn this approach on its head.

The Court of Appeal’s judgment is therefore a welcome return to the more orthodox approach, which brings with it more certainty for the market and comfort to insurers. It probably reflects no more than application of the standard principles that where two events are proximate causes of a loss, and one event is covered within the policy of insurance (malicious act), and the other event is subject to an exclusion (detainment by reason of infringement of any customs or trading regulations), insurers will not be liable.

Cover for such detainment risks which are excluded by the standard terms of cover is available in the market. Shipowners and others interested in vessels trading to countries which present a particular risk that the vessel might be used by others for smuggling contraband will now need to consider whether to purchase it.

Background

The B Atlantic was insured on the Institute War and Strikes Clauses 1/10/83 with additional perils. In 2007, she was detained and her master and crew arrested in Venezuela following the discovery of bags of cocaine attached to her hull by persons unknown. The presence of the drugs constituted a criminal offence. The vessel remained under detention until 2010, when a Venezuelan court ordered that she be confiscated.

Owners claimed against war risks insurers on the basis that the vessel was a CTL having been detained for over six months. Insurers accepted that the vessel was a CTL but declined cover on the basis that the detention arose by reason of an infringement of customs regulations.

Owners argued that the exclusion did not apply both on the facts, because the confiscation was due to political interference in Venezuela, and also that on a true construction of the policy the loss arose from an insured risk, namely the malicious acts of a third party, and in those circumstances the exclusion did not apply.

There were separate trials of preliminary issues of law and on the facts in the Commercial Court:

• On the law, it was held that it was not necessary for insurers to show any complicity of the insured or its servants or agents to be able to rely on Clause 4.1.5, and that this exclusion was not restricted to the capture, seizure and expropriation cover provided by Clauses 1.2 and 1.6.
• On the facts, it was held that there was no political interference. The planting of the drugs was a malicious act. However, reading the cover and the exclusions together, the exclusion for infringement of customs regulations was subject to a limitation that it did not apply where the infringement was no more than the manifestation of the relevant act of persons acting maliciously.

The loss was therefore covered under the policy.

Decision

The Court of Appeal agreed that the concealment of the drugs was a malicious act. However, the detention was by reason of an infringement of customs regulations. The concealment and the detention were both proximate causes of the loss. Therefore the exclusion applied.

In the leading judgment, Lord Justice Clarke found that Mr Justice Flaux had been wrong to limit the scope of the standard exclusion clause, seeking to read in words which were not there, and went against the spirit of the policy. There are many malicious acts (sabotage, the explosion of goods secreted on the vessel, the killing or wounding of a crew member, or the smuggling of illegal immigrants) which do not involve any infringement of customs or trading regulations, so there was no need to imply a limitation. If the insured’s contention was right, cover would depend on the place of discovery of the drugs, a distinction for which there was no rational basis. The application of the policy to worldwide trading supported a wide and consistent interpretation of the exclusion.

Read other items in the Shipping and Commodities Brief - September 2016