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Consideration of Moral Hazard - Commercial Litigation Focus

Consideration of Moral Hazard

In the case of Joseph Fielding Properties Blackpool Limited -v- Aviva Insurance Limited - The Court extends the factors which insurers can reasonably take into consideration when deciding whether or not to provide insurance to a potential policyholder. 

It is an accepted principle of Insurance Law that a Contract of Insurance is based upon the principle of ‘utmost good faith’ and that, if this principle is not observed, the policy may be avoided by either party.

In practice, this means that a potential policyholder is obliged to disclose every ‘material circumstance’ which is known to him, with materiality being defined as ‘every circumstance which would influence the judgement of a prudent underwriter in fixing the premium or determining whether he will write the risk’.

The test for materiality was reformulated by the then House of Lords in Pan Atlantic Insurance Co -v- Pine Top Insurance Co [1995] A.C. 501 who decided that it was a two stage objective and subjective test and that a ‘material circumstance’ is one which:

1 Would have an effect on the mind of a prudent underwriter in deciding whether to accept the risk or to write it on those terms;

2 Induced the actual underwriter to accept the risk on the terms that it did.

It is generally accepted that the consideration of what is material includes the disclosure by a potential policyholder of any fraudulent claim which he has presented to a previous insurer and any policies which have been avoided by previous insurers.  

However, the Courts have recently gone further in the case of Joseph Fielding Properties’ Blackpool Ltd v. Aviva Insurance Ltd [2010] EWHC 2192 (QB) and stated that an insurer is also entitled to take into consideration if the potential policyholder has made false statements to previous insurers at the inception of previous insurance policies and/or in support of previous claims.

The facts

Aviva sought to avoid the policy which it had provided to JFP on the following grounds:

1  JFP had made a fraudulent claim for which Aviva paid £9,870 in respect of damage to a drain; and/or

2 JFP failed to disclose at inception the fact that the principle shareholder of JFP, Mr Leonard, had made fraudulent claims to a prior insurer; and/or

3  JFP failed to disclose at inception the fact that Mr Leonard had made misrepresentations and/or non-disclosures to other insurers in the past.

The Court’s decision

The Court held that JFP had exaggerated its claim for damage to the drain and thus Aviva was entitled to repudiate on the grounds of fraud.

The Court further held that Mr Leonard had failed to disclose at inception that a claim to a previous insurer had been repudiated on the grounds of fraud and that the failure to disclose this to Aviva at inception entitled it to avoid the policy.

The more significant decision, however, was that Aviva’s underwriters were entitled to take into account a combination of false statements so that they may build a picture of the moral hazard presented by any potential new policyholder.   The Court concluded that whilst an insurer may not consider one instance of a failure to disclose information to be a moral hazard, a combination of false statements taken in the round may rightly result in an insurer declining to offer cover to a policyholder because of the moral hazard presented by him.

Significance

This is an important consideration for insurers when deciding not only whether or not to provide cover but also when considering whether they are entitled to avoid a policy. 

It is often the case that individual instances of misrepresentation and non-disclosure are not considered to be sufficient to avoid a policy. However, in light of the above case, when considering whether any misrepresentation and/or non-disclosure induced the actual underwriter who decided to offer the policy, the underwriter is now entitled to consider a combination of factors when deciding whether to avoid a policy.  

This is likely to be a very useful tool for insurers in combating fraud and repudiating claims.

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