Final Report on second stage: provision other than section 54
4.1 Part IV of the IC Act is concerned with disclosures and misrepresentations, these topics being fundamental to a contract of insurance. This Chapter addresses:
- the insured’s duty of disclosure;
- the insurer’s obligations to inform an insured of the insured’s duty of disclosure; and
- the situation where intermediaries (brokers and agents) provide information to insurers on behalf of insureds.
4.2 There are two aspects of the duty of disclosure. First, there is a general duty not to misrepresent material facts. Second, there is a duty to disclose material facts. Both aspects of the duty protect the insurer from accepting a risk which is greater than it appears to be.43
4.3 Sections 21 and 21A of the IC Act are the main provisions covering the insured’s disclosure obligations. Section 21 provides that the potential insured must disclose to its insurer all information that is known to it and that is relevant to the insurer in making its decision whether it should accept the risk and, if so, on what terms. Section 21A requires the insurer to provide the insured with specific questions that are relevant to it in making its decision whether to accept the risk, thereby giving some assistance to the insured in fulfilling the duty of disclosure obligations. However, section 21A only applies to ‘eligible contracts of insurance’, these being contracts of insurance for new business covering, inter alia, motor vehicles, home contents and travel insurance.44 While the section 21 requirements must be satisfied before a contract of insurance is entered into, including renewals, section 21A does not apply to renewals.45
4.4 The IC Act deems that some omissions or statements do not amount to a misrepresentation. For example, section 27 provides that if a potential insured fails to answer questions, or provides an obviously incomplete or irrelevant answer to a question, they are not taken to have made a misrepresentation. In those circumstances an insurer is under an obligation to make further enquiry. Also, where a person makes a statement in connection with a contract of insurance that is untrue, he or she will not be considered to have made a misrepresentation if a reasonable person in the circumstances would have held the same belief.46
4.5 At common law a potential insured was required to disclose all material facts to its insurer. This is explained in the Explanatory Memorandum to Insurance Contracts Bill 1984:
‘Some lines of authority support the proposition that the insured’s obligation is to disclose every material fact known to him and which a reasonable man would realise to be material. Other authorities, and particularly more recent Australian cases have rejected this approach in favour of the “prudent insurer” test i.e. a fact is material if it would have reasonably affected the mind of a prudent insurer in determining whether it will accept the insurance, and if so, at what premium and on what conditions.’47
4.6 These requirements were clarified by the IC Act, in particular by specifying the test of materiality and ameliorating the ‘prudent insurer’ test.48 Now, subsection 21(1) of the IC Act provides that a potential insured must disclose to its potential insurer:
- every matter that it knows will be relevant to the decision of whether the insurer will accept the risk, and if so, on what terms (a subjective test); and
- every matter that a reasonable person in the circumstances could be expected to know to be a relevant matter (an objective test).
4.7 Some stakeholders have raised the question of whether the mixed subjective/objective test should be reassessed. The main criticism of section 21 is that it puts an unreasonable burden on insureds in that they are expected to know what the insurer regards as relevant.49
4.8 One suggested solution is to replace subsection 21(1) of the IC Act with a section 21A equivalent, namely the insurer must ask a potential insured specific questions that reflect the insurer’s underwriting guidelines.50 The potential insured must answer any questions asked of them fully and honestly. This would resolve the problem that is said to be found in the law that an insured must, in effect, answer questions it was not asked. If this were to be done, the existing section 21A would be redundant and could be removed. Subsections 21(2) and (3) would remain.
4.9 Such an approach is not supported by those underwriting large commercial risks. One submission explained:
‘We are presented with a description of the risk and then follow a process of interaction between us and our insureds via the brokers whereby we learn more about the risk and we will ask new questions as we go along the process. We do not in principle know which questions we will ask until we are confident how much premium to charge and what cover conditions to offer. We believe that the public interest is served far better by this approach than by the predominantly statistical methods employed in the underwriting of mass market business and we are able to offer much more competitive premiums and terms as a consequence.’
4.10 Australian Associated Motor Insurers Limited (AAMI) has advised that it does not rely on the duty of disclosure provisions found in the IC Act. It believes that for the type of insurance it sells the duty of disclosure obligations are outdated.51 Instead, it asks potential insureds specific questions and warns them to answer questions fully and honestly. It does not have a general ‘catch all’ question asking a potential insured to tell them anything else that might be important.
‘AAMI believes that it is now time for the duty of disclosure to be removed for personal lines general insurance products. There appears to be no justification for its continuing application for these standard insurance products where underwriting of risk is no longer a bespoke process. Insurers have clear underwriting guidelines on comprehensive historical data that effectively define what information a prospective customer needs to provide to enable a risk to be accepted. The risk that information outside these criteria will be relevant is a remote risk that should be borne by the insurer rather than an unsophisticated consumer.’52
4.11 AAMI also state that following renewal of a policy it will no longer seek to raise misrepresentations made at inception of a policy against an insured.
4.12 Life insurers have advised that they oppose the suggestion that section 21A of the IC Act should be extended to include life insurers.53 For example, MLC stated that:
‘Such an approach would place unfair burden on life insurers and remove the general duty on the insured to disclose relevant matters the insured alone knows. Insurers cannot be expected to address all possible matters of relevance.
Proposals are already lengthy and to add to current lists of questions is both impractical and commercially unrealistic. Life insurers are not only concerned about health risks. Financial, occupational, pastime and moral risk are all important to life insurers. Not all possible questions can be included in the application.
Further, it needs to be reiterated that Life Ins. Policies are “guaranteed renewable.” They involve significant liabilities and in the case of income protection offer potentially long term benefits and large sums of money. In these circumstances, full disclosure is critically important as the life insurer only gets one chance to assess the risk. Any watering down of the duty of disclosure is unfair to the insurer.’54
4.13 The Investment & Financial Services Association Ltd (IFSA) also submits that section 21A of the IC Act should not be expanded to include life insurers. The reason being that ‘it remains the case that prospective lives may know more about their personal information relative to the risk being underwritten by the life company, such as to make it an inequitable burden on insurers to be expected to ask all the questions which in a definite way represents, for every prospective life insured, a complete list of the matters relevant to the risk being proposed for’.55
4.14 The Australian Life Underwriting and Claims Association are in agreement with IFSA on this point, the reason being:
‘Retail life insurance (as distinct from group life) is generally fully underwritten. Life underwriters are skilled professionals, who seek information about a person’s health and finances. It is impossible for them to think of and ask all relevant questions. It is vital in life insurance that the onus remain on the insured to disclose relevant matters.’ 56
4.15 From the submissions received it appears that from a consumer perspective the main concern is that section 21 of the IC Act puts an unreasonable burden on insureds in that they are expected to know what the insurer regards as relevant. In effect, section 21 requires a prospective insured to know the underwriting guidelines of the insurer, which vary between insurers.
4.16 The Review Panel believes that this concern is legitimate and should be remedied, especially in relation to personal lines insurance. However, it also accepts that for other insurance, including bespoke insurance, this concern is not as relevant. It also accepts that section 21A of the IC Act is not suitable to apply to life insurance. Therefore, the Review Panel suggests the approach outlined below. This proposal addresses both general and life insurance and is linked to the issue of insurers’ remedies (see Chapter 7) and must be considered in this context.
4.17 In relation to ‘eligible contracts of insurance’ a potential insurer will, as is currently required, need to comply with section 21A of the IC Act, in that specific questions must be asked of a potential insured. However, such an insurer would not be entitled to ask a potential insured any general ‘catch all’ type questions (thus paragraph 21A(4)(b) would need to be repealed57). If paragraph 21A(4)(b) was repealed, some modifications may be required to the prescribed form of words under section 22 of the IC Act concerning how insureds are informed about the duty of disclosure.58
4.18 The Review Panel agrees with Phillips Fox that the mixed objective/subjective duty of disclosure test used in section 21 would be elucidated if it was required to be applied by having regard to the following factors:
(a) ‘the nature and extent of the cover provided by the contract of insurance;
(b) the class of persons who would ordinarily be expected to apply for cover of that type; and
(c) the circumstances in which the contract of insurance is entered into including the nature and extent of any questions asked by the insurer.’59
4.19 Phillips Fox suggest the criteria are needed because:
‘The reference in s21(2)(b) to “a reasonable person in the circumstances” has given rise to a hybrid objective subjective test which governs the extent of the duty of disclosure in circumstances where the relevant fact is not known by the particular insured to be relevant to the insurer’s decision (or where the insurer cannot prove it to be so).
The objective/subjective test has not been applied consistently by the courts particularly in respect of whether the test requires/allows the courts to have regard to subjective or intrinsic matters such as the particular insured’s education or cultural background or level of business acumen.
The ALRC Report clearly favoured an approach which had regard to the individual idiosyncrasies of the insured including such factors as literacy, knowledge, experience and cultural background. The Bill proposed by the ALRC used the phrase “a reasonable insured in the circumstances of the insured”.
However, the Act was amended prior to being passed, following concerns by Insurers that this test was indistinguishable from a subjective test. The words “of the insured” were removed from the draft legislation in order to “clarify the operation of the test”. The difficulties in interpretation referred to above arise from the uncertainty as to the intention underlying this amendment.
It is submitted that further prescription is required in relation to this test so as to ensure that the duty of disclosure operates consistently and in accordance with the appropriate legislative policy.’60
4.20 The Review Panel believes that the interpretation of section 21 of the IC Act, which recognised that the duty of disclosure test is a mixed objective/subjective test, should be maintained, but that including in the section some form of words adopting the criteria suggested by Phillips Fox will assist in determining difficult cases. The previous attempts to draft this test in legislative form have not been straightforward, as shown by the history above, and consultation will be required to ensure that the draft is clear and leads to consistent interpretation.
4.21 The Review Panel is not recommending substantive change to section 21. However, it believes non-exclusive factors could be used to assist interpret section 21 in difficult cases.
4.22 On renewal, if an insurer wishes to rely on the insured’s disclosure obligations, a fresh round of questions must be sent to the insured.61 In practice this may simply be a request for an update to the answers provided at inception. Of course, some insurers may wish to continue their present practice of not asking for further disclosure at renewal and ignoring misrepresentations made at inception following subsequent renewals.
4.23 The Insurance Council claims that amending section 21A so that it applies on renewals would ‘cause significant increases in the costs incurred by insurers’ (which would inevitably be passed on to insureds) and requires a full cost benefit analysis.62 The Review Panel believes that its recommendation provides a fair balance between insurer and insured, but suggests that a lengthy transitional period be allowed so that the changes can be incorporated over time into the insurance companies’ usual business practice.
4.24 In relation to breaches by the insured see Chapter 7 entitled ‘Remedies of Insurer’.
4.25 In formulating its proposal in relation to the disclosure requirements for life insurance, the Review Panel is mindful of the concerns raised by life insurers that section 29 of the IC Act does not provide appropriate outcomes for disclosure breaches with respect to life insurance. This is because of the drafting of the section (the reference to ‘a contract’) and because products sold by life insurers have markedly changed since the enactment of the IC Act. Now ‘bundled contracts’ are very common, these being where a number of covers are sold within the one insurance policy; for example, death, disability and trauma or crisis cover (for further information see Chapter 7).
4.26 The Review Panel believes that, for the purposes of Part IV of the IC Act, life insurance contracts should be ‘unbundled’, so that the statutory requirements that must be satisfied will depend on the specific insurance cover in question.
4.27 Once a bundled life insurance policy is ‘unbundled’ (for Part IV of the IC Act purposes) the duty of disclosure requirements will depend on the type of cover, so that different disclosure requirements will apply to the different components of the cover.
4.28 Another concern raised by stakeholders is that many insureds do not realise that the duty of disclosure obligations still apply between the date of application for the policy and the date the policy comes into effect. The Review Panel has been advised that in some circumstances the time between providing the disclosure and the commencement of the contract can be some months. It has been further advised that in these situations some insurance companies ask the insured, immediately prior to the policy coming into effect, to sign a further document asking them if they have anything to disclose since filling out the original disclosure form. However, this is not universal practice.
4.29 The Review Panel believes that if an application for insurance is not promptly accepted by the insurer, the insurer must provide to the insured, at the time when the insurance policy is issued, a reminder that the duty of disclosure obligations continued until the time the policy is entered into. This requirement could be satisfied for example by the insurer, when sending out its letter offering a policy, reminding the potential insured that the duty of disclosure obligations have remained in effect and the potential insured should check the information previously provided is still accurate before accepting.
4.30 This proposal will ensure that if anything has happened between the date the potential insured gave the potential insurer the relevant details and the date of effect of the policy, the potential insured will be reminded of its need to comply with its disclosure obligations. And if the potential insured makes some disclosure the normal remedies would apply and there may be a renegotiation of the contract.
4.3 The IC Act should be amended so that the insurer must provide to the insured, at the time when the insurance policy is issued, a reminder that the duty of disclosure obligations continue until the time the policy is entered into.
4.31 An additional issue that affects contracts of life insurance arises where a misrepresentation is made to the insurer by a person who, under the contract of insurance, becomes the life (or one of the lives) insured. Section 25 of the IC Act provides that where such a misrepresentation is made prior to the contract being entered into the misrepresentation is deemed to be made by the insured.
4.32 The reason for this provision was explained as follows:
‘Clause 25 ensures that the life insured’s statements and representations are attributed to the insured, the proposed law will achieve the same result as an insurer achieves at present by means of a contractual term. Rather than the insured’s warranting the truth of the life insured’s statements, however, those statements will, if incorrect, be treated as misrepresentations in the same way as the insured’s own statements will be treated as misrepresentations rather than warranties’.63
4.33 It has been suggested that section 25 of the IC Act should be expanded to include a non-disclosure by a life insured. The effect of this would be to extend the insured’s duty of disclosure to any life insured under the contract. The Review Panel believes that if the duty of disclosure is to be extended, so should the insurer’s obligations under section 22 of the IC Act to give the life insured notice of the duty. It would be unfair to expect a life insured to comply with a duty of disclosure unless they are first clearly informed of that duty.
4.34 Section 22 of the IC Act provides that before a contract of insurance is entered into, the insurer is required to clearly inform the insured, in writing, of the general nature and effect of the duty of disclosure. However, section 69 allows for information to be given to an insured orally where it is not ‘reasonably practicable’ for it to be given in writing. Written information must, however, be provided to the insured within 14 days of the contract being entered into.
4.35 The regulations to the IC Act64 provide a form of words that can be used when giving oral information about certain ‘eligible contracts of insurance’ that will satisfy section 69 of the IC Act, but there is no prescribed form of words to be used for other contracts.
4.36 While most issues concerning section 22 have been addressed in the proposed outcome for the disclosure requirements above, one issue remains and that is whether the prescribed words for informing insureds about the duty of disclosure orally apply to all contracts of insurance and not just ‘eligible contracts of insurance’.
4.37 Of the submissions received on this point, the majority supported the view that all contracts of insurance should be covered by the prescribed words.65 The Review Panel agrees with this view. Indeed, Phillips Fox suggested that ‘an insurer [should also] be required to notify the insured of the obligations of disclosure on an occasion of a significant variation’.66
4.6 The prescribed form of words for notifying an insured of the general nature and effect of the duty of disclosure for oral disclosures should apply to all contracts of insurance and not just ‘eligible contracts of insurance’.
4.38 Where an insured uses the services of an intermediary (for example, a broker or agent) in order to obtain insurance the law is not clear whether a non-disclosure or misrepresentation by the insured’s intermediary to the insurer can be said to be that of the insured. There has been a suggestion by the High Court of Australia that a misrepresentation or non-disclosure to an insurer by an insured’s intermediary may not be a misrepresentation or non-disclosure by the insured.67
4.39 While several submissions were received on this issue the Review Panel believes that the law does not require amendment. It is not always clear whether an agent acts for an insurer or an insured. Where an agent acts for an insurer, such a general rule would clearly be unfair to the insured. In the few cases where the position is not clear by virtue of the principles of agency, it is preferable that the issue continue to be considered on its merits.
43 Kelly D. and Ball, St L. 2001, Kelly and Ball principles of insurance law, 2nd edn, (loose leaf) Butterworths, Sydney at paragraph 2.0010. The late Professor Sutton explained the difference between misrepresentation and non-disclosure and says that while they are based on different principles there is a close affinity. ‘Thus, non-disclosure is concerned with the assured’s duty to volunteer material information, while misrepresentation looks to her or his obligation to reply accurately to material questions asked by the insurer and not to volunteer material statements which are false. Misrepresentation is essentially a sin of commission while non-disclosure is a failure to reveal what should be divulged.’ Sutton, K. 1999, Insurance Law in Australia, 3rd edn, LBC Information Services, Sydney, paragraph 3.4.
44 Regulation 2B of the Insurance Contracts Regulations 1985.
45 Subsection 21A(1) of the IC Act.
46 Subsection 26(1) of the IC Act.
47 Australia, Parliament 1984, House of Representatives, Insurance Contracts Bill 1984 Explanatory Memorandum at page 34. For a history of the duty of disclosure see for example Tay, Alan. ‘The duty of disclosure and materiality in insurance contracts – a true descendant of the duty of utmost good faith’, (2002) 13 Insurance Law Journal 183; Boyd, Guy L. ‘The duty of disclosure in life insurance: is the balance struck by Part IV of the Insurance Contracts Act appropriate?’ (2001) 13 Insurance Law Journal 59.
48 Australia, Parliament 1984, House of Representatives, Insurance Contracts Bill 1984 Explanatory Memorandum at page 35. See also, Fung, Adrian. ‘Section 21 of the Insurance Contracts Act 1983 [sic] – The death and rebirth of the “prudent insurer” test?’ (2001) 13 Insurance Law Journal 108.
49 Cf submission by Phillips Fox of 21 April 2004 at page 3. Phillips Fox state that such an argument is overstated. This is because ‘… it ignores section 21(1)(b) which expressly addresses this concern by limiting the duty to matters which “… a reasonable person in the circumstances could be expected to know to be” … relevant to the insurer.’
50 See for example submissions on the Issues Paper by National Insurance Brokers Association of Australia; Brendan Pentony dated 13 April 2004; and Legal Aid Commission of New South Wales dated April 2004. Cf MLC’s supplementary submission on the Issues Paper.
51 AAMI sells motor vehicle, home and compulsory third party insurance: AAMI Customer Charter Annual Report 2002-2003, at page 29.
52 See submission by AAMI dated 16 April 2004.
53 Cf submissions on the Issues Paper by the Consumers’ Federation of Australia; Brendan Pentony dated 13 April 2004; the Legal Aid Commission of New South Wales dated April 2004 and the Insurance Enquiries and Complaints Limited’s Panel dated March 2004.
54 See supplementary submission on the Issues Paper of MLC.
55 See submission on the Issues Paper by Investment & Financial Services Association Limited dated 19 April 2004.
56 See submission on the Issues Paper by Australian Life Underwriting and Claims Association.
57 Cf submission on the Proposals Paper by Mark Radford at page 8 where he says ‘… by removing the exceptional circumstances provision under subsection 21A(4)(b) as is proposed, any protection it could have provided for fraudulent non disclosure is removed.’
58 Amendments to Part 2 of Schedule 1 of the Insurance Contracts Regulations 1985 may be required: see submission by the Banking and Financial Services Ombudsman Limited, dated 2 June 2004.
59 See submission from Phillips Fox, dated 21 April 2004, page 3.
60 See submission from Phillips Fox, dated 21 April 2004, page 3.
61 This recommendation does not directly affect variations, extensions and reinstatements of policies. What is being addressed are routine renewals.
62 See submission from the Insurance Council of Australia Limited, dated June 2004.
63 Australia, Parliament 1984, House of Representatives, Insurance Contracts Bill 1984 Explanatory Memorandum at page 39.
64 Subregulation 3(2) and Schedule 2 of the Insurance Contracts Regulations 1985.
65 See for example submissions on the Issues Paper by National Insurance Brokers Association of Australia; Phillips Fox dated 21 April 2004; Brendan Pentony dated 13 April 2004; MLC’s supplementary submission; Investment & Financial Services Association Limited dated 19 April 2004; and Insurance Enquiries & Complaints Limited’s Panel dated March 2004.
66 See submission by Phillips Fox dated 9 June 2004.
67 See Permanent Trustee Australia Limited v FAI General Insurance Company Limited (in liq) (2003) 197 ALR 364; (2003) 12 ANZ Ins Cas 61-565 per McHugh, Kirby and Callinan J J where it was said (at paragraph 30) that: ‘the knowledge of which the subsection [that is, subsection 21(1) of the IC Act] speaks, either actual or constructive, is the knowledge of the insured, and not of any insurance intermediary … This is at least to suggest that the reference to the insured is intended to be a reference to the insured personally and not to its agent or broker. However, it is not essential to our reasons to determine this point.’
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