non-disclosure in insurance cases

‘Non-disclosure’ refers to the situation where a customer fails to reveal a relevant fact when applying for – or renewing – an insurance contract. It is widely recognised that in some situations involving non-disclosure, applying the strict legal position can result in an unduly harsh outcome for the customer. For this reason, when we deal with insurance cases involving non-disclosure or 'misrepresentation' – an incorrect statement made by a customer – we take account of both the law and good industry practice.

the legal position

An insurance contract is a ‘contract of utmost good faith’, which means that all parties to the contract are under a strict duty to deal fully and frankly with each other. Customers must disclose all facts that are ‘material’ (or relevant) to the risk for which they are seeking cover.

A ‘material’ fact is one which would influence an underwriter when they were deciding whether to accept the risk, and the terms and conditions that should apply. If a customer fails to disclose (or misrepresents) a material fact and this induces the insurer to accept the proposed risk, the legal remedy is to ‘avoid’ the policy. This means the insurer is entitled to treat the policy as though it never existed. Unless fraud is involved, the insurer will normally return the premium and will not pay out on any claim made under the policy.

good industry practice

The Association of British Insurers (ABI) provided important safeguards for policyholders. It published statements of practice which said that insurers should ask clear questions about facts they considered material. In deciding whether to avoid a policy, insurers should rely only on the answers given or withheld. They should also only avoid policies where the non-disclosure or misrepresentation was deliberate or reckless, not where it was innocent. The ABI made it clear that customers were required to answer questions only to the best of their knowledge and belief.

Most of the ABI statements have been withdrawn since the introduction of the Financial Services Authority’s Insurance: Conduct of Business Rules (ICOB) on 14 January 2005. The principles found in the ABI statements remain useful examples of good industry practice, and as such we still take them into account. The ICOB also outlines some of those principles.

For example, ICOB Rule 7.3.6 provides that:

An insurer must not:

1.	unreasonably reject a claim made by a customer;
2.	except where there is evidence of fraud, refuse to meet a claim made by a retail customer on the grounds:
	a.	of non-disclosure of a fact material to the risk that the retail customer could not reasonably be expected to have disclosed;
	b.	of misrepresentation of a fact material to the risk, unless the misrepresentation is negligent…

ICOB Rule 4.3.2(3) deals with advising and selling standards, and states that:

In assessing the customer’s demands and needs, the insurance intermediary must… explain to the customer his duty to disclose all circumstances material to the insurance and the consequences of any failure to make such a disclosure, both before the… insurance contract commences and throughout the duration of the contract; and take account of the information that the customer discloses.

ICOB Rule 4.3 goes on to stress that:

In relation to ICOB 4.3.2(3), an insurance intermediary should make clear to the customer what the customer needs to disclose. For example, in relation to private medical insurance, this could include any existing medical condition where relevant, or in relation to motor insurance, any modifications carried out to the vehicle.

the Financial Ombudsman Service approach

Taking account of the law and good industry practice, we approach non-disclosure/misrepresentation cases in three stages. We summarise these three stages below, before describing each one in a little more detail.

	When the customer sought insurance, did the insurer ask a clear question about the matter which is now under dispute?
	Did the answer to that clear question induce the insurer; that is, did it influence the insurer’s decision to enter into the contract at all, or to do so under terms and conditions that it otherwise would not have accepted?
	Only if the answers to both (1) and (2) are ‘yes’, do we go on to consider whether the customer’s misrepresentation was an honest mistake, a dishonest attempt to mislead or due to some degree of negligence.

	clear questions The insurer must first provide evidence that it asked the customer a clear question when the customer asked to take out or renew a policy. The insurer may ask questions via a traditional proposal form, which records the answers. In many cases the transaction will have taken place over the telephone. If there is no evidence, such as a call recording and/or a copy of the statement of facts that the insurer has sent the customer, then we will have to decide what is likely to have happened. If the customer gives a credible account of events, we may find it more likely than the insurer’s version. A similar statement of fact would be required for internet sales; as would some evidence of the questions asked during the website process, as it existed at the time of the application. In order for non-disclosure to occur, the insurer must show that it asked clear questions.

	inducement Legally, the insurer must establish that the non-disclosure or misrepresentation ‘induced’ (or influenced) its decision to enter into the contract. This was established in Pan Atlantic Insurance Co Ltd v Pine Top Insurance Co Ltd (Reported [1994] in Volume 3 of the Weekly Law Reports at page 677). If the insurer cannot prove inducement then the policy will remain valid, even if the non-disclosure was deliberate. The burden of proving inducement will not be high in clear-cut cases. For example, if a customer fails to disclose that their house has serious cracks, we are likely to believe the insurer would not have offered them full buildings insurance. However, it is rare for cases to be this clear-cut and we will usually require evidence that inducement took place. This may be in the form of a statement from the underwriters and/or a copy of the underwriting manual.

	the customer’s state of mind Not all instances of non-disclosure or misrepresentation breach the duty of ‘utmost good faith’. We have identified four types of non-disclosure (deliberate, reckless, innocent, and inadvertent) to help us decide whether, with regard to all the available evidence, the customer acted in breach. It is possible to deliberately non-disclose without being fraudulent. While dishonesty is one of the essential criteria for fraud, there must also be deception, designed to obtain something to which you are not entitled. For example, a customer might deliberately withhold information they are embarrassed about. Although, in doing so, they are acting dishonestly and deliberately, they are not acting fraudulently because there is no deceitful intention to obtain an advantage. Only where there is clear evidence of fraud should the insurer retain the premium. In all other cases of deliberate or reckless non-disclosure, the premium should be returned, not least so as to protect the insurer’s position. Retaining the premium could be interpreted as an intention to affirm the contract and/or waive the right to ‘avoid’. Our experience is that most insurers return the premium in any event. deliberate Customers deliberately mislead the insurer if they dishonestly provide information they know to be untrue or incomplete. If the dishonesty is intended to deceive the insurer into giving them an advantage to which they are not entitled, then this is also a fraud and – strictly speaking – the insurance premium does not have to be returned. reckless Customers also breach their duty of good faith if they mislead the insurer by recklessly giving answers without caring whether those answers are true or false. An example of recklessness might be where a customer signs a blank proposal form and leaves it to be filled out by someone else. The customer has signed a declaration that ‘the above answers are true to the best of my knowledge and belief’, but does not know what those answers will be. innocent Customers act in good faith if their non-disclosure is made innocently. This may happen because the question is unclear or ambiguous, or because the relevant information is not something that they should reasonably know. In these cases, the insurer will not be able to ‘avoid’ the contract and (subject to the policy terms and conditions) should pay the claim in full. inadvertent A customer may also have acted in good faith if their non-disclosure is made inadvertently. These are the most difficult cases to determine and involve distinguishing between behaviour that is merely careless and that which amounts to recklessness. Both are forms of negligence. Inadvertence occurs when the customer unintentionally misleads the insurer. This can occur just by failing to read and check the questions and answers thoroughly enough. When this happens there is no breach of the duty of utmost good faith. For example, a policy application may contain a clear question about motoring convictions and penalty points. The customer discloses a careless-driving conviction but fails to disclose that they have three penalty points for speeding. In that situation, we might believe that the customer genuinely overlooked his conviction. The customer clearly did not intend to mislead the insurer because he disclosed the more serious offence; he simply failed to realise that penalty points were also part of the question. So the insurer should act as it would have done if it had been in possession of the full facts. Where there has been inadvertent non-disclosure or misrepresentation, we expect insurers to rewrite the insurance. This should be done on the terms they would originally have offered if they had been aware of all the information. In some cases this may result in a proportionate payment; in others it may result in no payment at all. This is because the inadvertently-withheld information would, if disclosed, have led to the firm declining the application altogether. Everything turns on the individual circumstances. Customers will find it more difficult to prove that they acted inadvertently if they answered several questions badly. To get one or two questions wrong may be regarded as inadvertent; to get several wrong starts to look like recklessness.