The Insurance Act 2015 (“the Act”) makes a serious effort to mitigate the risk of policies being avoided by way of “technical” breaches of the insured’s obligation to give pre-contractual disclosure. But any new framework comes with a price: in this case opportunities for insurers to work within that new framework to create new arguments for avoiding policies and refusing to pay claims.

One of the positive features of the Act is the distinction it draws between types of breach of the new duty of fair presentation. Where that breach is neither deliberate nor reckless then insurers’ remedies are, depending on what they are able to prove, limited to (a) avoidance, but with the premium being returned to the policyholder; (b) an adjustment of the policy terms, but with the policy otherwise remaining in force; and, (c) a reduction of the payout on a claim proportionate to the difference in the scale of premium the insurers would have charged had the duty of fair presentation been satisfied.

If the breach was deliberate or reckless then the insurers may avoid the policy and keep the premium paid. The risk of a finding that a breach was deliberate or reckless would, therefore, be a useful negotiating tool for insurers facing a claim. The reasonable search provisions of the Act may make it easier than one might expect for them to bring such a risk into the negotiation mix.

What if the search wasn’t reasonable?

It is not strictly correct to say that the Act imposes a “duty of reasonable search”. Rather, for the purposes of the duty of fair presentation, the insured is fixed with the knowledge it would have obtained had it undertaken such a search. The practical effect of this is that the prudent insured should undertake an exercise that it could hope to defend as a reasonable search for “material circumstances” (see s 3(4)(a) and ss 7(2) – (4) of the Act).

The assessment of what a reasonable search would have revealed will, of course, be a hindsight-driven exercise undertaken only once some potentially significant matter has emerged which did not feature in the pre-contractual risk presentation. The mere act of focusing on the newly discovered matter will distort its significance, perhaps to the point which permits the argument, “how can a search have been reasonable if it overlooked something such as this?”

The benefits of being able to demonstrate why the insured’s search in support of its disclosure was reasonable will be obvious. But it may also be necessary to defend the integrity of the search in order to deflect the additional risk alluded to above. A breach of the duty of fair presentation is deliberate or reckless – justifying avoidance and the insurers’ retention of the premium – if the insured “did not care whether or not it was in breach of [the duty of fair presentation]” (s 8(5)(b)). It may be possible and, with the benefit of hindsight relatively easy, for insurers to argue that a failure to undertake a reasonable search was “reckless”. One can imagine the lawyer’s rhetorical question to the judge: “How can this have happened unless the insured simply didn’t care?”

Introducing the spectre of “recklessness” raises the stakes in a settlement negotiation not only because it involves the prospect of the insurer retaining the premium aswell as avoiding, but also because it exposes the insured to a potential ruling that it has been “reckless” in approaching its disclosure. That may have a serious impact on the ability of the insured to obtain insurance in future, at least at an acceptable price. If a claim is in court proceedings, with any judgment being public, reputational consequences could follow. Insurers have incentive and opportunity to make such arguments, which is why steps to pre-empt them are potentially worthwhile. Those steps need to be taken at the time at which the risk presentation is prepared.

Documenting the search.

A paper trail will surely demonstrate the efforts that were undertaken and dispose of any question over the reasonableness of the insured’s conduct? However, if a dispute emerges then the paper trail will be examined in depth by lawyers trained to present the meaning and significance of documents to the advantage of their clients. The paper trail as a thing, in and of itself, may prove potentially dangerous to the insured rather than potentially beneficial.

What the paper trail needs to evidence is a well thought through process for meeting the challenge of disclosure. Obviously, that challenge will be greater the larger and more complex the business of the insured. In a small business, with a small number of sources of potentially relevant information which are all immediately to hand, the need for documenting the process is less compelling. That doesn’t mean that a small business can be cavalier about documenting the process: being creatures who operate in a world of documents, lawyers are suspicious of an absence of documents, and are skilled at making an absence of documents appear suspicious.

In documenting the disclosure process, the following matters may well be worth bearing in mind:

1. A document usually records what was done. However, it may be prudent to document decisions not to pursue a particular line of enquiry and the reasoning behind such decisions. Any argument as to the reasonableness of a course of action will be potentially assisted by evidence as to why other options were ruled out. Should it come to a dispute, then the approach of the courts is usually to place more faith in the contemporaneous documentary record than in the testimony of witnesses, unsupported by documents, and often speaking many years after the event. A witness’ explanation in such circumstances, without the documentary back-up, will be open to challenge on the basis that it is the product of faulty memory, wishful thinking or invention. It is difficult to prove a negative. Having a document demonstrating why something wasn’t done makes it somewhat easier.
2. “Reasonableness” is a slippery concept, the assessment of which will vary depending on circumstances. It is important to give thought to the question: “what is reasonable for us to do to meet our obligation of fair presentation?”. The answer will vary from organisation to organistation. The Civil Procedure Rules governing most litigation in England have, for nearly 20 years, required that a “reasonable search” be undertaken for documents to be disclosed in the course of proceedings for the purpose of shedding light on the issues. The rules provide a, non-exhaustive, list of factors to be taken into account in assessing reasonableness such as the importance of the litigation and the likelihood of a particular line of enquiry turning up something significant. In the case of pre-contractual disclosure, a key issue will, of course, be weighing the expense and inconvenience of pursuing a line of enquiry against the likelihood that it might expose anything of relevance. That said, and given that reasonableness can be hard to pin down, a large enterprise buying significant policy limits to cover business critical risks might be expected to “go the extra mile” merely to show that it has acted reasonably.
3. One question related to “reasonableness” is how reasonable it is for those compiling the disclosure to allow respondents to enquiries to “self-certify” their answers. This is all the more so given the ubiquity of electronic documents and the ability of companies to search their electronic records: might it be reasonable for a company to undertake an electronic search in addition to asking personnel whether they hold any relevant material? Given that the electronic material is on the company’s systems, it may be treated as fixed with knowledge of that information in any event and for reasons wholly unconnected with whether a reasonable search was undertaken. For an act intended to do away with a regime based on the commercial conditions of a century ago, the Act makes suprisingly little (in fact, no) attempt to engage with the significance of the glut of electronic information which is perhaps the defining feature of the present.
4. If and when a dispute arises, insurers will be seeking disclosure of all materials related to the information gathering exercise. This will include material from the files of the insured’s agents, such as its insurance brokers.  Insureds need to bear in mind that what they may regard as their paper trail may be significantly supplemented by what they are obliged to divulge in a dispute. That consideration should not be read as encouraging document destruction but, rather, is intended to underscore the point that insureds need to think carefully about just what amounts to the “paper trail” of their attempts to conduct a reasonable search.

This post is intended to provide guidance of a practical nature but does not contain legal advice or advice as to what action you should or should not take specific to your insurance needs or those of your business, or with regard to any particular situation.