The Doctrine of Insurable Interest

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Table of Contents

Under common law
Under Insurance Contract, 1984
Issue
Rules
Analysis
Conclusion
References

Insurable interest exists where a policy holder derives pecuniary benefits from protection or continuous existence of some property, or suffers pecuniary loss from the property’s’ destruction. Insurable interest requires an entity or a person who holds an insurance policy to derive some significant interest from the property, upon which a policy is held (Clarke 1996). Previously, insurable interest under common law and Insurance Contract Act 1984, was broadly interpreted hence giving different meanings. In this paper, this section will explore the origin of insurable interest and how it is stipulated in common law and Insurance contract Act, 1984.

Under common law

The insurance law requires the policy holders to have an insurable interest on the item they intend to seek cover. Insurable interest serves as a safeguard to the insurers as it allows them to justify nonpayment in the event that a covered event takes place. This is only successful if the insurer proves that the insured lacks the insurable interest in the property insured. In such a case, the court will nullify the insurance cover (Robinsons 1998). The initial purpose of this doctrine was to curtail use of insurance contracts as a vessel to gamble on ships and lives. In order to achieve the intended purpose, common law sought to avoid contracts which were short of insurable interest. Interestingly, the English case law outlined the boundaries of insurable interest and gave a guide on whether insurable interest should encompass legal interest in a property or just a mere possession of the property under question. This is well illustrated in Le Cras v. Hughes case where, a British captain and his crew overtook a Spanish ship during a war with Spain. Pursuant to the common law and under certain circumstances, Lord Mansfield stated that, “… the crew of the ship could acquire title to the captured ship and goods contained therein upon return to England” (Birds, 1987, p. 310). As such, the captain insured the ship and attempted to sail it back to England. However, a storm ensued and the ship together with the load therein capsized. Thereafter, when the captain filed a claim to collect on the insurance policy, the insurance company denied the claim because the legal title had not yet passed to the captain—the insurance company argued that it was merely expectancy, not an interest as such.

The court held that the captain’s interest did not give rise to the level of legal expectancy as the ship and its cargo might have been awarded to the Royal Navy. Further, Lord Mansfield explained that the captain lacked legal interest as what he possessed was interest under factual expectancy theory. It was common that whenever a capture was made, the royal crown was the one mandated to make a grant. Lord Mansfield indicated that no particular interest was required, and as such, the factual expectancy interest was sufficient (Clarke 1996).

Another important background worth understanding is the principle under Macaura v Northern Assurance Co Ltd where the House of Lords established that a shareholder could not have an insurable interest in a property that he held shares even if he is was a sole trader. This case clearly shows that one has to have legal and proprietary right in the property he insurers, and as such, a mere expectation of loss is hardly enough. Moreover, under common law, creditors have an insurable interest in the life of debtors (Gordon 1986). However, the creditor has only insurable interest over the debtor up to the amount that he could suffer loss if the debtor dies. This means that he can only claim up to the outstanding amount and nothing more.

In employee-employer relationship, the common law outlines that the amount of insurable interest is limited to the wages period. This will range according to the terms of employment and will be subject to the statutory requirements. However, it still remains a hotly debatable issue as to whether the amount that the key person is insured should be the same as the loss suffered by the company, since the monetary loss that is suffered as a result of death of a key person is immeasurable in monetary terms.

In another case, under common law, a person can have insurable interest in a property in a number of situations (Olubajo 2004). For instance, where the insured bears both legal and equitable title to the property, that is where the insured is in possession of a property or is responsible for, or will suffer loss in the event that the property is damaged. However, if two people share the same property, the do bear interest following the reasoning in Goulstone v. Royal Insurance Co. Lord Pearce in Hepburn v A Tomlinson (Haulers) argued that a person could insure a property which he does not own and which he does not bear the full insurable interest, by holding the proceeds of the policy as they so far covers his own interest and the balance as trustee for the owner.

More so, under common law, it is possible to take an insurance policy for a third party. This is mostly reflected in situations where warehouse owners take insurance policy for the benefit of the property owner. Essentially, the legal benefit of this is the commercial convenience. This does not cause a lot of controversy in the insurance circles as it is argued that if the policy can be taken for the benefit of the third party, then the law should also find the insurable interest in cases of blood and non- blood relationships.

Under Insurance Contract, 1984

The insurance contract Act, 1984 stipulates that the general insurance cannot be avoided by virtue of lack of insurable interest at the time when the contract was entered into. However, in a situation where the insured has suffered a pecuniary loss by reason of destruction of the subject matter, the insurer is not free from the liability due to the fact that the insured lacked an interest in the property insured at the time of the misfortune (Birds 1987). However, the act stipulates that no insurable interest is required for a contact of life insurance and a contract that provides for the payment of money on the death of a person through sickness or accident. However, a contract to the fore mentioned is void if the insured did not have an insurable interest in the subject matter at the time when the contract was entered into (Birds 1987).

The Act further provides that, where there is no interest in life insured based on natural affection, the insured is obligated to prove an insurable interest in the course of the insured life which should be pecuniary and recognized by law at the time of the contract. Natural affection allows people to insure their own lives or the life of their husbands or wives. Therefore, anybody who falls within this class of natural affection has an obligation to prove pecuniary interest as recognized by law in the life insured. For such case, the Act provides that there is no limit to the sum insured as this is limited by the insurer’s willingness to accept the risk and the policy holder’s ability to pay the required premiums. However, other family relationships do not give rise to a potential financial loss to the policyholder (Birds 1987).

The Act provides that, the insured does not have a duty of disclosure in a situation where such a disclosure diminishes the risk, is of common knowledge, the insurer know or ought too know in the course of the business or where the duty of disclosure is waived by the insurer. Moreover, the insured must expressly disclose any request by the insurer for any exceptional case which is known to the insured, or any matter that the insured knows or a reasonable person is expected to know relevant to the decision of the insured on either accept or reject the risk insured (Birds 1987).

Issue

The issue here is whether the insurer can deny liability based on misinterpretation and non-disclosure of material facts by the partners.

Rules

Generally, in this case the insurer tries to establish the probable risks faced as a result of insurance of the partnership firm. This is achieved by assessment of the chances of loss occurrence, how large is the loss likely to be, how large can such a loss be and most importantly are the risks insured of the type that the insurer would wish to handle (Armstrong 2002). The insurer wants to establish any probable risk that has the potential of occurring to the partnership. The insurer is trying to establish any probable risk to the partnership and establish whether they can manage to insure or else consider charging excessive premiums depending on the risks exposure and the chances of occurrence (Armstrong 2002).

However, dishonest applicants may wish to benefit from insurance through misinterpretation or non disclosure of material facts with an assumption that insurer will not unearth the deception or that it will not make a difference once the claim occurs (Armstrong 2002). Basically, many people or organizations seeking insurance cover may not wish to complete an application in such a way to prejudice its claim after the loss occurs for this may conflict with fair assessment that determines the payable premiums. Additionally, problems may arise from the insured. As such, he should seek clarification from the insurer to ensure that all the required facts are answered correctly (Armstrong 2002).

In situations where the insured knowingly and expressly misinterpret or fail to disclose material fact which is well known to give rise to a loss, and it turns out that the insurer would not have insured and had the right facts available, then the court considers such a policy as null and void. However, if the insured gives a misinterpretation or fails to make a disclosure and the insurer cannot link such undisclosed or misinterpreted facts to the occurrence of a loss (Armstrong 2002). The court could also rely on such information if the insurer had asked for information from the insured in writing. Further, the courts concluded that, even where the partner seemed to lie, coverage would not be affected unless the loss was directly related to the lie and the insurer could clearly prove it. It would not have been insured had the insured told the truth. In order to deliver the right judgment, the court will need to look at the historical treatment of misrepresentations on application and its relationship with non- disclosure (Armstrong 2002).

Analysis

This discussion of the duty of disclosure should be based on the 1766 English case of Carter v Boehm in which the court held that,

“… the special facts, upon which the contingent chance is to be computed, lie mostly in the knowledge of the insured; the underwriter trusts to his representation, and proceeds upon confidence that he does not keep back any circumstance in his knowledge, to mislead the underwriter into a belief that the circumstance does not exist, and to induce him to estimate the risk as if it did not exist. Such a circumstance should not be kept back as this is fraud hence the policy can be termed as void. Although the suppression should happen through mistake, without any fraudulent intention, yet still the underwriter is deceived, and the policy is void; because the risk run is really different from the risk understood and intended to be run at the time of the agreement…”

This particular case is often cited as a support of obligation of utmost good faith owed by the insured to the insurer not to misrepresent a material fact and also not to fail to give a disclosure of any fact that may be material to the underwriter in relation to the insured risk. The insurer carries a substantial obligation and needs to generally get inform and go further to ask the insured of any issue that needs clarification. However, the court appears to focus on the idea of concealment thus contemplating a number of things which seeks to take an advantage of one party. The insurer needs to have rigorous knowledge of the insured (Merkin 1980). Ignorance on the part of the insurer in circumstances where the insurer needed to have gathered the necessary facts and then result into a loss, such obligations are to be borne by the insurer. Moreover, later decisions found insurers and the insured responsible in a number of ways based on a number of concepts of the obligation of utmost good faith (Merkin 1980).

The most recent decisions made it clear that the courts have not lost sight in issues concerning obligations to disclose information. Carter v. Boehm case mostly outlines the light of the ability of the insurers to seek information using other sources from the insured simply by asking some direct questions. For instance in Coronation Insurance Co. v. Taku Air Transport Ltd, coronation declined coverage under Taku’s policy on the grounds of misrepresentation which it claimed rendered the policy void. Justice Cory stated that, although the insured has a duty of giving the right disclosure under the doctrine of utmost good faith, the doctrine was not applicable where the information was readily available to the underwriters (Merkin 1980).

That notwithstanding, the Supreme Court was very critical in cases of insurer’s failure to diligently research the risk being insured. Notably, Coronation failed to consult its own records; neither did it make inquiries to the Canadian Aviation Safety Board or even contact former insurers. The Coronation case and the Johns-Manville decisions significantly impact upon insurers. The decision in Johns-Manville is consistent with Carter v. Boehm as there was no misconduct on the part of the insured. These court decisions will force insurers to pay more attention to underwriting to avoid suffering the consequences. This may have an effect of increasing the costs of underwriting or on the insured claims (Merkin 1980).

Conclusion

Occurrence of any risk, may not out rightly give insurer the right not to incur liability merely due to misrepresentation or non-disclosure of a fact unless and until, the insurer can prove that the loss in question is directly related to the material information that the partners failed to disclose or that was misrepresented. Otherwise, the insurer will be obligated to offer compensation to the partnership if they fail to prove that the loss occurred due material facts that the insured failed to disclose intentionally.

References

Journals

Armstrong, C 2002, ‘Britain’s Quest for a Proper Concept of Insurable Interest,’ The Perils of Ignoring The Implications, 14 (6), pp.35-56.

Birds, J 1987, ‘A Shareholder’s insurable Interest in His Company’s Property,’ Journal of Business Law, 12 (5), pp. 309-311.

Clarke, M 1996, ‘The Scope of the Life Assurance Act 1774 – Time for reform?’ British Insurance Law Association Journal, 22 (4), pp. 28-31.

Gordon, G 1986, ‘The making of the marine insurance contract: a comparison of English and US law’ Commercial Law journal, 26 (5), pp. 484-507.

Merkin, R 1980, ‘Gambling by Insurance – A study of the Life Assurance Act 1774,’ British Law Review, 331 (6), pp. 14-25.

Olubajo, T 2004, ‘Pervasive Insurable Interest: A Reappraisal,’ Construction Law Journal, 20 (2), pp. 45-57.

Robinsons, R 1998, ‘Property Owners Policies – The Protection of Other Parties with Insurable Interest in buildings,’ Landlord &Tenant Review, 2 (2), pp. 21-23.

Cases

Carter v Boehm (1766) 3 Burr 1905

Coronation Insurance Co. v. Taku Air Transport Ltd., [1991] 3 S.C.R. 622

Goulstone v. Royal Insurance Co. (1858) 1 F&F, 276

Hepburn v A Tomlinson (Haulers) [1966] AC 451

Le Cras v. Hughes (99 Eng. Rep. 549 (KB 1782))

Macaura v Northern Assurance Co Ltd [1925] AC 619

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