The Enterprise Act 2016 received royal assent on 4 May 2016. From 4 May 2017, a term will be implied by statute into new policies of insurance, and variations to those policies, that if the insured makes a claim under the policy, the insurer must pay any sums due within a reasonable time. This means that, for the first time, there will be a generally available right to damages in English law for late payment of insurance claims. This is in addition to the right to an indemnity under the policy and any interest. The limitation period for a claim for damages for late payment will be one year from the date of payment of the indemnity by the insurer.
The need for this reform
It is a surprising feature of English insurance law that there is no general right to damages for late payment of an insurance claim. This was recently confirmed in the Supreme Court, in a case about jurisdiction (The Alexandros T). This summary of the law by Longmore LJ was approved by Lord Clarke in the Supreme Court:
‘As a matter of English law, an insurer commits no breach of contract or duty sounding in damages for failure promptly to pay an insurance claim. The law deems interest on sums due under a policy to be adequate compensation for late payment; this is so, even if an insurer deliberately withholds sums which he knows to be due under a policy, see Sprung v Royal Insurance  Lloyd’s Rep IR 111 approving the decision in The Italia Express (No 2)  2 Lloyd’s Rep 281. … English law, moreover, gives no separate contractual remedy to an insured who complains that an insurer has misconducted himself before settling a claim. In either case the remedy of the insured is to sue the insurer and, if no settlement is forthcoming, proceed to judgment.’
The principle that there is no right to damages at common law for late payment of damages has long been under attack:
- It was applied with ‘undisguised reluctance’ by the Court of Appeal in Sprung v Royal Insurance (UK) Ltd in 1996.
- The Court of Appeal granted permission to appeal in 1997 in a case which raised the issue but the appeal was not heard.
- Rix LJ described it as ‘controversial’ in 2005, and said that if the issue reached the House of Lords the law might be clarified or changed (he nonetheless declined to grant permission to appeal, saying that was a matter for the House of Lords); he also questioned it in extra-judicial remarks in 2009.
In Sempra Metals Ltd v Inland Revenue Commissioners, the House of Lords held that the loss suffered as a result of the late payment of money was recoverable at common law, subject to the ordinary rules of remoteness which apply to claims for damages; but the question of whether Sempra might permit a claim for late payment under a contract of insurance remains undecided.
Other possible routes to an award damages for late payment of insurance claims were also blocked: breach of the duty of utmost good faith by insurers does not sound in damages; and an implied term that insurers handle claims with reasonable speed and efficiency was rejected by Mance J in Insurance Corpn of the Channel Islands Ltd v McHugh as neither obvious nor necessary for business efficacy because any such term, if implied, would not apply only in respect of insurers’ conduct, but would have to be mutual, so that the reasonableness of the conduct of each party in the negotiation of the claim would have been subject to review.
There is a statutory cause of action for late payment under a policy of insurance, but this is only of limited application. It arises under ICOBS 8.1.1 and ss 150 (former) and 138D (current) of the Financial Services and Markets Act 2000. It is available where the insured is a ‘private person’. This means an individual – not only a consumer – and any person who is not an individual, unless he suffers the loss in question in the course of carrying on business of any kind. The statutory cause of action is separate from the jurisdiction of the Financial Ombudsman Service (‘FOS’), and unlike the FOS, is not subject to a financial limit (the current FOS limit is £150,000). In practice, the statutory cause of action was little-used in insurance cases. It will not be abolished, but will largely cease to have practical importance in relation to late payment of insurance claims when the new right to damages is available.
Which contracts of insurance will be subject to the new implied term?
The Insurance Act 2015 was passed on 12 February 2015 and entered into force on 12 August 2016. This is not the relevant date for the new right to damages: the Enterprise Act 2016 was passed on 4 May 2016, and provides that the provisions in relation to damages for late payment enter into force one year later, on 4 May 2017. The new right to damages for late payment of insurance claims applies only in relation to contracts of insurance entered into on or after 4 May 2017. For policies entered into before that date, the old law continues to apply.
The new implied term
The implied term is introduced by s 13A(1) of the Insurance Act 2015. This provides:
‘It is an implied term of every contract of insurance that if the insured makes a claim under the contract, the insurer must pay any sums due in respect of the claim within a reasonable time.’
What is ‘a reasonable time’?
It follows from the way that the implied term is expressed in s 13A(1) that the right to payment within a reasonable time arises only if the insured makes a claim. As one might expect, ‘[a] reasonable time includes a reasonable time to investigate and assess the claim’, and what is reasonable will depend on ‘all the relevant circumstances’. The statute lists some ‘examples of things which may need to be taken into account’. These are:
- ‘the type of insurance’ – for example, travel insurance, or business interruption insurance;
- ‘the size and complexity of the claim’ – for example, a straightforward claim for storm damage to roof of house, or a major fire involving an insured in financial difficulties and suspected of arson. The Law Commission suggest in their July 2014 Report that a claim may be complicated by its location, and that if, for example, an insured peril occurs abroad, its investigation may be more difficult;
- ‘compliance with any relevant statutory or regulatory rules or guidance’. This might lead to allegations of breach of ICOBS even where the statutory cause of action under s 138D FSMA does not arise – for example, there is an obligation under ICOBS 8.1.1(2) to ‘provide reasonable guidance to help a policyholder make a claim and appropriate information on its progress’;
- ‘factors outside the insurer’s control’. An obvious example would be delay caused by the insured itself, perhaps in failing to provide information sought by the insurer. The Law Commission suggest that this might extend to a situation where there were unusually high numbers of claims, for example due to widespread flooding, and insufficient numbers of loss adjusters or surveyors available in or around the affected area.
Delay in paying a disputed claim
The insurer does not breach the implied term ‘merely by failing to pay the claim (or the affected part of it) while the dispute is continuing’, but:
- the burden is on the insurer to show that there were ‘reasonable grounds for disputing the claim (whether as to the amount of any sum payable, or as to whether anything at all is payable)’;
- if it can do so, then ‘the conduct of the insurer in handling the claim may be a relevant factor in deciding whether the term was breached and, if so, when.’
The Law Commission’s intention was to protect the ability of insurers to take a robust approach to decision-making where they suspect fraud or non-compliance with policy terms or where the precise circumstances of the loss were not clear, and to catch bad claims-handling practices, not prevent legitimate investigations by insurers. They therefore suggest that ‘something more’ must be shown before an insurer which makes a reasonable but ultimately wrong refusal to pay a claim may be found to have breached the implied term, and give the examples of:
- an insurer which conducts its investigation unreasonably slowly, or is slow to change its position when further information confirming the validity of the claim comes to light; or
- as examples of a deliberate or reckless breach, where claims handlers delay or reject a claim they know to be valid in order to secure a bonus payment or with a view to any internal budgets or quotas, or an insurer’s approach to a claim is blameworthy to the point of recklessness.
Attempts to introduce into the House of Lords a right to allow insurers to rely on legal advice about a dispute in this context without waiving privilege in that advice were unsuccessful. This plainly has implications for the way in which insurers and their lawyers record legal advice and decisions made in the context of handling claims for policies issued/variations made from 4 May 2017 onwards. It would be prudent for the facts on which claims handling decisions are based, and the rationale for those decisions, to be recorded separately from the substance of legal advice, so that the former can be disclosed and relied on if a claim is made for late payment without having to choose between waiving privilege in legal advice, or being unable properly to defend a claim for late payment.
Delay in rejecting invalid claim does not give rise to right to damages
The implied term applies only in respect of ‘sums due’ in respect of a claim. This means that a delay in rejecting a claim which is later held to be invalid does not give rise to a right to damages for breach of the implied term.
The remedies for breach
As this is a term implied into the contract of insurance by statute, the usual remedies for breach of a contractual term are available, including damages and injunctive relief, and that the usual rules as to remoteness, foreseeability and mitigation of loss will apply to a claim for damages. The basic position in relation to foreseeability, in the words of the Law Commission, is that ‘Insurers are aware that policyholders rely on insurance monies in times of crisis’.
In accordance with its usual approach, the Law Commission was proposing not to make any specific provision in relation to limitation but to allow limitation to follow the general law. This would have been the six-year limited period for actions founded on simple contract. However, a specific limitation period was later added by amendment in the House of Lords. This provides a one-year time limit for an action for breach of the implied term starting on the date on which the insurer has paid all the sums due in respect of the claim. Two different limitation periods will therefore usually be in play if a claim is made both for an indemnity under a policy of insurance and for damages for late payment.
Contracting out of the implied term
The parties may not contract out of the statutory implied term in consumer insurance. In non-consumer insurance, the parties may contract out of the implied term except where the breach is deliberate or reckless (‘did not care’). Importantly, these restrictions do not apply to settlement agreements.
This means that where contracting out is permitted (ie in non-consumer insurance unless the breach is deliberate or reckless), a contractual limitation on liability may be imposed, for example capping the amount or type of damages which may be recoverable.
Lawyers acting for insurers will need to consider whether they should advise insurers to enter into contractually binding settlement agreements which include an express term in relation to any entitlement to make a claim for late payment, or at least provide for full and final settlement of the insurer’s liability so as to start time running for any claim for late payment.
Where the beneficiary is not an insured
The obligation to pay claims within a reasonable term applies only to ‘the insured’ making ‘a claim under the contract’, and where a contract has been entered into, ‘the insured’ is defined as ‘the party to a contract of insurance who is the insured under the contract’. The right to damages for late payment therefore applies only in respect of claims made by a party to the contract, and unlike in respect of fraudulent claims and contracting out, no special provision is made for late payment of claims under group policies which provide cover for persons who are not parties to the contract.
Impact of the reform
The Law Commission thought that successful late payment claims would be relatively rare, and the impact on insurers correspondingly limited. The reform will have a significant impact for policyholders like Mr Sprung for whom something goes badly wrong and who will no longer be left without a remedy. The Law Commission may be right that successful late payment claims prove to be relatively rare. The wider impact of the reform is however likely to be significant. There is potential for disruption if claims management companies move into this area, and the Association of British Insurers, which supported the reform, did so despite its concern that this might happen. These fears may turn out to be unfounded.
But the right to damages is likely to have a significant impact on the way in which insurers investigate and make decisions about claims. The need to record the rationale for decisions will prompt consideration at an earlier stage as to whether liability should be admitted, or part of a claim paid, while investigations of quantum or other elements are ongoing. There may also be an increased level of formality in claims handling, with insurers writing to insureds setting out in more detail the facts on which they are basing a decision, and inviting the insured to correct those facts if they think they are wrong. Insurers may also make increased use of Part 36 offers, or at least put their position formally in writing, so as to avoid any dispute as to what they offered to pay the insured at what stage, and on what terms. Where insurers confirm liability at an earlier stage, while continuing to investigate quantum, insureds will be in a stronger bargaining position when it comes to agreeing the quantum of the claim.