Note: this judgment has been affirmed by the Court of Appeal, in a decision dated 22 May 2003. To access the Court of Appeal judgment, click here

Facts
The claimants (Brotherton and other underwriters at Lloyd’s) reinsured the defendants' liability as insurers of a Colombian bank against, amongst other things, losses caused by the dishonest or fraudulent acts of the bank's employees. Cover incepted on 7 December 1997. In November 1997, allegations of serious impropriety against the president of the bank were made in the Colombian media concerning irregular loans to connected persons and companies. These and other allegations led to his suspension and arrest on suspicion of embezzling public funds. Some of the loans referred to formed the basis of claims the bank made against the insurers.

Reinsurers sought to avoid the reinsurance contract, claiming that the insurers had been aware of these matters when the cover was placed but had failed to disclose them. The insurers argued that the allegations (which they claimed were part of a political campaign) were unfounded and, therefore, were not material. Nearly all the investigations had been concluded in the bank president's favour, although some were still pending.

This particular hearing concerned whether the insurers were entitled to adduce evidence at trial to show the allegations were untrue (so that they could argue they were not material). The real issue, however, was whether allegations that were material at the time of inception can become immaterial if they are later shown to be unfounded.

Judgment
Mr Justice Moore-Bick found in favour of the reinsurers. Section 18 of the Marine Insurance Act 1906 provides that a material circumstance is one which would influence the judgment of a prudent underwriter in fixing the premium or determining whether or not he will take the risk. Materiality, therefore, has a direct bearing on the exercise of the (re)insurer's underwriting judgment. Information that only comes to light after the contract has been made cannot affect that judgment.

Allegations of criminal conduct are likely to be material to the prudent insurer and so must be disclosed, even if the insured knows he is innocent and the allegation is later proved to be untrue (March Cabaret Club & Casino Limited v The London Assurance [1975] 1 Lloyd's Rep 169, The Dora [1989] 1 Lloyd's Rep 69). Rumours or allegations in circulation at the time of placement may be material. If so, they do not cease to be material on subsequently being shown to have been false (Strive Shipping Corporation -v- Hellenic Mutual War Risks Association (Grecia Express) [2002] 2 Lloyd's Rep 88). In this regard, the judge could see no reason to draw any distinction between reports relating to the likelihood of loss and allegations that related only to moral hazard.

Consequently, if the allegations made against the president of the bank were found to be material at the time of placement, the fact that they later proved to be untrue did not render them immaterial. No purpose could, therefore, be served by the insurers calling evidence to establish that the allegations made against the bank's president were unfounded.

Comment
Insurers also tried to put forward the argument that, following Strive Shipping, even if materiality was not affected by subsequent events, the fact that the allegations could be proved to be false should deprive reinsurers of their right to avoid. The point was not pursued (as it was not relevant for the purpose of this particular decision), but Mr Justice Moore-Bick took his second opportunity in recent months to express his opinion that the Strive Shipping conclusion on this point was not sound. The first occasion was in the case of Drake Insurance Plc v. Provident Insurance Plc [2003] EWHC 109 (Comm).