DMC/INS/03/06
Brotherton and others -v- Aseguradora Colseguros SA and another
English Court of Appeal: Buxton, Mance and Ward LJJ.: 22 May 2003
Michael Swainston QC and Roger Mansfield, instructed by Reynolds Porter Chamberlain, for Brotherton
Roger Millett QC and Edmund King, instructed by Clyde and Co, for Colseguros
Insurance/reinsurance: Whether materiality of non-disclosure can be assessed in light of subsequent events: RIGHT OF AVOIDANCE: TIME OF EXERCISE: NO POWER TO INTERVENE TO CONTROL ITS USE RETROSPECTIVELY
Summary
The Court of Appeal has confirmed that the question whether or not an alleged non-disclosure was material has to be judged at the time of placement and not at trial in the light of later events. Material non-disclosure gives rise to the right to avoid the policy. Avoidance takes place immediately and the court has no equitable jurisdiction to intervene retrospectively and overturn an avoidance that has taken effect. The court felt that it would be an unsound step to introduce a principle into English law that permitted an insured not to disclose material information or, subsequently, to resist avoidance for non-disclosure by insisting on a trial to prove the correctness or otherwise of withheld information.

Background
This appeal (expedited in view of an impending trial date) arose from the order of Mr Justice Moore-Bick given on 25 March 2003 disallowing insurers from adducing evidence to show that allegations and investigations against officers of the insured bank had subsequently been proved to be unfounded.

Brotherton and others reinsured Colseguros’ liability as insurers of a Colombian bank against, amongst other things, losses caused by the dishonest or fraudulent acts of the bank's employees. Shortly beforehand, 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 formed the basis of claims the bank made against the insurers.

The 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. At the time of placement, the insurers had no way of knowing (let alone proving) that the allegations were untrue. They were, however, clearly material, not only because they constituted circumstances that might give rise to claims under the reinsurance policies, but also because they suggested moral hazard.

The insurers argued that almost all the investigations had been concluded in the bank president's favour (only a couple were still pending). They acknowledged that, at placement, they could not have proved that the allegations were untrue, but they said they could have demonstrated the political motivation behind them. Since the allegations had proved to be unfounded, however, they could not be material.

Insurers also tried to argue that, since the reinsurers had not suffered any actual prejudice as a result of the non-disclosure, they should not be entitled to avoid. Since there had not, in fact, been any actual misconduct, the reinsurers had suffered no harm. If they had known the true situation (not only the allegations, but also that they were unfounded), they would have written the cover in the same terms as they (in ignorance) did.

At first instance, Mr Justice Moore-Bick found in reinsurers' favour. 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. The House of Lords in Pan Atlantic Insurance Co Ltd v Pine Top Insurance Co Ltd [1995] 1 AC 501 added the requirement that the non-disclosure must have induced the actual underwriter to act differently, either by refusing to write the risk at all, or by agreeing to do so on different terms. 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.

Judgment
The Court of Appeal agreed. A true and fair agreement for the transfer of risk depends on equality of information. To ask an expert underwriter or a court to consider materiality or inducement in the light of circumstances not within either the (re)insured's or the (re)insurers' knowledge at the time of placement would be inadmissible.

Lord Justice Mance, giving the leading judgment, acknowledged that this could give rise to some difficult situations, some of which have been analysed in cases such as March Cabaret Club and Casino Ltd -v- The London Assurance [1975] 1 LLR 169, The Dora [1989] 1 LLR 69, and, most recently, by Mr Justice Colman in Strive Shipping Corporation -v- Hellenic Mutual War Risks Association (The Grecia Express) [2002] EWHC 203.

For instance, if, at the time of placement, the insured is under investigation but knows he has not committed an offence (and is subsequently acquitted), the investigation could, nevertheless, be material. A conviction would be material, even if the insured considers he was wrongly convicted. Circumstances involving the insured that reasonably suggest the proposed risk might be greater could also be discloseable.

In all these situations, the position is mitigated to some extent by the fact that, when he makes his disclosure, the insured has an opportunity to put forward whatever evidence he can of his own innocence, or to show that the conviction was wrong or the circumstances non-existent. The underlying rule, however, is that insurers should be given the opportunity to carry out their own investigations and reach their own conclusions.

In the Grecia Express, Mr Justice Colman (having decided that the allegations of dishonesty against the insured were discloseable), went on to find that insurers were, nevertheless, not entitled to avoid the policy once the allegations had been proved to be untrue, on the grounds that this would be a breach of their own duty of good faith to the insured.

The Court of Appeal held that this approach was wrong in principle. Avoidance (like rescission in the general law of contract) takes place immediately, independently of the court. There is no authority for the argument that the court retains a power of equitable intervention to control its use retrospectively.

The court felt that it would be an unsound step to introduce a principle into English law that permitted an insured not to disclose material information or, subsequently, to resist avoidance for non-disclosure by insisting on a trial to prove the correctness or otherwise of withheld information. In cases where insurers never found out about the non-disclosure, the insured could recover under the policy, however directly relevant the non-disclosure was to the risk or to the losses incurred. In cases where insurers did find out, they would be obliged to investigate further and would soon become embroiled in costs and litigation, none of which would have been incurred had the insured fulfilled his duty of disclosure in the first place.

The order barring insurers from pleading and adducing evidence at trial as to the truth of the allegations made against the insured was, therefore, upheld.