Section 54 – An Avenue to Meddle with Insurance Claims?

The first judgment published by the Federal Court of Australia in 2016¹ dealt with the operation of section 54 of the Insurance Contracts Act and whether an insurer can seek to rely on the provision in defending a contribution claim.  Now, towards the end of 2016, the Full Court of the Federal Court has affirmed the judgment in Watkins Syndicate 0457 at Lloyds v Pantaenius Australia Pty Ltd [2016] FCAFC 150.

What Was in Issue?

The Full Federal Court was required to answer three questions in the appeal:

1. Whether, in the circumstances, section 54 of the Insurance Contracts Act was engaged?

2. If it did, did its operation mean that the Appellant (Lloyds Syndicate) would not have been able to refuse to pay a claim made by the insured?

3. Can the respondent insurer set up putative liability of the appellant to the insured as a basis for a claim for contribution by it?

To cut a long story short, the Full Federal Court answered yes to all the above questions and affirmed the judgment at first instance.   

The real novel question to be addressed by the Court is the answer to question (3).  With respect to this question, it was argued by the appellant that an insurer could not rely on section 54 in a contribution claim as the remedial benefit of the section was for the insured; not their insurer.  The question was important because if section 54 did not operate, then contribution could be opposed on the basis of suspension of cover in the policy.

In answering this question, the Full Court relied on the equitable nature of contribution as between insurers to find that an insurer can seek to rely on section 54 in such circumstances. 

A broadening of the Remedial Power under Section 54?

For insurers, the judgment could be considered a broadening of the remedial power provided by section 54; however, the judgment is only likely to provide an advantage in circumstances where there is a claim for contribution being sought by another insurer^.2  It must be noted that the Full Court’s judgment says nothing about extending reliance on section 54 to third parties generally or outside of a claim for contribution.

It’s not unheard of for a third party to seek to meddle in the insurer/insured relationship.  Most often this occurs where a third party is seeking to obtain the benefit of an insurance policy, rather than alleging that a claim should not have been accepted;³ there are also circumstances where third parties (brokers) have sought to minimise any damages arising from negligence claims against them by alleging that the insurer would have denied the claim;⁴ however, there are limits to this meddling especially in circumstances where an insurer is seeking recovery from a third party pursuant to subrogated rights.   The two main limitations are:

1. the doctrine of privity of contract; and

2. the doctrine of subrogation.

The doctrine of privity of contract prevents a person, who is not a party to a contract, from seeking to enforce or take advantage of an obligation or term of the contract.⁵  On its face,  this prevents a third party from seeking to take advantage of an exclusion under the policy between the insured and insurer.

Second, more crucially and arising from the doctrine of subrogation is the principle from King v Victoria Insurance Co Ltd⁶ which states that where an insurer makes a payment under a policy of insurance in satisfaction of a claim, a third party cannot defend the subrogated claim by seeking to allege that the claim did not fall within the terms of the policy.⁷

Overall, the Full Court’s judgment provides an avenue for insurers involved in contribution disputes to seek to mitigate the amount of any contribution that they are required to pay through the use of section 54, assuming they can show that the loss and damage ought to be reduced (whether by way of s 54(1) or (2)).  However, beyond the area of contribution, it is unlikely that the judgment will provide:

• a detriment to insurers in subrogated recovery actions; or

• any benefit to insurers in defending subrogated claims