Non-disclosure clauses: when is a non-disclosure "deliberate or fraudulent"?

In Mutual Energy Ltd v Starr Underwriting Agents Ltd [2016] EWHC 590 (TCC), Mr Justice Coulson considered the proper construction of a clause which prevented insurers from avoiding the policy for non-disclosure unless that non-disclosure was "deliberate or fraudulent".  The Judge held that a non-disclosure would only be "deliberate or fraudulent" if the insured deliberately withheld information knowing that it was required to be disclosed.  Insurers were not entitled to avoid the policy where the insured withheld information in the honest but mistaken belief that the information did not need to be disclosed.

Background

Mutual Energy Limited (“MEL”) owns and operates the Moyle Interconnector linking the electricity systems of Northern Ireland and Scotland. In June and August 2011 there were two failures of the Moyle Interconnector due to short-circuiting, both of which led to loss of power flow. MEL submitted insurance claims totalling £41,022,504.

Three of MEL's five insurers agreed to compromise the claim, but the two defendants (the "Insurers") refused to do so. MEL commenced proceedings.  The Insurers defended the claim, arguing that they were entitled to avoid the contract ab initio on the grounds that MEL had deliberately failed to disclose problems with the cables during the construction and commissioning phases in 2000-2001.  

Clauses 5 and 6 of the policy provided as follows:

“5. Scope of Disclosure

The Insurers acknowledge that (i) they have received adequate information in order to evaluate the risk of insuring the Company in respect of the risks hereby insured on the assumption that such information is not materially misleading….

6. Non-disclosure, misrepresentation and breach

Notwithstanding any other provisions of this policy:

(a)        the Insurers agree not to terminate, repudiate, rescind or avoid this insurance as against any Insured, or any cover or valid claim under it, nor to claim damages or any other remedy against any Insured or any agent of any Insured, on the grounds that the risk or claim was not adequately disclosed, or that it was in any way misrepresented, or increased, or that any term, condition or warranty was breached, or on the ground of negligence, unless deliberate or fraudulent non-disclosure or misrepresentation or breach by that Insured is established in relation thereto....” [emphasis added]

Coulson J, sitting in the Technology and Construction Court, ordered trial of a preliminary issue on the proper construction of Clause 6.  Specifically, he considered whether (as Insurers contended) “deliberate… non-disclosure” included circumstances where an insured was aware of information and was aware that it was not being disclosed to insurers, but held the honest but mistaken belief that it did not need to be disclosed.  MEL disputed Insurers' construction, arguing that, in order for non-disclosure to be deliberate, there must be dishonesty on the part of the insured.

Decision

Coulson J began his judgment by rehearsing the lucid statement of the principles of contractual construction set out by Lord Justice Clarke in Wood v Sureterm Direct Ltd & Capita Insurance Services [2015] EWCA Civ 893.  The Judge then considered the question of construction by reference to: (1) the words used; (2) the contractual context; and (3) business common sense. 

The Words Used

The dictionary definition of ‘deliberate’ - “carefully thought out, studied, intentional, done on purpose” - in Coulson J's view suggested that "deliberate….non-disclosure" entailed serious misconduct or culpability.  It required that MEL should not only have been aware of the circumstances of the non-disclosure but also that the information withheld was required to be disclosed under the policy. This conclusion was supported by cases considering the meaning of "deliberate default" (De Beers UK Ltd v ATOS [2010] EWHC 3276 (TCC)) and "deliberate breach" (AstraZeneca UK Ltd v Albemarle International Corp and Another [2011] EWHC 1574 (Comm)).

Insurers had argued that one should distinguish between, on the one hand, "deliberate breach" or "deliberate default" which they regarded as loaded terms, and on the other hand, "deliberate... non-disclosure" which they argued was neutral.  Insurers suggested that only the former involved an element of dishonesty; the latter did not.  However, Coulson J disagreed.  He considered that "deliberate non-disclosure" was also a loaded term, shorthand for a breach of MEL’s common law obligation to disclose all relevant material.  There was no justification for making the distinction contended for by Insurers.

Insurers had also argued that, to avoid surplusage in Clause 6(a), ‘deliberate’ and ‘fraudulent’ must have different meanings, and it therefore followed that 'deliberate' did not require an element of bad faith. However Coulson J held that the presumption against surplusage was not a hard-edged rule. As Lord Justice Gross observed in ENER-G Holdings Plc v Hormell [2012] EWCA Civ 105, some surplus language will often be found in commercial contracts.  Indeed, arguably the very inclusion of the proviso (or at least the part regarding fraudulent non-disclosure) in Clause 6(a) was surplus, since an insured cannot exclude remedies against their own fraud.  However this, like the addition of ‘deliberate’, was the product of an over-zealous draftsman.

In any event, Coulson J was not persuaded that ‘deliberate’ and ‘fraudulent’ necessarily meant the same thing.  An insured might deliberately withhold information knowing that it must be disclosed (for example, because the information is embarrassing), yet they would not be acting fraudulently if there was no deceitful intention to obtain an advantage. 

The Contractual Context

Coulson J found that his analysis of the ordinary meaning of the words "deliberate…non-disclosure" was consistent with the contract when read as a whole.

First, in Clause 5 Insurers expressly acknowledged that they had received adequate information, provided that the information given was not materially misleading.  In effect therefore Insurers agreed that they had received sufficient information and no further information was required.

Secondly, the general purpose of Clause 6(a) was to exclude a wide range of remedies for numerous causes of action. A proviso which reinstated these remedies for non-disclosure which was the result of an honest but mistaken belief held by the insured would "cut across and render nugatory the wide words of the exclusion in Cause 6”.

Thirdly, had the parties intended a wider proviso to Clause 6(a), they would presumably have reintroduced the possibility of a claim by Insurers for negligent mis-statement.  However this was not the case.

Business Common Sense

Coulson J also held that the interpretation advocated by MEL was consistent with business common sense. The Judge observed that the insurance industry had been "bedevilled" by the ability of insurers to avoid a policy altogether due to non-disclosure by insureds, even where that non-disclosure was due to an honest mistake.  There were circumstances in which it would be appropriate to include clauses which protect the insured from such draconian remedies. This was just such a clause.

The Judge also found that Insurers' reading of Clause 6(a) would, if correct, lead to commercially illogical results.  On Insurers' analysis:

“…MEL would be punished for undertaking a rigorous disclosure exercise because they had made an honest mistake in the disclosure of one material document; but they would not be penalised if they failed to go about the disclosure exercise properly, failed to consider the document in question (or indeed any documents), and simply failed to disclose the file. It cannot be right that MEL should be in a worse position because they made an honest mistake, as opposed to an inadvertent error.”

Comment

Under current English law (s17-20 Marine Insurance Act 1906), insurers' only remedy for material non-disclosure by the insured is to avoid the policy ab initio. Given the draconian nature of this remedy, it is not uncommon for insureds to seek to include in their policies clauses which restrict the scope of the duty of disclosure and the remedies available to insurers for breach of that duty.  The decision in Mutual Energy demonstrates the courts' willingness to construe such clauses purposively and, where the wording allows, to ensure that insureds are afforded broad protection.  When the Insurance Act 2015 comes into force on 12 August 2016, it will introduce a range of proportionate remedies for material non-disclosure and misrepresentation.  However the duty of disclosure will remain, and doubtless insureds will continue to seek to introduce clauses such as those in the MEL policy in an attempt to limit their duty of disclosure and the remedies available to insurers for breach. It will be important for insureds, brokers and insurers to ensure that pre-Insurance Act clauses of this nature are fit for purpose when the Insurance Act is in force.