In Versloot Dredging BV and another v HDI Gerling Industrie Versicherung AG and others (2016), the Supreme Court found that it would be disproportionately harsh to the insured if a lie found to be irrelevant to the recoverability of the claim meant that the insured could not recover under the policy.
On the night of 28 January 2010, water flooded the engine room of the "DC MERWESTONE" and this resulted in irreparable damage to the engine. During the insurers' solicitors' investigation, a representative of the vessel's managers developed a theory that the bilge alarm had sounded at about noon on 28 January, but the crew had been unable to investigate or deal with the leak because of the rolling of the ship in heavy weather. In an email sent to the solicitors, he set out this theory but also pretended that he had been told about the alarm activation by the crew. In reality, he had not been told this by the crew and had no reason to believe that the crew would support it.
The reason for the lie was that he was frustrated by the insurers' delay in recognising the claim. The cause of the flooding was not yet known, and he believed that it would help the claim if the casualty could be blamed on the crew instead of attention being concentrated on the defective condition of the ship and on the possible responsibility of the owners. He had been advised that the wording of the Inchmaree clause in the Institute Time Clauses might afford a defence under the policy if the owners were found to have any responsibility for what happened.
At first instance, Popplewell J held that the loss was proximately caused by a peril of the seas and that the relevant part of the Inchmaree clause had no application to this peril. It followed that the owners had a valid claim for about € 3 million whether or not the crew had failed to act on the alarm activation. The lie told by the representative of the vessel's managers was irrelevant to the merits of the claim. Nevertheless, Popplewell J held that the claim was lost as a result of the lie and his decision was upheld by the Court of Appeal.
The Fraudulent Claim rule
If an insured makes a fraudulent claim, the insurer is not liable to pay the claim. That is the position at common law and under the Insurance Act 2015. It was common ground between the parties and confirmed to be indisputable by the Supreme Court that the rule operates to bar the whole of the policyholder's claim in situations where: 1) the claim is wholly fabricated; or 2) there is a genuine claim, but the amount of the claim has been fraudulently exaggerated.
The issue in the Versloot case was whether the rule extended to bar a claim where the insured had not invented or exaggerated the claim, but had employed what has been called a "fraudulent device", i.e. a lie or other bogus evidence of some kind advanced in support of the claim, but that in fact had no influence on the validity of the claim. Lord Sumption JSC preferred the expression "collateral lie" to describe the situation.
The Supreme Court decision
This was the first time that the Supreme Court had the chance to resolve the question set out above, and it held, by a majority of 4:1 that the fraudulent claim rule does not extend to collateral lies. Below are some of the points made by the Court:
- There is an obvious difference between a fraudulently exaggerated claim and a justified claim supported by collateral lies. In the first situation, the lie is calculated to get the insured something to which he is not entitled. The law does not sever the honest part from the invented part. The policy of deterring fraudulent claims goes to the honesty of the claim, and both are parts of a single claim. The insured, therefore, gets nothing;
- In situations involving collateral lies, the insured is trying to obtain no more than the law regards as his entitlement and the lie is irrelevant to the existence or amount of that entitlement. As Lord Sumption JSC put it, "the lie is dishonest, but the claim is not". A policy of deterrence did not justify an extension of the fraudulent claim rule in these cases;
- The true test is one of materiality, although different from the one used in the context of pre-contractual breaches of the duty of good faith, done by reference to the impact that a lie would have on the prudent underwriter at the time of the placing of the risk. Post-contract, when a claim is made, the test must be based on the relevance of the collateral lie once all the facts have been ascertained. In this case, it did not matter whether the vessel's manager's representative thought that the lie would make a difference. What mattered was that, once all the facts had been ascertained, the lie was found to have been irrelevant;
- The common law rule of fraudulent claims has evolved to exclude from its operation fraud committed after litigation has begun. The basis for this limitation must be that the courts should be left to deal with fraud in the course of litigation in other ways;
- The insured is likely to suffer other consequences for telling a collateral lie: a) there will be a criminal offence, although the risk of prosecution is slight; b) he may be held liable in damages to the insurers; c) he will lose his credibility; d) if there is litigation, he will be penalised in costs; e) the policy will be terminated; f) he is likely to be refused insurance or to have to pay a higher premium. To add to that, the loss of a valid claim would be disproportionate.
The Insurance Act 2015 preserves the rule that the fraudulent claimant recovers nothing, but leaves open the scope of the Fraudulent Claim rule, which has now been clarified by the Supreme Court so that where a lie has no impact on the insured's entitlement, the insurer will be unable to reject the claim on that basis alone. It remains open to insurers to review their policies and add appropriately worded provisions to deal with collateral lies and the consequences for the insured.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.