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Material evidence

IFAs routinely assist their clients to fill out proposal forms but there are particular dangers in relation to insurance products. What are the risks and what can the IFA do to avoid them becoming a reality?

Take this typical scenario. A client is completing a proposal for critical-illness insurance. He suffers from a back problem, which he mentions to his IFA when asking him to check the form. The IFA, perhaps not paying attention, reads the proposal and says it is fine. The insurer accepts the proposal and issues the policy. A year later, the client has a heart attack and makes a claim.

The insurer refuses to pay out, relying on the client’s failure to disclose his back problem which comes to light in the course of investigating the claim. The client then sues his IFA for wrongly saying the proposal was completed correctly. How would the court view such a case?

First, let us consider the position of the insurer. Is it justified in refusing to pay out? The short answer is yes. This is because of one of the fundamental principles of insurance law – the duty f the utmost good faith.

In negotiating most contracts, there is a duty not to misrepresent the facts but there is no positive duty to disclose them. Insurance contracts are different.

Here, the parties are under a duty of the utmost good faith. One of the most important consequences is that when filling out a proposal or renewal, the proposer is required to disclose all relevant information known to him.

The courts consider the duty to be necessary for the protection of insurers, because normally it is the proposer rather than the insurer who knows all the relevant information about the risk being insured against.

As Lord Mansfield said almost 250 years ago: “Insurance is a contract of speculation. The special facts upon which the contingent chance is to be computed lie most commonly in the knowledge of the insured only…”

So the underwriter must trust the proposer not to keep back any circumstance. This remains a fundamental principle of insurance law.

When completing the critical-illness insurance proposal form, the client must disclose all facts known to him which are material to an insurer’s assessment of the risk. If he fails to do so, and the non-disclosure was a factor that induced the insurer to enter into the policy, the insurer is entitled to refuse to pay out and to “avoid” or walk away from the policy altogether.

It is up to the insurer to prove that the fact not disclosed was material and that the non-disclosure induced the making of the insurance contract on the relevant terms.

A material fact is one that will influence the judgement of a prudent underwriter in fixing the premium or determining whether he will take the risk. The question of materiality focuses on the moment when the insurer entered into the insur-ance contract, not when the ins-urer later considers a claim.

Back pain may be irrelevant to the risk of having a heart attack but it is not irrelevant to the initial decision of fixing the premium or whether to take the risk associated with the critical-illness policy.

Where an insured fails in his duty of making full disclosure and the insurer proves materiality and inducement, the insurer may, on discovering the full facts, elect to avoid the contract of insurance.

It may seem harsh for the insurer to reject a claim following a heart attack by relying on a failure to disclose a back condition but the position is entirely justified by the duty on the client to disclose all material facts when the contract was initially made.

What about the IFA? The client is suing his IFA, in effect, asking him to pay what the insurer would have paid had the proposal been completed correctly. Is the claim likely to succeed?

The basic principle is that the IFA must exercise reasonable skill and care in performing the tasks he undertakes for his client. These duties are owed both under the contract between the IFA and his client and under the common law of negligence. In the case of completing an insurance proposal, this duty will require the IFA:

  • To advise on the materiality of matters of which he is aware.

  • To advise on the general duty of disclosure owed by the insured to the insurer and the consequences of failure to comply.

  • In some circumstances, to make adequate enquiries of the insured to ensure that material facts are disclosed.

    In our example, the IFA owed a duty to the client to assist him to complete the proposal form. He failed in that duty. Despite being told of the client’s back condition, the IFA failed to explain that this was a material fact or to point out that the proposal form was therefore incorrectly completed by not disclosing it. He is likely to be liable to his client for these failings.

    What can an IFA do to avoid the risk of being sued? The essential answer is to do the job conscientiously and carefully. Clients frequently ask for advice when filling in insurance proposals or renewals. They may also ask the IFA to verify that the proposal has been completed correctly. If the cautious IFA simply meets these enquiries by saying that he cannot give any help or advice, effectively leaving his client to work things out for himself, that would in itself be a failure to do the job by giving the necessary advice.

    The risk to the IFA is not unmanageable. An IFA’s duty is limited to what he can achieve with reasonable skill and care. He is not being asked to achieve the impossible, just to meet a reasonable standard of competence. So he does not have a responsibility to ensure that the proposal form is correctly filled in but he must merely act carefully to try to achieve that end. Bearing the following points in mind should avoid difficulties arising in most cases:

  • Give careful advice. In particular, tell the client about his duty to disclose and record that advice in writing.

  • If in genuine doubt about whether a fact is material, disclose it. Indeed, the IFA’s duty may well extend to such matters on the basis that the client should be protected from an unnecessary risk of dispute with his insurers.

  • Insist that the client checks the proposal form with care.

  • If a response in the proposal is ambiguous, unsatisfactory or you suspect it may be wrong, clarify the matter with the client.

    The increased use of tele-underwriting is helping IFAs to avoid these risks in some cases.

    Tele-underwriting is a process in which the insurer interviews the proposer directly, obtaining the information it requires before deciding whether to accept the proposal and so enter into the contract. In effect, the proposal form is replaced by an interview between the insurer’s staff and the proposer.

    An obvious advantage for the IFA is that it removes him from the informationgathering process. However, tele-underwriting is not used in every case and the IFA will have to continue to give careful advice when assisting clients apply for insurance.

    Peter Hamilton is a barrister specialising in financial services at 4 Pump Court

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