Double insurance – the role of “other insurance” clauses

Summary

In Watford Community Housing Trust v Arthur J. Gallagher Insurance Brokers Ltd the High Court construed three policies which on their face would respond to losses from a data breach (Cyber, Commercial Combined and PI), holding that “other insurance” clauses in the policies cancel one another out.

But for a failure to notify to two out of the three policies, the Claimant would have had the benefit of triple insurance against its losses under a horizontal layer of primary insurance providing £1 million of cover under the Cyber Policy, £5 million of cover under the Combined Policy and a further £5 million of cover (plus defence costs) under the PI Policy.

Background

Following a data breach in which one of the Claimant’s employees inadvertently disclosed the personal data of thousands of the claimant’s tenants and employees, the Claimant received a significant number of claims.

At the time of the breach, the Claimant held three insurance policies with the potential to provide coverage in response to the claims:

• A "Cyber Policy", underwritten by PEN Underwriters on behalf of various Lloyd's Syndicates, with an aggregate limit of £1,000,000 (inclusive of defence costs) and an excess of £5,000 each and every claim;
• A "Combined Policy", underwritten by QBE, with an aggregate sub-limit of £5,000,000 (inclusive of defence costs) and an excess of £500 any one occurrence; and
• A "PI Policy", underwritten by Hiscox, with a limit of £5,000,000 any one claim (but with defence costs in addition) and an excess of £5,000 each claim or loss.

On the Defendant broker’s advice, the Claimant notified the data breach only to its Cyber Policy. Underwriters for the Combined and the PI policies were not notified of the data breach until after the expiry of their respective policies. Both QBE and Hiscox duly declined cover, although QBE subsequently withdrew their declinature and agreed to indemnify the Claimant, increasing the available indemnity to £6 million (£1 million under the Cyber Policy plus £5 million under the Combined Policy).

A dispute subsequently arose concerning the amount of coverage that ought to have been available, but for the failure to notify the PI Policy, as the Claimant anticipated that its costs and liability in respect of the claims would exceed £6 million.

The Defendant argued that the failure to notify the PI Policy had not caused the claimant any loss, because the maximum indemnity recoverable by the claimant under the three policies was £5 million (being the highest limit of the three policies, which together provided a horizontal layer of cover). By contrast, the Claimant argued that it should have been entitled to a full indemnity up to £11 million (or, alternatively, £10 million).

The court ordered a trial of the following preliminary issue:
"Whether, on a proper construction, the double insurance provisions in the claimant's insurance policies have the effect that the claimant has suffered no loss by reason of the defendant's breach because it has already received a greater indemnity than it would have done if all insurers had been properly notified but had stood on their strict rights pursuant to those double insurance clauses."

Other insurance – the decision

At its core, double insurance is when a party holds insurance with two (or more) insurers which covers the same subject matter against the same risks. It is common for an insurance policy to contain some form of wording to provide that where another insurance policy will respond to a particular insured loss, either that first policy will fall away, or it will only apply in excess of the second cover. Inevitably, where multiple insurance policies all contain conflicting “other insurance” clauses, the arguments can get complex and somewhat circular.

Each of the three policies in Watford contained an “other insurance” clause that turned it into an excess policy in the event of double insurance.

The court decided that, on their true construction, the “other insurance” clauses cancel one another out. In resolving the preliminary issue, the court construed the three policies by reference to well-established principles of construction, which require the wording of the policy to be interpreted objectively; i.e. by asking what a reasonable person, with all the background knowledge which would reasonably have been available to the parties when they entered into the contract, would have understood the language of the contract to mean (Wood v Capita and the FCA Test Case).

The decision that the clauses cancelled one another out meant that, but for the failure to notify, the claimant would have had the benefit of triple insurance against its losses under a horizontal layer of primary insurance providing £1 million of cover under the Cyber Policy, £5 million of cover under the Combined Policy and a further £5 million of cover (plus defence costs) under the PI Policy. The other insurance clause in the PI Policy, although stated in materially different terms from the Cyber and Combined Policies, was not effective to make that policy a contract of excess insurance providing the Insured with a vertical layer of excess cover for £5 million (plus defence costs) on top of a horizontal primary layer of double insurance consisting of the Cyber Policy and the Combined Policy.

In coming to this view, the court found that the principle of construction established in Weddell v Road Transport and General Insurance Co. [1932] 2 K.B. 563, a decision in which the court construed “other insurance” clauses in an RTA context, still applies. In Weddell it was held that “…the reasonable construction is to exclude from the category of co-existing cover any cover which is expressed to be itself cancelled by such co-existence, and to hold in such cases that both companies are liable”. Here, the other insurance clauses all seek to deprive the Claimant of any primary cover on account of their co-existence, but it would be “absurd or repugnant to the commercial purpose of the contracts” if the result was that the insured was left with no primary insurance at all. As such, each policy falls to be construed independently, and if each insurer would be liable as a primary insurer but for the existence of the other policy, then the 'excess' other insurance clauses are to be treated as cancelling each other out. This has the consequence that the Claimant has the benefit of double (or, in this case, triple) insurance in the form of a horizontal layer of primary cover.

The court also noted that, absent an express rateable proportion clause (namely a clause limiting an insurer's liability to a rateable proportion of the loss in the event of other insurance), in the case of multiple insurance an insured can claim against its insurers in whichever order it wishes. The court noted that there is no general principle or rule of law to the effect that in a case of double insurance a principle of rateable proportion serves to limit each insurer's liability to its insured. If it fails to recover the whole loss from one insurer, it can recover the balance from one or more of the others. If an insured has paid more than one premium for more than one primary policy against liability incurred above a specified attachment point and up to a specified limit, absent an express contractual provision that provides otherwise and as a matter of general principle, the insured should be able to recover the whole of its loss under one or more of the policies up to a maximum of the combined limits. Contribution, if it arises, is a matter for insurers inter se and, absent a rateable proportion clause in the policy, is of no concern to the insured.

None of the three policies in issue here contained a rateable proportion clause, so that each insurer is liable to the claimant for the whole of its loss up to the limit of their policy. Subject to the indemnity principle, the claimant can exhaust its primary policies in whichever order it chooses up to a maximum combined indemnity of £11 million.

The court also found that it is not necessary to investigate (on a loss of a chance basis) whether or not the insurers would have complied with their legal obligations to the claimant (whether as a matter of market practice or otherwise) or the likelihood of the claimant successfully suing the insurers to judgment in order to answer the preliminary issue. Where it is clear that an insurer would have been legally liable to an insured but for the failure to notify, there is no need to apply any discount to reflect any uncertainty in recovery.

Commentary

Where a policyholder has paid separate premia for separate policies, each of which provides coverage in principle for the losses suffered by that policyholder, it would have been a surprising result, and likely contrary to the public interest, to find that the policyholder only had coverage up to the value of the highest limit of those policies, or that the insurers’ liability was otherwise limited in the absence of an express rateable proportion clause. Considered objectively, a reasonable person would expect that the more insurance coverage they had purchased, the more they would be entitled to recover from their insurers, not that coverage would be restricted by virtue of a provision whereby each insurer attempts to establish themselves as acting in excess of the other.

Whilst the decision means that, in effect, most competing “other insurance” clauses are likely to cancel one another out (given that such clauses are commonplace), it does not mean that they have no value. To the contrary, the judgment reinforces the importance of insurers including an appropriate “other insurance” clause if they wish to avoid automatically becoming the sole primary insurer: in all likelihood, if the policyholder has two or more policies which may provide coverage, at least one of those policies is likely to contain an “other insurance” clause.