August 2, 2021

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Business Interruption Insurance, Pandemics, And a Very U.K. Story of Dispute Resolution – Samuel – 2021 – Alternatives to the High Cost of Litigation

13 min read

The United Kingdom has a dispute resolution problem that stems from the pandemic that cannot be entirely unique to Great Britain. Providers of business interruption insurance have been less happy about paying out on policies taken out by businesses in view of the extreme nature of the pandemic.

The beginning of that horror in the spring of 2020 exposed the multitude of policy wordings used in business protection contracts to the variety of ways in which government pronouncements and regulations have affected different businesses.

The resulting dispute resolution nightmare risks jeopardizing both the future of many policyholders’ businesses and the U.K. insurance industry’s reputation. At the time of writing, the story is far from over. It illustrates, however, how the variety of dispute resolution options that the U.K. regulatory and dispute resolution frameworks in this area can work while not hiding their weaknesses.

The Disputes’ Beginnings

As the pandemic bit hard into U.K. business life during 2020, stories emerged of how the insurance industry was failing to pay out on its business interruption cover.

A well-known law firm, Mishcon de Reya established the Hiscox action group to bring claims against that insurer. The British insurance regulator, the Financial Conduct Authority (FCA), became extremely anxious.

The number of insurers involved in failure-to-pay allegations was too great to bring enforcement action against each of them, and a number are significantly larger than the regulator. They could be expected to challenge any fines or attempts to remove authorization through the Upper Tribunal, the administrative justice system that rehears all disciplinary actions and from there into the Court of Appeal (to which there is an appeal on a question of law) and, potentially, the U.K. Supreme Court.

If the regulator did nothing, apart from shredding its own reputation, it would also have directed huge numbers of cases to the Financial Ombudsman Service (FOS). An FCA-authorized financial services firm is by law subject to FOS’s jurisdiction for disputes relating to its regulated activities. Financial Services and Markets Act 2000, s. 225-229; FCA’s Handbook: Disputes (DISP) 2.3.1R(1) (available at https://bit.ly/3t583Nw).

Not only consumers, but also businesses with annual turnovers of less than £6.5 million and either a balance sheet of less than £5 million or fewer than 50 employees at the time of complaining can file complaints with the Ombudsman Service having first complained to the firm. DISP 2.7.3R(6). Its maximum award is currently £355,000 plus costs, plus interest. DISP 3.7.4R. The Service is exposed to the risk of judicial review but must apply what is fair and reasonable even where it differs from the law. Financial Services and Markets Act 2000, ss 228 & 229. (It is a form of mass-market Lex mercatoria!).

The Test Case

In the summer of 2020, the Financial Conduct Authority decided to bring a court case against the main insurers, seeking a series of declarations about the coverage offered by their policies. Financial Conduct Authority v. Arch Insurance (U.K.) Ltd., [2021] UKSC 1.

In doing the right thing, the regulator compromised two elements of the protection that its own rules offer policyholders. The FCA’s Insurance Conduct of Business Sourcebook (available at https://bit.ly/3vli7DA) applies to all insurers except for reinsurance and large risks. ICOBS 8.1.1R reads:

An insurer must:

(1) Handle claims promptly and fairly;

(3) Not unreasonably reject a claim …; and

(4) Settle claims promptly once settlement terms are agreed.

Note the emphasis, which is this author’s. The decision to go to court to seek a declaration about the correct interpretation of the various policies meant that insurers only had to show that their refusal to pay claims was in line with contract and insurance law. It no longer had to handle claims fairly or not unreasonably reject claims.

ICOBS 8.1.1R was clearly designed to impose an obligation on insurers additional to their legal requirements. While the Ombudsman is required to reach fair and reasonable results, it must also have regard to the law, the regulator’s rules, and any statements of good practice. Ironically, ICOBS 8’s commandment to handle complaints fairly comes from the Guidelines of the Association of British Insurance (the ABI, an insurer trade body) which ICOBS replaced in 2005.

On top of that, the court would not be applying the “fair and reasonable” standard which Section 228 of the Financial Services and Markets Act imposes on the Financial Ombudsman Service. It can be objected that the law is not necessarily unfair or unreasonable to policyholders.

Nevertheless, by litigating, the regulator removed the possibility that an Ombudsman could take a less legalistic view of the situation, having reached a conclusion as to what the law required. While FOS could find for the insurers where the law was against them, this is not a very likely scenario.

The Court allowed Mishcon de Reya’s policyholders’ group to intervene in the case. The English High Court, the equivalent of a federal district court, convened unusually with two judges, not one: Lord Justice Flaux, normally a Court of Appeal judge, and Mr. Justice Butcher, both insurance lawyers when they practiced at the English bar.

Strictly speaking, this case would not affect insurers in either Scotland or Northern Ireland, both of which have separate legal systems. In practice, most business interruption insurers are either headquartered in England or have a significant presence there.

The High Court was faced with 22 different policy wordings. This itself represented a huge regulatory failure following 9/11 after which the U.K. regulator launched its “contract certainty” initiative when it was unclear whether one of the Twin Towers was insured. One of the ideas was that the insurance market would develop some standard wordings which could then be interpreted with some degree of uniformity. That clearly had not worked.

The High Court decision was a very mixed affair, finding for the regulator/policyholders on some points and the insurers on others. Financial Conduct Authority (FCA) v. Arch Insurance (UK) Ltd., [2020] EWHC 2448 (Comm) (available at https://bit.ly/3eD1Hjf). Both sides appealed and the case was shifted directly to the Supreme Court using the “leap-frog” procedure for cases of major importance.

That court found far more in the FCA’s favor. Financial Conduct Authority v. Arch Insurance (UK) Ltd., [Jan. 15, 2021] UKSC 1 (available https://bit.ly/3vlktCq). The problem, though, is that neither Court decided whether any actual claims should be paid out because they were never invited to do so by any party to the litigation. The court only indicated the general meaning of various clauses and how insurers should go about assessing claims.

Post-Decision Effects

Now, everything is stuck. Or maybe it isn’t.

Even before the Supreme Court decision, Mishcon de Reya’s group of Hiscox policyholders agreed to a group arbitration arrangement with the insurer. See “Supreme Court backs policyholders in FCA test case judgment,” Mishcon de Reya’s website (Jan. 15) (available at https://bit.ly/2QIxEyB). See also Dan Ascher, “It’s do or die time for my insurer to pay up,” BBC News (March 29) (available at https://bbc.in/3e5wNRL). When the Supreme Court announced its decision, the law firm pointed out that the delays in paying claims had already resulted in the collapse of a number of their members. See Mishcon de Reya’s Jan. 15 website post, above.

Payout Problems

The issue: Some insurers aren’t making good on their pandemic U.K. business interruption policies.

Is there coverage? The regulator, the Financial Conduct Authority, seems to think so in most cases. It has warned insurers to clean up their acts.

The current path: England’s top Court has given the insurers a push to resolving the disputes. The FCA has seized upon the decision with additional guidance that pushes for payouts. Regulatory pressure, the presence of a free Ombudsman scheme and an arbitration arrangement are being combined to resolve these disputes.

The regulator has been hard at work. Seven days after the Supreme Court decision, the FCA sent a Dear CEO letter to the insurers affected. (Available at https://bit.ly/3gSrBm1.) These letters are often precursors of enforcement action, used as a way of justifying fines and other sanctions:

The Court judgments in the test case give all insurers the clarity they need to now conclude their claims processes with the large majority of their BI [business interruption] customers. We encourage all insurers to do so as quickly as possible. In some cases the judgment will mean that previously rejected claims (and complaints) are now valid or that the value of customers’ valid claims will have changed. We expect you to be clear on these points and on your next steps as you write to all your policyholders with affected claims or complaints over the coming week. …

It is essential that insurers reassess and settle claims quickly in the light of the Supreme Court judgment, including making interim payments on policies where the claim has been accepted (either in full or in part) but elements of the calculation or agreement on the final settlement remain outstanding. …

The letter summarizes the Supreme Court’s decision:

  • Cover may be available for partial closure of premises (as well as full closure) and for mandatory closure orders that were not legally binding
  • Valid claims should not be reduced because the loss would have resulted in any event from the pandemic
  • Two additional policy types provide cover, taking this to a total of 14 wordings from the representative sample of 21

The regulator then instructs:

All insurers should promptly reassess all BI claims affected by the test case in the light of the Supreme Court’s judgment, including those previously rejected or not fully paid, … Insurers should ensure that all valid claims are identified and that any necessary adjustments are made to any settlement offers (including full and final offers) that were made but not accepted by customers prior to 15 January 2021.

To treat customers fairly and act in their best interests, insurers should not include the period between 17 June 2020 and the date of issue of the Supreme Court’s declarations when relying on any time limits within which policyholders must make potentially affected claims or take any other step under the terms of their policies, such as notifying circumstances in relation to a claim. Insurers should not limit any payment that may be due to a policyholder because of the time period that has elapsed before the potentially affected claim was made.

We expect all insurers to take a pragmatic, transparent and consistent approach to their interactions with policyholders over remaining evidence and loss adjusting processes that apply to individual claims, rather than these creating additional barriers or delays to paying valid claims. This includes in relation to evidence for proving the presence of Covid-19 for ‘disease’ coverage clauses. …

For affected claims where full and final settlements have been agreed, insurers should review the information provided to customers, to ensure that it was clear, fair and not misleading. Insurers should have informed policyholders about the test case and its implications when an offer to settle a potentially affected claim was made. Where this was done in a way that was clear, fair and not misleading and accurately reflected what the customer might have been eligible to claim had they waited for the outcome of the judgment, so that they could compare it with what they were offered, then the full and final settlement is likely to be binding, unless there are other circumstances suggesting otherwise. Where this is not the case, firms should identify this and consider what further actions are necessary, which are likely to include contacting the affected customer and making any residual payments.

The regulator then expresses concern about how insurers have wrongly deducted government support to businesses and, in line with an August 2020 statement, tells insurers “to individually consider the precise terms of the policy, the claim and how the policyholder applied any government support they received.”

This includes considering the letter exchange between the Association of British Insurers and the U.K. Treasury setting out expectations on government support “and the commitment made by some ABI members not to deduct this government support from [insurers’] claims payments due.”

The Dear CEO letter also has a section on complaints:

Where insurers have policy wordings which were affected by the test case they should reassess all potentially affected complaints, including those they did not fully uphold, unless the complaint has been properly settled on a full and final settlement basis.

This begs the question of what it means to properly settle a case, particularly in the light of the earlier comment about settlement having to be accompanied by communication that is clear, fair, and not misleading. The letter continues,

When reassessing these complaints, insurers should apply the judgments in the test case and:

  • Inform the policyholder promptly of the outcome of the reassessment
  • If the reassessment is for a potentially affected complaint where the insurer has already issued a final response under DISP 1.6.2R, issue a revised final response informing the policyholder that the policyholder has a further 6 months to refer the complaint to the Ombudsman

To treat their customers fairly and act in their customers’ best interests, insurers should not include the period between 17 June 2020 and the date of issue of the Supreme Court’s declarations when relying on any time limits within which policyholders must refer potentially affected complaints to the Ombudsman.

The regulator then ordered insurers to communicate as quickly as possible with people who have made claims potentially affected by the Supreme Court’s ruling to explain what will happen next. They announced a data collection exercise designed to flush out insurers who are not complying with the letter.

The letter finishes with guidance over any subsequent legal proceedings, namely that the insurers should pay the complainants’ reasonable costs (which in the U.K. includes attorneys’ fees) and not seek its own costs from unsuccessful complainants.

Firms will basically have to redo all partial or full claim rejections whether complained about or not. All the timescales for complaining need to ignore the period between June 17, 2020, and Jan. 15, 2021. This is important because there may be time-limits for claiming.

On March 3, the FCA issued its own guidance on how claims should be handled, notably in terms of proving the existence of Covid-19 within the radius of the business set out in the policy. See Financial Conduct Authority, Final guidance: Business interruption insurance test case—proving the presence of coronavirus (Covid-19) (March 3, 2021) (available at https://bit.ly/3t6hBYt). On its Business Interruption Insurance page, there are links to this document, a calculator to be used with claims and the data coming in from the insurers on their claims activities. (Available at https://bit.ly/32XoIrH).

The impact of this story on the Financial Ombudsman Service is difficult to calculate at the moment. There were 488 business protection insurance cases filed in 2020’s last quarter before the Supreme Court decision. (See complaints data at https://bit.ly/3e1HBQF.)

Since the appeal to the Supreme Court seemed inevitable since the start of the case, many referrals to the Ombudsman by affected business would have been delayed until January. A complicating element is that the FOS will only very rarely award costs or attorneys fees in favor of the complainant. DISP 3.7.10G. So, law firms will struggle to be remunerated by going in that direction.

Where Are We Now?

As we saw from the Dear CEO letter, the Financial Conduct Authority is busily chivvying insurers to pay up on their claims in line with the Supreme Court’s decision by bending the complaint rules on time limits and forcing firms to re-open their closed cases.

The Mishcon de Reya group seems to have a group arbitration process agreed to with Hiscox over claims against that insurer. Presumably this is on hold while the firm reconsiders its earlier negative claims decisions in line with the FCA’s Dear CEO Letter. If a substantial number of cases are left, the arbitrators will probably need a team to work through the cases behind the scenes. Otherwise, the procedures could last an awfully long time.

If regulator FCA is unsuccessful in achieving its objectives fairly soon of high pay-out levels, it has the option of starting enforcement proceedings seeking fines and aiming to agree to a compensation package or past business review as a way of mitigating the penalty. Financial Services and Markets Act, Sections 55J & 206. A business review can be ordered in its own right under Section 404 or as a condition of avoiding or mitigating enforcement. Davis v. Lloyds Bank Plc [2021] EWCA Civ. 557 at para. 12 (available at https://bit.ly/3aKxy0s).

The Financial Ombudsman Service and the courts could then be looking at a huge number of cases. One would prefer the FOS to be leading the way here because it can establish an approach to a particular policy wording within the organization and ensure that all decisions are consistent with it.

This would be easier if the Chief Ombudsman’s position had not been open following the recent resignation of the incumbent. (But note recent update with an appointment on the FOS website at https://bit.ly/3484f49.) The track record of the lower courts when dealing with this type of case has not inspired much confidence. So, January’s decision may not be the Supreme Court’s last word on the subject.

Through its March 2021 guidance and its January 2021 Dear CEO Letter, the regulator hopes to prevent a flood of cases either heading to FOS or the courts. By bringing its case, the regulator has made it almost impossible politically for the Ombudsman to reach fair and reasonable results where they differ from the legal position.

It has also compromised its rulebook by no longer being able to insist that firms handle claims fairly when the Supreme Court would allow them to reject claims. Yet, without the Supreme Court’s judgment, the regulator could have been looking at a decade of contested enforcement cases and a potentially overwhelmed Ombudsman scheme unable to perform its usual function of handling cases about things like motor insurance and bank accounts.

Although the underlying facts are unique, this story is an illustration of an idea that has been around for a while. The protection of consumers—and here quite large businesses are actually consumers of the products in question in the ordinary sense of the word—is best achieved by a strange imperfect combination of conduct of business and complaint rules, including proper institutional dispute resolution entities and a regulator prepared to enforce at least the first two sets of provisions if necessary by ordering firms to redo their decisions. Adam Samuel, “Consumer Financial Services in Britain: New Approaches to Dispute Resolution,” 3 European Business Org. L. Rev. 649, 693-694 (2002) (available at https://bit.ly/334m977).

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