Updated: Nov 15, 2021
There is nothing more important than how an insurance policy responds to a claim against that policy. It validates the policy’s existence.
But determining how the policy responds involves more than matching the claim which has been submitted, to the relevant policy wording’s terms.
It is an implied term of a contract of insurance that the parties will act towards each other with the utmost good faith. Determining how the policy responds involves both parties to the contract discharging their duty of utmost good faith. The submission of the claim, the response to that submission and their attendant tasks must be carried out with the utmost good faith.
The failure to observe this obligation can have drastic consequences.
But what is the obligation and what are the consequences if that obligation is breached?
The Federal Court of Australia has recently written authoritatively about the duty of utmost good faith in this very context.
In late March 2017, Cyclone Debbie inflicted significant damage along the north Queensland Coast.
At the time Delor Vue held an insurance policy with Allianz. It submitted a claim for indemnity in respect of losses suffered in the cyclone.
On 9 May 2017, Allianz granted Delor Vue indemnity in respect of its losses, to be adjusted. Allianz wrote to Delor Vue in the following terms: -
‘Despite the non-disclosure issue which is present, Strata Community Insurance (SCI) is pleased to confirm that we will honour the claim and provide indemnity to the Body Corporate, in line with all other relevant policy terms, conditions and exclusions.’
Some twelve months later, after working with Delor Vue to adjust the value of the claim, Allianz resiled from its decision to grant indemnity and offered to settle the matter with Delor Vue on a ‘take-it-or-leave-it’ basis.
Delor Vue brought proceedings against Allianz seeking to hold it to its decision to grant indemnity.
Those proceedings included an allegation that, in resiling from its decision to grant indemnity and proposing to settle the matter on the terms which it proposed, Allianz had breached its duty of utmost good faith.
The Federal Court found in the Delor Vue’s favour.
The Duty of Utmost Good Faith
In Australia, most insurance contracts are governed by the Insurance Contracts Act 1984 (Cth).
Section 13 of that Act provides as follows: -
‘(1) A contract of insurance is a contract based on the utmost good faith and there is implied in such a contract a provision requiring each party to it to act towards the other party, in respect of any matter arising under or in relation to it, with the utmost good faith.
(3) A reference in this section to a party to a contract of insurance includes a reference to a third party beneficiary under the contract.
(4) This section applies in relation to a third party beneficiary under a contract of insurance only after the contract is entered into’
But what is the content of that duty?
In CGU Insurance Ltd v AMP Financial Planning Pty Ltd (2007) 235 CLR 12, Gleeson CJ and Crennan J wrote the High Court stated the duty to involve the following.
‘We accept the wider view of the requirement of utmost good faith adopted by the majority in the Full Court, in preference to the view that absence of good faith is limited to dishonesty. In particular, we accept that utmost good faith may require an insurer to act with due regard to the legitimate interests of an insured, as well as to its own interests. The classic example of an insured's obligation of utmost good faith is a requirement of full disclosure to an insurer, that is to say, a requirement to pay regard to the legitimate interests of the insurer. Conversely, an insurer's statutory obligation to act with utmost good faith may require an insurer to act, consistently with commercial standards of decency and fairness, with due regard to the interests of the insured. Such an obligation may well affect the conduct of an insurer in making a timely response to a claim for indemnity.’
Applying that principle to the facts of this case, the Federal Court said: -
‘It is not appropriate to seek to define the standard within s 13. It is a normative standard involving the considerations referred to in CGU v AMP in the High Court and in the Full Court. Description of elements and circumstances better illuminate the standard involved. The expression of Gleeson CJ and Crennan J of a “commercial standard of decency and fairness” is, for these circumstances, most apt.’
The duty of Utmost Good Faith is an obligation to meet a commercial standard of decency and fairness.
The Federal Court held that Allianz had failed to meet the duty of utmost good faith it owed the Insured by: -
revoking its earlier and informed decision to grant indemnity; and
offering to settle the Insured’s claim on a ‘take-it-or-leave-it-basis’.
The Consequences of a Breach the Duty of Utmost Good Faith
Allianz’s breach of its duty of utmost good faith was a breach of the term of the contract of insurance.
Allianz was therefore exposed to an injunction preventing it from relying upon the provisions of the Insurance Contracts Act which it had argued entitled it to deny the Insured indemnity.
In some circumstances. it might be arguable that the insurer is liable for damages for breach of contract also.
Allianz’s breach was also a breach of the Insurance Contracts Act.
Since the facts of this case, the penalties for breaching the duty of utmost good faith have become more onerous.
A breach now attracts a maximum penalty unit of $550,000.
General Insurance Code of Practice
Finally, there is the General Insurance Code of Practice which sets the standards for handling claims under retail policies
It can expose insurers to penalties imposed by the Code Governance Committee where the insurer fails to meet those standards.
The Federal Court has just reminded the insurance industry that the duty of utmost good faith in the context of claims handling is relevant. The penalties and consequences for failing to discharge that duty are significant and are becoming even more so.
This is something to which insurers, insured and even third-party beneficiaries should be very alive. There is now a real joker in the pack.
The name of the case is Delor Vue Apartments CTS 39788 v Allianz Australia Insurance Ltd (No 2)  FCA 588.
______________________________  There were known defects.  SCI is an underwriting agency supported by Allianz.  There are some exclusions to the Insurance Contracts Act.  a motor vehicle insurance product, a home building insurance product, a home contents insurance product a sickness and accident insurance product, a consumer credit insurance product a travel insurance product or a personal and domestic property insurance product.