Draft legislation has recently been released to implement the recommendations of the Royal Commission relating to changing – for most new life insurance contracts – the duty of disclosure and the avoidance regime provided by s29(3) Insurance Contracts Act 1984 (Cth) (the Act).
On 1 February 2019, the Honourable Kenneth Hayne AC QC submitted the final report on the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry (the RC). The report was tabled in the Australian Parliament on 4 February 2019, with the Government agreeing to take action on all
76 recommendations contained in the report.
On 31 January 2020, the Government released draft legislation to implement some of the RC’s recommendations, which will be introduced into Parliament by mid-2020. Included was the exposure draft legislation in respect of recommendations 4.5 and 4.6 – that is, the ‘Duty to take reasonable care not to make a misrepresentation to an insurer’ and ‘Limiting avoidance of life insurance contracts’, respectively.
Although the draft legislation in respect of recommendation 4.5 applies to both general and life insurance, this article only deals with the amendments as they apply to life insurance.
Recommendation 4.5 – Duty to take reasonable care not to make a misrepresentation to an insurer
The RC concluded that the current duty of disclosure does not recognise the gap between what a consumer knows and what an insurer knows is relevant to the decision of the insurer whether to accept the risk and, if so, on what terms. Instead, the RC considered that a duty to take reasonable care not to make a misrepresentation to an insurer is more appropriate for consumer contracts of insurance, as it places the burden on an insurer to elicit the information it needs and does not require the consumer to surmise or guess what information might be important to an insurer.
The new duty
In accordance with the RC’s recommendation, the draft legislation proposes to insert a new section 20B into the Act which places on an insured (including a life insured) a duty to take reasonable care not to make a misrepresentation to the insurer before the relevant contract of insurance is entered into. The duty also applies to a life insured under a group life contract (which is likely to include a life insured under a policy owned by an SMSF) that is a consumer insurance contract, but does not apply to a superannuation fund trustee who will continue to be subject to the existing duty of disclosure.
The new duty replaces the existing duty of disclosure but only in respect of ‘consumer insurance contracts’ (CICs) and proposed contracts of insurance that, if entered into, would be a CIC. The existing duty of disclosure will continue to apply to any other contract of insurance or proposed contract of insurance.
What is a CIC?
A contract of insurance is a CIC if the insurance is obtained wholly or predominantly for the personal, domestic or household purposes of the insured (as set out in the proposed new section 11AB). Interestingly, if it is alleged in a proceeding that a contract of insurance is a CIC, it is presumed to be true unless the contrary is established.
Factors to be taken into account when considering whether the duty has been discharged
For CICs, whether an insured has taken reasonable care not to make a misrepresentation is to be determined with regard to all the relevant circumstances, including, but not limited to, the following:
- The type of CIC in question, and its target market – for example, an insured entering into a CIC for which they were not part of the target market may have a lower standard of care, as would an insured entering into a CIC after speaking to the insurer in person before applying online, as the insured may have told the insurer about certain matters in person and not repeated them in their application
- Explanatory material or publicity produced or authorised by the insurer – the Explanatory Materials suggest that the provision of easily comprehensible, accessible material by the insurer that explains the specific CIC in question would generally result in the insured’s duty being lowered, but we suspect this is an error as the example provided in the Explanatory Materials suggests otherwise
- How clear, and how specific, any questions asked by the insurer were – for example, it would generally be more difficult for an insured to answer compound questions that are open-ended, general or long, or questions that are difficult to understand or interpret
- How clearly the insurer communicated the importance of answering those questions and the possible consequences of failing to do so – the current notice requirement in s22 of the Act will not apply to CICs, but if the communication of the new duty is clear and effective (be it verbal or non-verbal), this will generally result in a higher standard of care, and
- Whether an agent was acting for the insured – the Explanatory Materials say that the appointment of an agent by the insured does not, of itself, change the insured’s duty but, depending on the nature of the agent’s involvement, may be evidence that the insured has taken reasonable steps to fulfil their duty. Presumably, if the agent has been involved, an insured may have disclosed information to the agent that they therefore did not include in their application form and the insured would therefore have a lower standard of care.
The Explanatory Materials provide that in considering these and any other relevant factors, it should generally be assumed that the insured is an ‘average person’ with no special skills or knowledge.
Section 20(B)(4) of the draft legislation states that any particular characteristics or circumstances of the insured of which the insurer was aware, or ought reasonably to have been aware, are to be taken into account in determining whether an insured has taken reasonable care not to make a misrepresentation. For example, where it is apparent on a telephone call that a prospective insured has Alzheimer’s Disease, this would lower the standard of care to discharge that insured’s duty. On the other hand, if a prospective insured is dyslexic but there is no reason the insurer ought to have been aware of this, this would not lower the standard of care required to discharge the duty.
The current s21(3) is repeated in part in the new s20B to the effect that the insured will not be taken to have made a misrepresentation merely because they failed to answer a question or gave an obviously incomplete or irrelevant answer to a question.
Timing of the amendments
The amendments will apply to contracts of life insurance that are:
- Entered into on or after 5 April 2021, and
- Entered into before 5 April 2021, but varied after that day to increase a sum insured or provide additional kinds of insurance cover, to the extent of the variation (provided the variation isn’t an automatic variation).
The date of 5 April 2021 will align with the date of application of the Design and Distribution Obligations and the proposed date of application of the unfair contact terms regime for insurance contracts.
Recommendation 4.6 – Limiting avoidance of life insurance contracts
The RC concluded that the current regime for avoiding contracts of life insurance is unfairly weighted in favour of insurers and recommended that the Act be amended to limit the circumstances in which an insurer can avoid a life insurance contract on the basis of non-fraudulent misrepresentation or non-disclosure by an insured.
The current avoidance regime
Currently, s29(3) of the Act allows a life insurer to avoid a contract of life insurance within three years of entering into the contract, if the insured failed to comply with their duty of disclosure and the insurer would not have entered into the contract had proper disclosure occurred. Accordingly, an insurer can currently avoid a contract of life insurance where, had it known of the non-disclosed information, it would still have entered into a contract of life insurance with the insured, just on different terms.
The draft legislation seeks to restore the pre-2013 wording of sub-s29(3) of the Act such that an insurer cannot avoid a contract unless it can demonstrate that it would not have entered into a contract of life insurance on any terms with the insured had proper disclosure occurred.
The Explanatory Materials do not squarely address the issue of whether the phrase ‘a contract of life insurance on any terms’ means any contract of life insurance, or, alternately, a contract of the type under consideration.
Timing of the amendments
The amendments will apply to:
- Contracts of life insurance entered into after the Act is amended, and
- Contracts of life insurance entered into before the commencement which are varied after that day to increase a sum insured or provide additional kinds of insurance cover, to the extent of the variation (provided the variation isn’t an automatic variation).
We consider that the proposed amendments to the Act will have the following significant ramifications:
- Insurers should review application forms to ensure that the questions asked are specific, clear and unambiguous – and ‘cover the field’ in respect of matters that are relevant to their decision whether to accept the risk and, if so, on what terms.
- Insurers should also ensure that their communications with insureds and prospective insureds (verbal and non-verbal) regarding the new duty are clear and specific. Again, this will serve to maintain the standard of the new duty.
- Before considering whether or not an insured has complied with their duty to take reasonable care not to make a misrepresentation, all factors surrounding the entering into of the contract will need to be considered.
- It appears that a trustee of a superannuation fund will have a more extensive duty than its members, with a trustee being bound by the existing duty of disclosure and the members being bound by the new duty to take reasonable care not to make a misrepresentation to an insurer.
- Avoidance for a non-fraudulent omission or misrepresentation within three years of the contract being entered into will only be available where the insurer would not have entered into ‘a contract of life insurance on any terms’ had it known of the information omitted or misrepresented. In circumstances where the insurer would have entered into a contract on different terms, it will remain open to the insurer to vary the contract under ss29(6) and (7) of the Act.
February 5, 2020
Further information / assistance regarding the issues raised in this article is available from the authors, Catherine McAdam, Partner and Jessica Thurtell, Senior Associate, or your usual contact at Moray & Agnew.