Insurance is a contract governed by the doctrine of utmost good faith
Most contracts are governed by the maxim ‘caveat emptor’ or ‘let the buyer beware’. Insurance, however, is governed by the doctrine of utmost good faith, both at common law and by reason of s. 17 of the Marine Insurance Ordinance, which applies both to marine and non-marine insurance policies. One of the reasons for this is the natural imbalance between the insurer and the insured in terms of knowledge. Take simple life insurance, for example. Before the pre-contractual process of disclosure is commenced, the proposer for insurance is in a position to know all about his state of health, previous ailments / operations, family history and his habits such as smoking and exercise. If that person is not obliged to make full disclosure, insurance could not work from the either insurer’s or the insured’s point of view. The insurer initially would only consider offering a policy based on an average person’s life expectation, the premium for which would tend to be too high for the healthy person to contemplate (because he does not expect to die he does not want to pay too much by way of premium), but at a rate that would attract people concerned about their health. The insurer would know therefore that he would only receive applications from bad risk individuals and therefore would not offer life insurance at all. It is to redress this possible fatal imbalance that the duty of good faith has subsisted. Under it, the insured is obliged to disclose to the insurer before the contract is made all matters that are material to the decision the insurer takes as to whether to offer to insure at all and, if so, on what terms. The same goes for representations made to the insurer – these must not be materially incorrect. Breach of this duty, which generally ends when the contract is made, can be catastrophic for the insured. The insurer has no right to claim damages for a breach of the duty – his only option is to avoid the policy ‘ab initio’, which is to say he treats himself as never having been on risk. This means: 1. All claims the insurer has already paid under the policy before he learned of the non-disclosure or misrepresentation can be reclaimed by the insurer; 2. The insurer has no liability to pay any further claims as they arise; 3. The insurer returns the premium paid, unless the non-disclosure/misrep was fraudulent, in which case the insurer can keep the premium; 4. It does not matter whether the non-disclosure or misrepresentation was deliberate, negligent or innocent, the insurer can avoid the policy; 5. It does not matter whether the fact that was not disclosed or misrepresented has nothing to do with the claims that have arisen – as long as the matter would have affected the decision of the insurer (and the reasonably prudent insurer) at the time the policy was written, the insurer can avoid. So if a property is protected against fire and burglary, and the insured misrepresented at inception that the property had a burglar alarm, the insurer can avoid even if the property is never burgled but suffers damage as a result of an accidental fire; 6. Legally, it does not matter that the insurer has not asked for the specific information from the insured in the pre-contractual negotiations, although if he has not there are arguments of waiver. The drastic consequences of non-disclosure / misrepresentation have attracted much criticism, and indeed the Law Commission of England and Wales has recently suggested changes to the law to alleviate the worst perceived inequities, in particular in relation to innocent non-disclosures. If these proposed changes are adopted in England, as they have been in Australia and other common law countries, this will leave Hong Kong as one of the most insurer-friendly legal jurisdictions remaining.
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