A New Insurer Risk – contractual liability for breach of the General Insurance Code of Practice

The General Insurance Code of Practice (Code) is undergoing reform to expand its scope and to include proposed changes that strengthen consumer protections, accountability and enforceability of the Code.

The Insurance Council of Australia (ICA) released a draft Code in June this year for public consultation which ended in July and has numerous submissions from insurance industry stakeholders have been submitted (Draft Code).

The is currently in the process of seeking ASIC approval of the redrafted Code and current expectations are that it will be released shortly in or about October.

The ICA has summarised the changes which are designed to strengthen consumer protections and clarify insurer obligations, as:

• Legal enforceability

Pending ASIC approval, the Insurance Code will form a part of retail consumer contracts (except the Principles and Section 10 on Enforcement) — making it legally enforceable as part of an insurance contract for the first time.

• Automatic claim acceptance after 12 months  

Home and motor claims will be automatically accepted after 12 months where no decision has been made, subject to defined exceptions.

• Vulnerable customers – a new circumstances-based definition of vulnerability and Extra Care

A circumstances-based definition of vulnerability and a new Extra Care framework setting out additional support and flexibility for vulnerable customers.

• Broader family violence protections

The definition now covers family and domestic violence, including financial abuse and coercion, with key protections becoming contractually enforceable obligations.

• Better, trauma-informed claims experiences

Enhanced expectations for trauma-informed claims handling and strengthened requirements for primary points of contact and cash settlements.

• Higher best practice standards for expert reports 

New obligations for insurers and external experts to comply with the ICA’s Expert Report Best Practice Standard.

Legal Enforceability

This article considers the implications for insurers of legal enforceability of the Insurance Code which will form a part of a retail insurance contract under the current version of the Draft Code.

The enforceability changes arise as a result of recommendations which first arose in the Financial Services Royal Commission to make the Insurance Code legally enforceable. The options suggested at that time were to create designated “enforceable code provisions” approved by ASIC in the Code or by making the entire code mandatory under legislation.

Amendment to the Current Code

Under the proposed reform the Draft Code adds new paragraph 21 is added which provides:

“All paragraphs under Section 1 to Section 9 of the Code which apply to your policy (see paragraphs 4 to 6 above) form part of your contract with us. We will include a term in your policy that requires us to comply with those paragraphs of the Code.”

The effect of this change is:

• the Draft Code (Sections 1 to 9) will apply to a policy falling within the description in Section 1 paragraphs 4 to 6 (Code Policies).
• Code Policies include:
  • Retail Insurance as defined – to which Sections 1 to 9 apply
  • Wholesale Insurance as defined – to which Sections 5, 6, 8, 9 and 10 apply.
• Those sections of the Draft Code (Code Terms) form part of the insurance contract between the policyholder / insured and the insurer.
• The Draft Code mandates that the insurer must include a term in the policy that requires the insurer to comply with the Code Terms.
• Paragraph 22 of the Draft Code provides that if an insurer breaches the Code Terms then the insured / policyholder will have legal rights to enforce those Code Terms as part of the insurance contract, unless the exceptions in paragraph 23 apply.
• What is in the Draft Code is not a condition or warranty of the policy – paragraph 22(b) Draft Code.
• Exemptions exclude liability for indirect or consequential loss and to the extent any loss was caused by the policyholder’s failure to comply with their obligations and responsibilities under the policy, the law, or the Draft Code, including their duty to mitigate loss.

Paragraph 24 of the Draft Code deals with the legal consequences of a breach of the Code Terms and provides that an insured / policyholder (as the case may be) has a number of legal options to enforce their rights under the policy by:

• making a Complaint through the insurer’s complaints process
• making a Complaint to the Code Governance Committee
• making a Complaint to the Australian Financial Complaints Authority (AFCA); or
• to take a legal action in court for breach of contract.

Consequences of Breach under the Draft Code

A breach by an insurer subscribing to the Draft Code of a provision designated as enforceable, constitutes a breach of contract, as well as a breach of the Draft Code.

However, enforceable code provisions (Code Terms) are designed to supplement (not replace) existing legal and contractual remedies available to consumers under the Insurance Contracts Act 1984, the Australian Securities and Investments Commission Act 2001, and the Corporations Act 2001 (financial services regulatory regime).

The Draft Code provides that where an employee, distributor, service supplier or claims fulfilment provider does not comply with a Code Term when they are acting on an insurer’s behalf, then this will constitute a breach of the Draft Code by the insurer (paragraph 25 Draft Code).

Therefore, conduct of those third parties which gives rise to a breach of the Code Terms may result in consequential contractual liability under the insurance contract.

However, where third-parties, including a Third-Party Beneficiary, is covered by the Draft Code, they are not party to a policy with the insurer, and do not have legal rights to contractually enforce the Draft Code (paragraph 26 Draft Code).

Nature of the new risk

Legal enforceability of the Code Terms will coexist with, and not override, rights and remedies provided by the broader legislative framework, and it is likely that disputes regarding breaches of the Draft Code will generally proceed through established complaint mechanisms.

However, contractual enforceability of the Code Terms will expand the legal risk of subscribing insurers, as a breach of a Code Term may give rise to contractual and other legal remedies.

This marks a substantive increase in regulatory and commercial risk compared to  the current voluntary commitment of an insurer to comply with the existing Code. Contractual enforceability carries associated reputational risk for non-compliance with the Code Terms if the matter it litigated.

Practically, the reform adds a layer of legal exposure and reputational risk that did not previously exist.

This risk is potentially compounded given that legal exposure and liability under the insurance contract may extend to associated conduct of an insurer’s underwriters, distributors, and third-party supply chains.

Such risk exposure will impact on operational infrastructure and governance process such as:

• external governance of outsourcing, distribution and supply chains; and
• internal governance of organisational culture, prudential frameworks, and risk management focussed on insurer conduct and consumer trust.

The adoption of contractual enforceability provisions in the Draft Code signals a harmonisation of the regulatory approach already evident in the Banking Code of Practice (Banking Code) which has a specific enforceability mechanism. It mandates that a Bank must include a statement to the effect that the relevant provisions of the Banking Code apply to all Banking Services or guarantees, thus making the Banking Code provisions contractually enforceable by customers.

In this regard, in the future, if approved, the impact of the Draft Code may play out like the Banking Code.

In the banking sector there have been very public examples where these terms have extended a bank’s duties to its customers, particularly in the context of guarantees and credit assessment methods and which have given rise to contractual remedies where banks have faced regulatory and reputational consequences for Banking Code non-compliance. Non-compliance with the Banking Code may render a contract, such as a guarantee, void.

Further, Draft Code may ultimately introduce an alternative legal route where customers (policyholders) may prefer to enforce certain requirements under the Draft Code through the courts, as opposed to enforcing them through established complaint mechanisms such as General Insurance Code Governance Committee or AFCA.

Ultimately where the Code Terms form part of the insurance contract, it introduces new product risk.

Indications are that the Draft Code will be approved in late October however this timeline has slipped in the past. The ICA currently contemplates a 24-month transition period before commencement of the Draft Code.