Insurer's right to reject coverage due to the Insured's negligent conduct
Fraudulent conduct by an insured is much more difficult to establish than gross negligence. The Insurance Contract Act permits insurers to reject claims in the event of gross negligence in the following instances:
- On an insured's misrepresentation of the risk to be insured
- Where there is inaccuracy in the notification of the loss on a failure to mitigate the consequence of the
Loss
- In theft and fire insurance, coverage can be rejected if the loss was due to the gross negligenc
(culpa in vigilando) of the Insured.
However, Spanish courts have relaxed the application of these principles. Usually, they find that it is only fraud by the insured that entitles insurers to decline liability under the policy. The court's main reason for requiring fraud, instead of gross negligence is for the protection of the insured. In life insurance, rejection of coverage is only possible in fraudulent conduct cases, even under the Insurance Contract Act. In other jurisdictions, there is a distinction between fraud, gross negligence and ordinary negligence, establishing three separate levels of liability. In Spain, the definition of fraud is clear and simple: the insured must act with bad faith in trying to increase the exposure of insurers.
The definition of negligence is not in the Insurance Contract Act but in the Civil Code. Negligence is defined as “the omission of due diligence needed according to the nature of the obligation, the moment, time and circumstances of those involved. When the obligation does not specify the level of diligence needed, it will be that expected from a sensible head of family”. Ordinary and gross negligence are not distinguished. The Supreme Court confirms that every case must be individually examined in order to determine the level of diligence needed. Once established, the Court can then determine whether the negligence was ordinary or gross, depending on its consequences.
However, the criterion being followed by the courts is far from consistent. In a recent instance, the Court of Appeal of La Coruña ruled that the non-disclosure of an insured, whose daughter was under 25 years old and was going to be the regular driver of the insured vehicle, allowed the insurers to reject the coverage. But there is contrary case law on very similar facts, on the basis that this situation is an inadvertent omission in the proposal form, not giving insurers the right to reject coverage. It is worthwhile noting that, even in cases where the existence of fraud or sufficiently convincing gross negligence has been proved to the court, insurers will have to overcome a second hurdle prior to being entitled to reject the claim. They will have to prove that the conduct of the insured caused a direct and quantifiable loss under the terms of the policy.
Statutory insurance law and related case law in Spain are based on the principle that it is necessary to protect the insured as the weaker party of the contract. It does not seem reasonable though, that the protection the insured enjoys in Spain prevents the pursuit of insurance fraud. It would be better for all parties involved if steps were taken to establish a system where the parties’ intentions when entering the contract, and the contract itself, were given greater priority by the courts when considering claims.
Solvency II
After seven years of deliberation, the Solvency II EU directive was approved in May 2009. The directive has to be transposed to local legislation by 31 December 2012. The director of the Internal Market Insurance Unit stated that it was a “miracle” the directive was finally approved this year, possibly because of the current economic situation.
The main objective of Solvency II is to modernise current insurance rules. Solvency I has been in place for over 30 years and needed to be updated, as it does not respond to new risks that insurers encounter nowadays. The new legislation is, to the insurance market, what Basel II was for the banking sector.
There are three main aspects that will be improved by the directive:
- Protection of the insuredInsurer efficiency
- Market transparency.
The three pillars
To accomplish its objectives, the directive is based upon three pillars:
Quantitative
The quantitative pillar regulates the capital an insurer needs to face unforeseen situations. The regulation does not raise the capital requirement, but it tries to adapt these requirements according to each insurer’s needs. Generic capital requirements are no longer used; this directive is a step towards a personalised model that allows the companies to have improved risk management processes, adjusting their reserves to each particular case.
Supervisor review
The intention of the supervisor review pillar is to improve the management of insurers trying to focus on corporate responsibility and seeking the self-regulation of the sector. Insurers will have to submit their own management plans that will be subject to the supervision of the local authorities.
Disclosure
The disclosure requirements pillar seeks to reinforce transparency by improving the quality and amount of information insurers will have to provide to clients and local supervisors.
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The implementation of these three requirements will be difficult. That is why 30 of the top European insurance companies will have to face a stress test during 2010 to check their solvency levels.
The future
It is expected that one of the effects Solvency II will have on the insurance sector is higher market concentration, because some smaller insurers will not reach the new solvency requirements and could be bought by larger insurers or forced to merge with other companies. In Spain, 300 insurance companies operate in the non-life sector. However, it is controlled by 15 companies that have a 63% share of the market.
Local supervisors are strengthened by this directive, which also tries to encourage collaboration between insurers and local supervisors. However, the main objective of Solvency II is to improve the internal management of insurers, making supervision easier for local regulators.