This blog post presents a condensed version of her article in the October 2017 issue of the British Insurance Law Association Journal, which in turn built on her undergraduate dissertation. It considers whether micro-businesses are adequately protected under the UK’s insurance law regime as it applies to non-consumers. The full article can be found here (£).
The duty of disclosure played a fundamental role to the conclusion of all types of insurance contracts. Codified by the Marine Insurance Act 1906 (the 1906 Act), it was designed on an assumption that it is the policyholder that possesses the relevant knowledge of risks and, therefore, it is him that should volunteer the information about those risks to the insurer. Failure to provide sufficient information would result in a great ordeal for an insured. Namely, in cases of a breach of the duty of disclosure the insurer was entitled to invoke a ‘Draconian’ remedy of avoidance, which allowed the contract to be rescinded altogether. Problematically to the insured, there was no clear guidance of how much information had to be provided to satisfy the duty of disclosure in any particular case.
However, long gone are the days since insurance contracts were concluded exclusively by merchants at the Lloyd’s Coffee House. With passing years, insurable risks have evolved and so did the types of insureds. In 2002, the British Insurance Law Association’s report called for the need to change an archaic law and marked the beginning of the joint Law Commission’s and the Scottish Law Commission’s reform project. The enactment of the Consumer Insurance (Disclosure and Representations) Act 2012 (the 2012 Act) separated consumer and non-consumer insurance contract law regimes in the UK, abolishing the duty of disclosure for consumers. (By “consumer”, this roughly means someone acting outwith the scope of a business, for personal purposes.) A duty of fair presentation was retained for non-consumer policyholders under the Insurance Act 2015 (the 2015 Act).
The division of the two regimes is an important change. It was rationalised by the perceived need to protect vulnerable consumers who did not understand the extent and implications of the ‘original’ duty of disclosure. Echoing similar line of argumentation, the Law Commissions suggested that micro-businesses should also be included in the consumer regime. This blog post, and the related article, explores whether it was correct for the law that was enacted not to reflect this initial proposal about micro-businesses.
What is a micro-business?
For the smallest businesses to be placed within the consumer insurance contract law regime, the term ‘micro-business’ has to be clearly defined (see Locke Lord LLP, Publication of responses to Law Commission’s proposals concerning micro-businesses).Up until 1971, the denotation of a ‘small firm’ was shrouded in mystery. The Bolton Committee’s findings demonstrated that there is no uniform definition of a small firm, as any such definition would depend on the sector that the business operates in. Therefore, instead of defining the term, the Committee resorted to providing indicative criteria, characterising what a small business would look like.
However, the initially cautious approach to defining a small firm has significantly evolved since that time. Modern company law demonstrates that a workable ‘micro-business’ definition may be found in a number of legislative initiatives aimed at micro-businesses. Examples range from exemptions from accounting requirements or VAT registration to business rates relief. It is noteworthy that by virtue of Section 33(2) of the Small Business, Enterprise and Employment Act 2015, the legislature provided policymakers with a statutory ‘template’ for a micro-business definition. It follows that, in practice, disparities between micro-business definitions in different regulations will remain prevalent.
A subtle distinction must be drawn between designing regulatory measures that would specifically target issues relating to micro-businesses and fitting micro-businesses neatly in the consumer insurance contract law regime. While the former legislation would be modelled according to micro-businesses’ needs, the latter would focus on the needs of consumers. Whilst there is no perfect micro-business definition, it is submitted that a workable definition would have been found if there was enough support for the policy choice at stake.
Why should micro-businesses be treated as consumers?
There are a number of reasons why treating micro-businesses as consumers may appear as a rational decision in the insurance contract law context. Firstly, they share similar characteristics, including: lack of sufficient knowledge of insurance products; bargaining power; and availability of time and financial resources. The Law Commissions acknowledged this, stating: “Most micro-businesses are hardly, if at all, more sophisticated than consumers. Most are sole proprietorships, have relatively small turnovers and have no more experience in buying insurance than consumers” (see Law Commission, Issues Paper 5: Micro-Businesses Should micro-businesses be treated like consumers for the purposes of pre-contractual information and unfair terms? (April 2009), para 4.3). As the policymaker should treat like cases alike, honouring the principle of normative coherence, the argument is born for including micro-businesses in the consumer regime.
Secondly, even though the insurance industry’s practice has evolved to favour weaker parties to the contract, such practice is non-obligatory and far from uniform. The existence of the Financial Ombudsman Service (FOS) does provide an additional safeguard for the interests of micro-businesses interests, but while it is a transparent and robust service for informal dispute adjudication, it does not treat micro-businesses as consumers for all intents and purposes. Therefore, the existence of the FOS does not negate any need for a statutory insurance contract law reform. Its role can more properly be regarded as supplementary or complementary.
Is it better for micro-businesses to be treated as consumers after all?
Despite the fact that micro-businesses and consumers share similar traits, before accepting the right policy choice, one must always look into a broader context of the reform. An important consideration in this respect is legal certainty, which is the leading guiding principle of the design and implementation of the UK’s commercial law. When the Marine Insurance Bill was presented to the House of Lords, Lord Herschell quoted Willes J in Lockyer v Offley:
As in all commercial transactions the great object is certainty, it will be necessary for this Court to lay down some rule, and it is of more consequence that the rule should be certain, than whether it is established one way or the other. The belief is that business people would rather have a clear rule that might operate harshly and against their interests in a particular case than an unclear rule designed to produce a fair and equitable result in each case but that might require a lengthy and costly process to apply.
This statement captures the very essence of the approach taken by the legislator in the insurance contract law context. By including micro-businesses in the consumer regime, the Law Commissions would have risked jeopardising legal certainty, as there are fundamental differences between the groups that cannot be discounted when deciding on an effective policy choice.
Firstly, if one is an individual acting in a private capacity, such an individual will remain a consumer irrespective of significant changes to his personal circumstances (for example, a deteriorating health condition). In contrast, in less than a year, the smallest business may flourish to fall outside the scope of the ‘micro-business’ definition and therefore the consumer regime altogether.
Secondly, a diverse group of consumers applying for the same insurance product will usually face very similar risks. However, businesses with similar number of employees or financial turnover are likely to be exposed to greatly varying hazards. This means that standardised questionnaires that allow gathering relevant information about individuals would not work with regard to different business practices.
These differences reinforce the idea that micro-businesses do not belong in the consumer insurance contract law regime. In fact, even though the initial proposal seemed attractive at first glance, in practice, it would have resulted in financial drawbacks to micro-businesses. As insurers would be exposed to greater risks for covering the smallest businesses, the logical response would be raising premiums or withdrawing the service altogether. Adopting legislative measures only makes sense if they achieve their pursued aims. Thus, with micro-businesses facing higher overall costs for obtaining insurance cover, treating them as consumers is not justified.
The initial proposal to extend consumer insurance contract law regime to include micro-businesses was primarily based on the criticisms relating to the harsh operation of the duty of disclosure under the 1906 Act. The final part of the article assessed whether the Insurance Act 2015 could constitute a flexible and well-balanced package that can effectively address the needs of different non-consumer insureds.
One size does fit all
According to the Law Commissions, in order to understand the main difference between consumer and non-consumer insurance contracts, it is crucial to consider the rules on “contracting out” (see Law Com No 353, 2014 para.6.22). That is the process whereby certain legal rules can be avoided by agreement between the parties. The 2012 Act created a mandatory regime for consumers, meaning that the insurer is not allowed to put the insured in a worse position than provided by the law. In direct contrast, the duty of fair presentation is part of a default regime. However, for any contractual alterations to be legal, the Law Commissions imposed two transparency requirements on the insurer: it must take sufficient steps to draw the relevant term to the insured’s attention before the conclusion of the contract; and the term has to be clear and unambiguous. Whether the requirements have been satisfied would be assessed in the light of the characteristics of a particular insured. Therefore, in principle, the less sophisticated the business, the stronger the obligation on the insurer to address any contractual deviations from the 2015 Act. Accordingly, micro-businesses are catered for in the 2015 Act, to a certain extent.
In addition, the ‘all or nothing’ avoidance remedy that came into play with the duty of disclosure was subject to significant criticism. The introduction of the proportionate remedies scheme in the 2015 Act was perceived as the most significant change to the old rules. Section 8 of the 2015 Act lays down qualifying breaches that would allow the insurer to use a number of remedies set under Schedule 1. The article further discussed the main differences between the non-consumer and consumer remedies schemes, concluding that the 2015 Act places micro-businesses in a far more favourable position than the old law as found in the 1906 Act and the likelihood of losing a significant claim is lower than ever before.
Insurance contract law in the UK has undergone a revolutionary change. The short-lived attempt to include micro-businesses in the consumer contract law regime reconfirmed the importance of legal certainty in the UK’s commercial law context. The Law Commissions retreated from their initial proposal because of two main reasons. Firstly, there was no agreement on an acceptable definition of a ‘micro-business’. Secondly, there was insufficient evidence of a systematic problem that would justify such policy choice. It was demonstrated that while the arguments for including micro-businesses in the consumer regime create a seemingly obvious rationale for adopting this policy choice, unravelling them in more depth has proven that such decision would be counter-productive. Therefore, the outcome of the insurance contract law reform is pragmatic. The Law Commissions designed a flexible and balanced package in the form of the 2015 Act, which would allow treating different types of business insureds according to their sophistication levels.