Federal Court provides guidance on insurers' duty of utmost good faith 7 min read
Just as offices were closing for summer holidays at the end of 2023, Justice Jackman of the Federal Court handed down judgment in ASIC v Zurich Australia Limited (No 2) [2023] FCA 1641. In a significant decision, his Honour found that OnePath Life Ltd (OnePath) – which has since been acquired by Zurich Australia – did not breach its duty of utmost good faith under s 13(1) of the Insurance Contracts Act 1984 (Cth) (the ICA).
The judgment provides useful guidance on s 13(1) of the ICA and the circumstances in which an insurer might be found to have contravened the duty when considering or asserting its right to avoid a policy on the grounds of fraudulent non-disclosure.
The case is also indicative of ASIC's heightened scrutiny of insurers, with elevated levels of enforcement activity expected to continue throughout 2024 and beyond. For more information on ASIC's enforcement record and priorities, see our Insurance Regulatory Risk Report 2023.
Key takeaways
General principles
The Court's consideration of s 13(1) of the ICA provides a timely reminder of its key requirements. While the duty applies both to insurers and insureds, Jackman J reaffirmed (in relation to the content of an insurer's obligations) that:
- the duty may require an insurer to act 'consistently with commercial standards of decency and fairness, with due regard to the interests of the insured';
- a lack of honesty is not a prerequisite to breaching the duty (with capricious or unreasonable conduct also capable of giving rise to a breach);
- the duty is not an independent one, but rather conditions how an insurer's contractual rights, powers and obligations are to be exercised; and
- the content of the duty will depend on the factual circumstances of the case.
Application of duty to fraudulent non-disclosure
There is no doubt that the duty has real teeth in the right circumstances. It is one of utmost good faith, which has been held to require more than mere good faith and usually some form of affirmative or positive action. With that said, Jackman J's reasons suggest it cannot be stretched too far. This includes, in the setting of an insurer's decision to avoid a policy for non-disclosure, imposing on the insurer a duty to:
- make further enquiries to resolve inconsistent accounts, when an obvious conclusion of non-disclosure was open to the insurer on the face of the documents;
- put express allegations of fraud to an insured before avoiding a contract on the basis of fraudulent non-disclosure; and
- identify appeal and review rights to an insured in circumstances where the insured is legally represented.
Significance of correspondence with the insured
In finding there was no breach of duty in this case, the Court had regard to the content of a 'procedural fairness' letter sent by OnePath to the insured. In doing so, the Court emphasised that – when considering whether to avoid a policy for fraudulent non-disclosure – an insurer ought to: (i) identify to the insured those representations the insurer is concerned with and the evidence that forms the basis for the insurer's concern; and (ii) seek the insured's response. While there is no particular length of time an insurer must wait before making a decision, the assessment should be made based on a reasonable consideration of any material put forward by the insured. A failure to do so will place insurers at real risk of a finding of contravention in the future.
Factual background
What was the case about?
This case concerned a decision by OnePath to avoid an income protection and life insurance policy (the Policy) held by an insured. To maintain her privacy, and avoid unnecessary personal distress, the policyholder's identity was not disclosed (the Insured).
Importantly, ASIC accepted that OnePath had formed a reasonable conclusion that the Insured had fraudulently not disclosed relevant facts in her application form in taking out the Policy. The key issue was the manner or process by which that conclusion was reached.
The timeline of the key events leading up to OnePath's decision
The Insured took out the Policy with OnePath. In the course of applying for the Policy, the Insured answered various questions about her medical records – some of which related to the previous five years, and some of which related to her entire medical history. The Insured was assisted in this process by a financial adviser.
While the Insured did disclose various health issues, including some related to her mental health, she did not disclose the occurrence of a number of hospital admissions for mental health-related issues between 2001 and 2005. The Insured ultimately accepted income protection insurance cover subject to an exclusion for mental health-related losses.
The Insured injured her right shoulder in a workplace incident. Further complications ensued over the balance of 2017 and 2018.
The Insured claimed under the Policy.
When making enquiries in relation to the Insured's claim, OnePath discovered that the Insured had been admitted to hospital for serious mental health-related issues between 2001 and 2005. OnePath conducted a retrospective underwriting review, which concluded that it would have declined the Insured's request for income protection cover had it known about the Insured's hospital admissions.
OnePath issued a procedural fairness letter to the Insured to inform her of matters that OnePath would take into consideration regarding her claim, and drawing her attention to specific issues adverse to her (the Procedural Fairness Letter). The Procedural Fairness Letter raised each disclosure that OnePath considered might be fraudulent, and provided a detailed summary of the contrary evidence.
The Insured responded to the Procedural Fairness Letter, having been allowed multiple extensions by OnePath (the Response Letter). The Response Letter claimed, relevantly, that the Insured had been told by her financial adviser that she only had to provide information regarding hospital admissions in the preceding five years.
OnePath issued a letter to the Insured stating that, having reviewed all of the material, it had concluded that the non-disclosure was fraudulent and had decided to avoid the cover from inception under s 29(2) of the ICA (the Avoidance Letter). The Avoidance Letter did not set out what the Insured could do if she was not satisfied with the decision (although it referenced this matter in the introduction, suggesting it may have been accidentally omitted).
What did ASIC argue?
ASIC argued that OnePath had failed to comply with its duty of utmost good faith under s 13(1) of the ICA by reason of the manner and process it adopted in reaching the avoidance decision. In general terms, there were three alleged failures in the decision-making process:
- first, that OnePath failed to make obvious enquiries with the financial adviser who had assisted the Insured in applying for the Policy – which ASIC said were necessary in light of the conflicting accounts – and, relatedly, failed adequately to consider the information given by the Insured (the Consideration Ground);
- second, that OnePath did not adequately notify the Insured, and seek her responses to, its specific concerns of fraud (the Notification Ground); and
- third, that OnePath failed to inform the Insured of her dispute rights and available appeal processes (the Rights Ground).
Judgment details
The Court held that OnePath had not breached its duty of utmost good faith.
In relation to the Consideration Ground, Jackman J found that the Avoidance Letter made clear that OnePath had rejected the position put forward by the Insured in the Response Letter regarding her financial adviser's instructions. His Honour noted that the questions in the application form concerning mental health were expressed with clarity to relate to hospital admissions going back more than five years. That this was obvious to the Insured was supported by various of her other responses, which did give medical information beyond this time frame. Regarding ASIC's suggestion that OnePath ought to have made enquiries with the financial adviser, Jackman J held that third-party enquiries of this nature should only be necessary in an 'exceptional case', and not one where – as this case was – the Insured's evidence was 'inherently implausible'. His Honour also rejected ASIC's criticism that OnePath decided to avoid the Policy in the week following the Response Letter, stating that this alone could not constitute a breach of the duty of good faith – particularly where the Avoidance Letter engaged with, and dismissed, the Insured's explanation – while also observing that an insurer 'should act timeously' and that '[e]xpeditious decision-making is not to be criticised'.
Regarding the Notification Ground, Jackman J rejected it on the basis that OnePath gave the Insured 'ample opportunity' to explain the circumstances in which the non-disclosures occurred and whether they should be regarded as fraudulent through its Procedural Fairness Letter. His Honour held that 'the duty of utmost good faith did not require that OnePath expressly state that it was concerned that the Insured may have been dishonest', but that it was sufficient for OnePath to provide an opportunity for the Insured to explain the failure in disclosure. In coming to this conclusion, his Honour acknowledged the 'sound reasons' for which an insurer may not want to make express accusations of fraud before an insured has an opportunity to provide an explanation, having regard to previous judicial criticism of an insurer making 'hurtful' statements to an insured.
Finally, the Rights Ground was dismissed for two reasons. First, his Honour found that the omission of the appeal and review mechanisms appeared merely an 'oversight or administrative error' on the basis that they were included in the introduction section to the Avoidance Letter. This tended away from a finding of breach, since the 'deliberate or innocent' nature of a failure is relevant to whether there is a breach of duty. Second, that the Insured had legal representation (in this case by the Financial Rights Legal Centre) made it a 'reasonable assumption' that the Insured did not need OnePath to identify the avenues of review and appeal. In addition to these reasons, Jackman J rejected ASIC's contention that the 2019 Life Insurance Code of Practice (LICOP) could inform OnePath's duties, because it expressly did not create any legal rights between insurer and insured.
ASIC's enforcement agenda
It is worth observing that this is ASIC's first loss in enforcement proceedings against an insurer in quite some time. With that said, a number of ASIC's earlier matters alleging contraventions of s 13(1) of the ICA – including various case studies from the Financial Services Royal Commission (such as those against Youi and TAL) – involved admissions from the insurer that its conduct fell below commercial standards of decency and fairness. In this way, this case was an outlier, both as the allegations were strenuously denied by OnePath (now Zurich) and as the outcome was less certain in light of the facts and ASIC's concessions.
Notwithstanding the Court's findings, we expect ASIC will not be deterred in continuing to bring further enforcement proceedings against insurers in the coming months. ASIC's 2024 enforcement priorities continue to highlight 'insurance sector failures' as a key area of focus, and Chairman Joe Longo has recently made clear that ASIC will not hold back in 'pushing the envelope' in its pursuit of riskier cases. However, whether ASIC seek to re-frame another case in this vein, or move into another area, remains to be seen.
For a snapshot of broader trends, see our Insurance Regulatory Risk Report 2023. In particular, with public hearings just having taken place in Canberra in the Inquiry into Insurers' Responses to 2022 Major Floods Claims, we expect to see the regulator's eyes trained squarely on claims handling issues. Pricing representations and the prospect of 'greenwashing' allegations are also areas to watch for ASIC's enforcement agenda in the year ahead.