Issues for insurance brokers when their clients enter into commercial contractsIntroduction It is the role of an insurance broker to ensure that their clients obtain adequate insurance cover to meet the needs of their individual circumstances and that of their businesses. However, what should a broker do if their clients come to them with lengthy or complex commercial contracts which propose a host of onerous insurance requirements?   Firstly, it is up to the broker to decide whether it is within the scope of their expertise to advise their clients on contractual clauses relating to insurance.   If the broker agrees to look at their clients’ contracts on their behalf and provide advice, then they need to be aware that their clients are entitled to rely on that advice and make commercial decisions accordingly.  If that advice turns out to be incorrect and the client suffers a loss as a result, for example, by finding themselves under-insured or uninsured, then the broker may be exposed to a professional indemnity claim against them. Whilst it is part of a broker’s role to have a basic understanding of the legal and insurance implications of common contractual terms to allow them to place adequate cover on behalf of their clients, there will be many circumstances in which it will be in their clients best interests to obtain comprehensive legal advice and representation from an insurance lawyer.  The key for brokers is to identify when they are out of their depth and when it is necessary to refer their clients to a suitably qualified legal professional.   Duties of insurance brokers The obligations of an insurance broker are concisely summarised in Caldwell v JA Neilson Investments Pty Ltd [2007] :  “103 There is considerable authority to the effect that an insurance broker must use reasonable skill and care to ascertain its customer’s need by instructions or otherwise: see, for example, Provincial Insurance Australia Pty Ltd v Consolidated Wood Products Pty Ltd (1991)  25 NSWLR 541 at 555–556, Fanhaven Pty Ltd v Bain Dawes Northern Pty Ltd (1982) 2 NSWLR 57 at 62.  A broker must use reasonable care and skill to procure the cover that the customer has asked for, either expressly or by implication.  If the broker cannot obtain what is required, it must report in what respects it has failed and seek the customer’s alternative instructions Youell v Bland Welch & Co Ltd (The “Superhulls Cover” Case (No. 2)) [1990] 2 Lloyds Rep 434 at 445, Harvest Trucking Company Ltd v P B Davis [1991] 2 Lloyds Rep 638; Aneco Reinsurance Underwriting Ltd (In Liq) v Johnson & Higgins Ltd [1998] 1 Lloyd’s Rep 565 at 590. (Emphasis added).” The above has been noted in recent authorities including the New South Wales Court of Appeal decision, Horsell International Pty Ltd v Divetwo Pty Ltd [2013] . The duty for brokers to act with reasonable skill and care is significant.  It includes having a reasonable knowledge of insurance law, at least to the extent necessary to ‘procure the cover that the customer has asked for, either expressly or by implication’.  This concept is discussed in the case of Provincial Insurance Australia Pty Ltd v Consolidated Wood Products Pty Ltd (1991)  , in which Kirby P (as his Honour then was) stated, “2. The foregoing duty [to exercise proper care and skill] does not extend to expounding the law to the insured.  But it does extend to pointing out legal pitfalls which might arise in the course of effecting a valid insurance cover and in securing cover for the risk necessary to the insured’s disclosed or ascertained needs…” Accordingly, it is important for brokers to keep abreast of developments in insurance law so that they can properly advise their clients or, alternatively, identify when it is more appropriate to refer their clients to an insurance lawyer. The latter is advisable when the contract contains some of the types of difficult insurance clauses (such as, those discussed below); where the contract is lengthy or complex in nature; or where the broker has any doubt about their ability to provide accurate advice.   If a broker is sued for professional negligence, the Courts will look at what a ‘reasonable broker’ would have done in the same circumstances .   Discharging duties of insurance brokers There are some straightforward steps that brokers can take to discharge their duties owed to clients.   Brokers should take reasonable steps to obtain a policy that meets their clients’ needs.  To be able to do this, the broker must firstly understand their clients’ needs.  This involves asking the right questions about their clients’ business operations and requesting copies of any contracts that their clients have entered into or are considering entering into.  Such information is not always volunteered and may take a bit of probing.    Once a policy has been obtained, brokers should draw their clients’ attention to any onerous or unusual terms and conditions contained in the policy.  It is not acceptable for brokers to simply renew policies and send out policy wordings without any explanations.  Rather, a broker must explain the areas of exposure and uninsurable exposure and discuss major exclusions, cover restrictions and sub-limits. As mentioned above, it is also necessary for brokers to have a basic understanding of liability and insurance law and keep up-to-date with developments in the industry. In many cases, a broker can discharge their duty by simply advising their client to obtain legal advice. Insurance clauses commonly contained in commercial contractsLimits of Indemnity Many commercial contracts will stipulate what limits of indemnity the contracting parties need to have in place under their various insurance policies.  However, these may be higher or lower than the client’s current levels of cover. Brokers should carefully compare the limits of indemnity stated under the contract against their clients’ existing policies to determine any gap in coverage.   It is also important for brokers to consider whether the contractual limits of indemnity are reasonable in light of the work that their clients will be undertaking and the size of their business. It is often a good idea for brokers to speak directly to the insurers, prior to their clients agreeing to any contractual limits of indemnity, to ensure that they will be able to obtain adequate coverage, as required under the contract.  Alternatively, the terms of the contract can be negotiated on behalf of the client. Indemnity Clauses An indemnity by one contracting party to another is merely an agreement that that party will cover any loss or damage suffered by the other party in certain circumstances. Indemnity clauses are often the most contentious clauses contained in commercial contracts, giving rise to disputes between contracting parties themselves and/or contracting parties and their insurers.   For brokers, it is important to advise their clients that, by agreeing to comprehensive indemnity clauses in favour of third parties (such as, principal contractors, sub-contractors and other third parties), they may be prejudicing their insurer’s ability to exercise its rights of subrogation under the policy (that is, the insurer’s right to recover its losses from liable third parties in the name of the insured).  In such cases, depending on the facts, an insurer may decide to decline liability for such losses on the basis that the insured has forfeited its rights of recovery. Indemnity clauses also tend to be at odds with policy exclusions for ‘contractually assumed liabilities’.  Such exclusions generally state that the policy will not respond to the extent that the insured has assumed a greater liability than that which would otherwise apply at law.  In other words, the insurer will ask: if you put the contract to one side, would the insured still be liable at law?  This question is not often straightforward and may require a comprehensive legal analysis of tort and statute law.   In order for brokers to protect their client’s interests, they can request an endorsement to the policy to ensure adequate coverage in line with their client’s contract.  However, in many cases insurers will not agree to this or else they significantly increase the client’s premium to the extent that it is not affordable.  Another option is for brokers to attempt to remove or negotiate the indemnity clause on behalf of their client or recommend that a lawyer be engaged for this task.   In our experience, it is usually advisable for brokers to encourage their clients to seek legal advice where indemnity clauses are concerned. Contracting out of proportionate liability Proportionate liability is the principle whereby a liable party will only pay damages proportional to the extent of their own personal responsibility for the loss in question (which is mostly limited to certain types of economic loss).  It operates throughout Australia, however, it may differ between states according to each states’ legislation. In general, the proportionate liability scheme favours potential defendants to legal proceedings because they will have a greater scope to limit their liability.  It disadvantages potential claimants because, in order to recover their loss, they will need to pursue a claim against each and every liable party, rather than being able to recover 100% of their loss from any one liable party. In many cases, principal contracting parties may feel disadvantaged by the proportionate liability regime and seek to include a clause in their contracts to the effect that the parties agree to “contract out” of proportionate liability, that is, agree, to the extent permitted by law, that the proportionate liability regime in their applicable state will not apply. In many cases, such “contracting out” clauses can be disadvantageous for clients who are sub-contracting parties (although each situation must be examined individually), particularly if their insurance policies contain an exclusion for ‘contractually assumed liabilities’.  To recap, such exclusions generally state that the policy will not respond to the extent that the insured has assumed a greater liability than that which would otherwise apply at law.  Therefore, by contracting out of proportionate liability, an insured may, without realising, trigger the ‘contractually assumed liabilities’ exclusion, causing the policy not to respond. In such circumstances, brokers should consider either negotiating the terms of their clients’ contract on their behalf (or refer their clients to an insurance lawyer) or, alternatively, arrange separate “gap policies” or negotiate existing insurance policies so that adequate cover is provided.  The ‘Joint Insured’ clause Brokers and their clients should also be aware of any clause that requires the client to name another contracting party as a ‘Joint Insured’ under their insurance policy.  This means that both the client and the other contracting party will effectively share the same policy, cover limits and rights to make a claim.   We tend to recommend against such clauses, depending on individual circumstances, as it is usually advisable for parties to arrange their own insurance so that they have a say in the terms of the policy and improve the prospects of the policy being enforceable.      One of the biggest pitfalls with naming joint insureds is that all of the named insured entities are usually bound by the duties and obligations of the other named insureds under the insurance contract upon its terms.  This means that if one party breaches the terms of the policy, the other party could, depending on the policy wording, be denied cover.  For this reason, it is preferable for parties to arrange their own separate policies so that their coverage is not dependent upon the acts or omissions of another party.   Another issue with the ‘Joint Insured’ clause is that insurers will generally only agree to such a clause if both parties have similar interests in the subject matter of the policy.  Brokers will need to make enquiries with underwriters to ensure that sufficient coverage is able to be obtained to meet the insurance requirements stipulated in their client’s contract.  If coverage is not readily available, then the terms of the contract should be revised on behalf of the client. Summary An insurance broker owes a duty to their clients to use reasonable care and skill when obtaining coverage for their clients.  In many cases, brokers can discharge this duty by recommending where appropriate that their clients seek legal advice. LMI Legal offers a comprehensive contract review service should you or your clients require assistance.  For further information, please contact us on (02) 8404 0550. Lauren WakelingDirector, LMI LegalAugust 2014