How risk managers can use effective disclosure to avoid the perils of underinsurance

At its core, insurance relies heavily on the principle of ‘utmost good faith’ which continues to underpin the duty of Fair Presentation laid out under the Insurance Act 2015.

Simply put, this duty obliges risk managers tasked with handling matters of insurance within a business to properly investigate their business and restricts them from withholding information that is material to the risk and how it is managed.

That is to say, anything that could influence the judgement of an insurer when deciding whether to insure the risk and on what terms.

Failure to do this could result in a large claim being legitimately rejected, and prevent you from being able to hold insurers to account if they didn’t meet their own end of the insurance bargain.

In order to avoid the risk of becoming one of the growing number of businesses that have had insurance claims repudiated on grounds of unfair presentation of risk, risk managers must provide disclosure that is as full and accurate as possible.

Understanding the Insurance Act 2015

The Insurance Act 2015 enshrined a revised concept of the Duty of Fair Presentation into law which more prescriptively outlined what a company must do to investigate and disclose relevant information to the insurer.

These requirements will vary for any given business but include matters that could be expected to be revealed by a ‘reasonable search’ of business operations.

Ultimately, no risk manager, or board, wants to be accused of failing to properly investigate the risks its business faces.

Yet this is exactly what the increasing number of repudiated insurance claims alleging failure to make a fair presentation under the Insurance Act means.

”Ultimately, no risk manager, or board, wants to be accused of failing to properly investigate the risks its business faces.”

The Insurance Act does not technically specify more work for risk managers to disclose, as broadly this was already required - it is just now more clearly defined.

However, there is now a major payoff for risk managers to comply: it makes it far harder for an insurer to challenge a claim and this was a clear aim of the legislation.

The stated objective of the Act was to avoid “claims stage underwriting” and stop insurers from accepting premiums without adequate information, but then alleging non-disclosure if a claim occurs.

Insurers can no longer get away with being passive in this way, but to gain the intended benefit risk managers must equally play their part.

This means developing clear processes around disclosure, that explain to the insurer what is done, where information comes from, how it is reviewed and identifying any limitations to disclosure provided.

Ticking boxes is not enough

Risk managers must be wary that they have a proactive duty of fair presentation, which includes a responsibility to make adequate enquiries across the businesses.

Simply answering so-called ‘traditional insurance questions’ is not enough. For risk managers, this will mean building open and productive relationships across all corners of the business to help them properly identify concerns from their source.

Some risk managers may opt to complete only basic proposal forms swiftly or even agree to assumed “statements of fact” as applicable to their business in the interest of time, but this can be short-sighted.

”Simply answering so-called ‘traditional insurance questions’ is not enough.”

Such standardised forms serve a purpose, but do not define a business’s full duty of fair presentation.

Ultimately, risk managers are the first line of defence to ensure that the reliability of the insurance purchased is appropriate and effective — rushing this process could leave the business poorly insulated from risk.

These standardised forms often contain inappropriate questions and almost certainly do not get at every material circumstance. They also often direct you to ‘yes’ or ‘no’ answers when the reality is more nuanced, creating huge risks for the risk manager.

”The only safe option for a risk manager is to provide an accurate answer and explain why an alternative approach is still effective ”

The literal question will rarely limit your duty to provide information. If an inappropriately framed question doesn’t strictly apply but the underlying risk concern is obvious, it’s likely that a business would be required to answer the question as it should have been asked, not how it actually was.

For ‘yes/no’ questions – what if (as in many cases) a risk management policy exists but may be subject to occasional exceptions? Answering ‘no’ may lead to insurers refusing to quote, while answering ‘yes’ is over-promising and could invalidate the entire policy, whether related to a claim or not.

The only safe option for a risk manager is to provide an accurate answer and explain why an alternative approach is still effective at managing the risk concerned.

Avoid the peril of under-insurance

Accurate valuations are essential in reliable insurance, for property, equipment, and the financial value of interruption. However, values change and have been impacted hugely in recent years by factors such as drastic inflation, the scarcity of particular commodities and supply chain problems.

Insurance at its simplest is about putting a company back to the same position it was in before a loss. But, if values are below what they should be in a high inflation environment, then claims will be affected.

”Accurate valuations are essential in reliable insurance, for property, equipment, and the financial value of interruption.” 

This could be whether a claim is being made for property loss, the value of business interruption or even liabilities alleged by third parties.

Risk managers can play a critical role in ensuring valuations are adequate, current and that any delays or assumptions are agreed upon with the insurers at the outset.

Most commercial insurance policies will have a condition of applying ‘average’ to settlement. This is bad news, since if values were underestimated, any payout (even for small claims) will only be a proportionate amount of what is being claimed for, depending on the level of under-insurance.

Final thoughts

Disclosure is a complex issue, and this is a big topic falling squarely to the risk manager wherever the role exists: there is a delicate balance between meeting your duties whilst staying efficient.

It may also create more demands on brokers, but it is their role to help businesses interpret these statutory requirements in a way that is effective but manageable.

Brokers should not be looking to shift the onus fully back onto the customer without providing professional advice, which is explicitly the case in some brokers’ Terms of Business Agreements.

”Insurers are more likely to offer favourable terms – and wider cover – to companies that are committed to identifying and managing risks in the business”

Ultimately, a good disclosure process creates a real opportunity for a risk manager to demonstrate their value to the board — a good risk manager does not just buy and administer insurance at the best available cost, but also plays a vital role in identifying changing risk exposures and making sure the business is better protected against them.

Good insurance disclosure works in a policyholder’s favour and goes alongside all the other risk management strategies that companies invest in – from health & safety to quality control, continuity planning or cyber security.

For their part, insurers are more likely to offer favourable terms – and wider cover – to companies that are committed to identifying and managing risks in the business and explain clearly how they do it.