Insurance law reform: the broker’s liability for premium

The Law Commission has advocated the reform of section 53 (1) of the Marine Insurance Act 1906 whereby, in marine insurance, the broker is responsible for paying the premium to the insurer regardless of whether the insured has paid it to the broker. A marine insurer therefore has no direct right against its insured to recover unpaid premium. The effect of this rule is that if the broker becomes insolvent before payment of premium, the insurer cannot look to the insured for payment and instead is a creditor in the broker’s liquidation. The Law Commission aims to bring this area of law into line with contemporary agency rules. The reform proposed would allow parties to agree their own contractual arrangements on credit risk and would provide greater certainty to marine brokers, marine insurers and their insureds.

Background

Section 53(1) codifies an old custom of the marine insurance industry whereby the insurer claimed premium from the broker to provide underwriters with security against unfamiliar policyholders. Before 1906, the legal basis for this custom was the fiction that the broker had paid the premium to the insurer (thus discharging the policyholder’s liability to pay) and that the insurer had lent the money back to the broker. This created a personal debt obligation between the broker and insurer.

Section 53(1) is an anomalous statutory provision that overrides normal agency law and the Courts have struggled to consistently apply this archaic rule of common law in the modern insurance market.

Inconsistencies arising out of section 53(1) – some market examples

· Adjusted Premium Clauses

The Courts have held that section 53(1) does not apply to an adjusted premium clause, since any additional premium cannot be determined at the outset and is therefore incompatible with the fiction that premium has been paid at the outset of the policy and then lent back to the broker. This raises questions about the status of adjusted premium clauses under marine policies.

· Premium Payment Warranties

Courts have in the past found premium payment warranties, which operate to terminate the policy upon late payment of premium, to be ineffective as the premium is deemed to have been under the legal fiction. This was recently questioned by the Commercial Court which illustrates the inconsistency that arises under s 53(1).

Where a broker was faced with liquidation, it could sue the policyholder for any unpaid premium, but the premium might then be passed to the broker’s general creditors. It is questionable whether the insurer could enforce a premium payment warranty against the policyholder in these circumstances and the Courts might revive the common law fiction to protect policyholders.

Current law outside section 53

The default position outside section 53 is that it is the policyholder, rather than the broker, who is liable for the premium. Where the policyholder has already paid the broker, this does not relieve the policyholder of its duty to pay the insurer. However, many policyholders benefit from regulatory protection in the event of their broker’s insolvency.

Where the policyholder pays the broker and the broker goes into liquidation in theory, in the absence of a risk transfer agreement, the policyholder would be liable to pay the premium again (directly to the insurer). In many cases the policyholder would be protected by the CASS rules and should be able to recover the first premium from the broker’s segregated money account.

Reform?

In light of the apparent anomalies and inconsistent judicial interpretations of the correct application and scope of section 53(1), the Law Commission proposes that section 53(1) should be reformed so that it is the policyholder, not the broker, that is liable to pay for the premium due under marine insurance policies, thereby allowing the insurer to sue the policyholder for unpaid premium. The proposed reform would bring marine insurance law into line with agency rules and would allow parties to agree their own contractual arrangements on credit risk. More generally, it would provide greater certainty to brokers, insurers and their insureds, particularly upon the insolvency of the insured or its broker.

The Commissions are seeking responses to this paper by 19 October 2010.

Further reading: Reforming Insurance Contract Law Issues Paper 8: The Broker’s Liability for Premiums; Should Section 53 be Reformed? The paper can be found on the Law Commission’s website http://www.lawcom.gov.uk/insurance_contract.htm>

Black King Shipping Corporation and Wayang (Panama) SA v Mark Ranald Massie (“The Litsion Pride”) [1985] 1 Lloyd’s Rep 437.

Prentis Donegan & Partners Ltd v Leeds & Leeds Co Inc [1998] 2 Lloyd’s Rep 326