Perils and Fire, Exclusion Door Opens for Insurers

In their long struggle to get important fire-following exclusions on the legislative agenda, insurers got a boost from an unexpected source in early May: the Supreme Court of Canada. In two related appeal decisions coming out of B.C., the Supreme Court held that all-risk policies cannot be categorized as fire policies and thus are not governed by the same statutory provisions. This essentially gives insurers the ability to put exclusions into multi-peril policies for catastrophic incidents, such as earthquake, nuclear and terrorism – with the confidence that they will hold up to judicial scrutiny.

As lawyer Nigel Kent, an insurance specialist with Clark, Wilson, a law firm in B.C. says: “For an all-risk policy, insurers are free to write what they want and what they think the market will allow insofar as exclusions are concerned.”

The court cases, KP Pacific Holdings Ltd. vs. Guardian Insurance Co. of Canada and Churchland vs. Gore Mutual Insurance Co., principally involved limitation periods for submitting claims. But, in rendering its decision in both cases, the Supreme Court brought clarity to the confusion surrounding the application of the B.C. Insurance Act to broad multi-peril policies. It also made it clear that outdated legislation needs to change with the times.

“The Supreme Court concluded that part-five of the [B.C.] Insurance Act, which is the fire insurance section with its statutory provisions, does not apply to the multi-peril policy,” observes Dana Duncan, an associate with law firm Ogilvy Renault. “There is no equivalent statutory section for the modern all-risk policy, so insurers can indicate what they will and will not cover.”

Setting precedent

In the KP Pacific vs. Guardian case, the insured’s hotel was damaged by fire. More than one year after the loss occurred, but within one year of filing the proof of loss, it made a claim under its all-risk insurance policy. The insurer’s position was that part- five of the provincial Insurance Act, the fire insurance part, applied to this all-risk policy. Thus, it followed that, as stated under this part of the act, the limitation period was one year from the date of loss. The insured’s claim was out of time. A trial judge agreed with the insurer and dismissed the insured’s claim. The B.C. Court of Appeal upheld the judgment and the insured appealed the matter to the Supreme Court.

In allowing the appeal, the Supreme Court analyzed part-five of the Insurance Act. It concluded that this section and its related wordings are based on the premise of “discrete policies” for discrete subject matter. It did not make sense to apply this section to the modern multi-peril policy. The court held that the all-risk policy “cannot be shoehorned into the part-five fire insurance section without contrived reconstruction and anomalous consequences. It simply does not fit.” Accordingly, part-two of the Insurance Act applies to all-risk policies, with the limitation period of one year from filing the proof of loss.

In Churchland vs Gore, the insureds suffered a loss when property was stolen from their house. They brought an action against their insurer under a multi-peril homeowner’s policy more than one year after the loss occurred, but less than one year after filing the proof of loss. The insurer similarly argued that the fire insurance part of the Insurance Act applied and that the claim was statute-barred. For the reasons set out in KP Pacific, the Supreme Court held that the multi-peril policy was not a policy of fire insurance and, thus, the applicable limitation period was one year after the furnishing of a reasonably sufficient proof of loss.

In both cases, the Supreme Court held that the Insurance Act is “anachronistic” and in urgent need of amendment. In the court’s words, the legislation “is incapable of coherently addressing the modern multi-peril policy. It may have made good sense in the 1930s when insurance was offered in discrete packages [but] it makes less sense now. In an insurance era dominated by comprehensive policies, it is imperative that Canada’s insurance acts specifically and unambiguously address how these statutes are to operate and the rules by which comprehensive policies are to be governed.”

Named perils

For several years, the IBC has lobbied regulators on exactly the same subject. The insurance legislation in most provinces needs to be modernized to reflect new realities in the world of insurance, according to groups like the IBC. In particular, the statutory obligation of provincially licensed insurers to cover fire-following for catastrophic incidents is an important issue, according to Randy Bundus, vice president and general counsel for the IBC. “We have lobbied for more flexibility in the legislation when it comes to named perils,” he says.

In current wordings, insurers must cover fire-following any event unless it is specifically exempted in the legislation. These exclusions include events like foreign or civil war, riot, civil disturbance or other cataclysm. Absent from this list are three prominent disaster scenarios and therefore high cost exposures for insurers: earthquake, terrorism and nuclear incident.

This absence is particularly glaring given that reinsurers are federally licensed and not bound by the same statutory obligations (see article “Nuked Covers,” in the CU April 2003 issue). Reinsurers have implemented absolute terrorism exclusions and have indicated that from January next year they will be putting nuclear exclusions on policies. Many insurers have expressed concern about “going bare” on these catastrophic exposures. With the recent Supreme Court decisions, some of that pressure has been lifted, especially on the nuclear front.

“For 2003, many reinsurers were willing to work with client companies to avoid leaving them ‘bare’, without coverage they believed they were obligated by law to provide in most provinces,” says Brian Gray, president of Swiss Reinsurance Co. of Canada. “It is now clear that primary companies do not need to provide coverage for fire-following a nuclear loss under most policies.”

Ken Irvin, president of Munich Reinsurance Co. of Canada, says fire-following nuclear or terrorism incidents has been an uncertain issue in Canada, but not elsewhere. “Reinsurers like Munich Re have always held that nuclear and terrorism events simply cannot be covered,” he says. “There is no way of measuring the potential exposure, therefore we cannot develop an adequate price for it.”

For earthquake, the issue is even more complex, according to Irvin. “With earthquake, it is a little different for a couple of reasons,” he says. “First, primary insurance companies already provide coverage for earthquake in many of their policy wordings – this has to be clarified as to what the extent of coverage is.” He also points out, “there are catastrophe models for earthquake, [even though] these may not be very accurate, as we found in the Northridge earthquake, there is at least some effort to measure the potential exposure of an earthquake. The fire-following exclusion for earthquake will need more work.”

Legislative clarity

The fire-following uncertainty in general revolves around the specific wordings in provincial legislation, Irvin notes. “This is an industry issue that involves both insurers and reinsurers, and it needs some clarity. I think the Supreme Court decisions will speed up that process and that is welcome news.”

Just how much the process of legislative change can be sped up is anyone’s guess.

Unfortunately, opening insurance legislation is not exactly on the front burner of provincial politics, especially around election time. “There really is no tangible benefit in this for politicians when it comes to things like votes,” says Roger Keightley, vice president of commercial standard lines and reinsurance at The Citadel General Assurance Co.

Now, however, insurers have more of a case. At first glance, the Supreme Court decisions affirm policyholder rights by upholding the longer limitation period (proof of loss, not actual event) for filing a clai
m. But the legal consequences actually remove some consumer protection measures afforded by the statutory provisions of the insurance legislation’s part-five section. For modern multi-peril policies, it could be buyer beware when it comes to individual policy wordings.

“The judgments certainly remove some important consumer protection measures and create some gaps in the current legislation,” says Bundus. “I would think that governments now have a strong incentive to address these gaps by updating the legislation.” Keightley also notes that, “it seems ridiculous that the all-risk policy is exempt from statutory conditions, but the more restrictive fire policy is not. You could potentially get broader coverage from a more restrictive policy. That is an anomaly that just doesn’t make sense.”

Jim Hall, Superintendent of Insurance for Saskatchewan and chair of the Canadian Council of Insurance Regulators (CCIR), says regulators are paying close attention. “As regulators, we have to look at all of the issues relating to consumer protection,” he says. “Any time there is uncertainty in legislation or new court decisions, we have to review the impact and look at changes. This is especially true in this case because we don’t want consumers to be unsure of whether or not they have coverage for something they may have been covered for in the past.”

Slow process

The IBC has hired University of Western Ontario law professor Craig Brown to create drafts of proposed legislative wordings. Those drafts are now completed, and the bureau has planned a meeting with the CCIR for early September this year to review the wordings. Both sides are taking a cautious approach to how long it could be for legislative changes to actually work their way through the system.

“First, we have to review the IBC proposed wordings, then we have to come to some sort of agreement among the provinces and then between us and the industry and other stakeholders,” says Hall. “One of the reasons the legislative process takes time is the requirement for consultations. It is not just us and the industry, we have to involve other stakeholders, such as consumer groups.” He adds that it is “still early stages” in reviewing the draft wordings, and there is also doubt that anything will get into the next session of provincial legislatures.

Bundus says the important thing is “to do this in a balanced and comprehensive way. We do not want a band-aid or a knee-jerk reaction. It’s clear that the insurance acts in most provinces need to be modernized, which is basically what the Supreme Court said. We want to do it right for the sake of consumers, insurers and regulators.”

The fire-following wordings are just one part of what needs to be overhauled in the legislation, according to Bundus. “We are looking at redrafting the insurance act so it reflects the entire life cycle of a policy, including application, renewal and so on,” he adds. “This makes more sense than the current wordings, which look at insurance coverage on a section-by-section basis. The problem with the current wordings is that there is overlap between sections and this results in ambiguity. This has led to courts interpreting what exactly the language means. If we can make it clearer and more transparent, there will be less need for extended litigation.”

Another issue is uniformity of legislation across the provinces, with the exception of Quebec, which uses the civil code. Most insurance acts across Canada are similar, but there are a few variations from province to province. “We would like to see all provinces adopt this because it makes sense to adopt one new set of wordings across the country,” says Bundus.

Hall agrees, noting that “the preference for us is to have harmonized legislation across the provinces. That would be beneficial for everyone.” While the Supreme Court of Canada judgments in KP Pacific vs. Guardian and Churchland vs. Gore may have clarified the multi-peril policy for insurers and reinsurers, they did little to conclusively address the issue of limitation periods for filing claims. In this respect, Kent points out, “I have a complete library of all decisions in B.C. under the part-two limitation provision and there is still no clarity on the results. Absent legislative intervention, it will take many court decision to provide the necessary guidance for all the possible scenarios.”

Dana Duncan says insurers will have to carefully scrutinize the wording of “filing a reasonably sufficient proof of loss. What if an insurer disputes the proof of loss? Does the one-year period start from the filing or the acceptance of the proof of loss? These are important considerations for insurers.” But, the Supreme Court of Canada decisions have forced the issue of legislative change on the agenda for regulators, perhaps inadvertently, by removing statutory protections for all-risk policies. Whether this is an issue that moves forward, or gets pushed from the legislative front to back burner is a question that will be answered in the months, and possibly years, ahead.