Product Fundamentals: What is a Circumstance giving rise to a Claim?

Reference is made to our articles on claims made insurance and the duty of disclosure.

In those articles we explained that an insurance policy written on a ‘claims made’ basis is a policy that is intended to provide cover at the time when an insured first becomes aware of (a) facts and circumstances giving rise to a claim (“circumstances”); or (b) receives a written demand for compensation alleging a wrongful act against it (“claim”).

We further explained that a “claim” is ordinarily defined in the policy.  In circumstances where an insured receives a demand for compensation or recompense one can look at the documents, written correspondence or a specific situation to determine whether the policy definition of a “claim” is met and whether the policy is triggered. The clearest example of a claim is when a business is served with legal proceedings, but a simple letter of demand can suffice.  Most policies impose an obligation on the insured to notify their insurer as soon as possible after a claim is made against them and this should be done within the current policy period.

“Circumstance” however is not ordinarily defined. A “circumstance” is ordinarily a situation which, objectively evaluated, creates a reasonable and appreciable belief that certain matters would give rise to or potentially result in a loss or claim made against the insured.

This is more pertinent in terms of “claims made” policies (such as Professional Indemnity policies), whereby the policy responds to claims made against you (and notified to the insurer) during the period of insurance. This essentially means that the policy responds when an actual “claim” is made in contrast to when the incident occurred or when you actually undertook the work.

The two mechanisms that support the “claims made” policy operation are detailed and outlined in the policy wording and Section 40 of the Insurance Contracts Act 1984 (ICA).

The following is typical of a Professional Indemnity policy insuring clause which outlines the basic Policy operation:

“Claim means: any writ, statement of claim, summons, application or other originating legal or arbitral process, cross-claim, counter-claim or third or similar party notice demanding compensation or damages served upon You.” 

In addition to the above, “claims made” policies also respond to claims that arise out of “circumstances” that the insured became aware of and notified to the insurer during the period of insurance even though the actual claim may be made at a later date. The following is an example of a “deeming” clause that extends cover in such a way:

“If during the period of Insurance, the insured become aware of any fact, situation or circumstance that might give rise to a claim under this policy and elect during the indemnity period to give notice in writing to the Insurer of such fact, situation or circumstance then any claim which may subsequently arise out of such fact, situation or circumstance shall be deemed for the purpose of this policy to be a claim made during the Indemnity Period.”

Again such a clause requires that the insured notify the insurer of “such fact, situation or circumstance” that may or might give rise to a claim.  It is not a letter of demand or receipt of proceedings that is important per se but it is the underlying reason for the claim (which is normally set out in such a letter or demand) – i.e. it is the insured’s impugned conduct or the factual scenario that gives rise to the concern that a claim may follow which must be notified – it is not necessary to have received a “claim”.

The words “might” or “may” impose a relatively low threshold for notification. In CGU Insurance Ltd v Porthouse, the High Court of Australia stated (at [34]) that the possibility that circumstances might give rise to a claim had to be a “real possibility”, not “a possibility which is fanciful or remote, or a certainty”. The use of the word “certainty” could be misleading. Possibility embraces cases where it is clear that a claim will be made. In other words, “possibility” embraces probability, even high probability.

During the course of construction, a building surveyor is told by the principal that the façade is encroaching on a neighbour’s property and may need rectification to ensure it remains within the property’s boundary. The principal does not take any steps regarding the allegation until 2 years later when it issues a demand to the surveyor, architect and builder for the costs to reposition the façade within the property’s boundary. In considering whether and when to notify an insurer of facts and circumstances that may give rise to a claim, the test is generally whether a reasonable person in the surveyor’s position would have considered the allegation of the defective façade to be a matter that, may or is likely to, give rise to a claim.

In this example, the insurer is likely to consider that the surveyor should have notified the matter when the allegation was first made by the principal.  Thereby, if the surveyor had done so, by virtue of s40(3) of the ICA, the insurer on risk at the time of notification (i.e. when the allegation was first made by the principal) would be duty bound to consider the claim under its policy.

In the High Court case of FAI General Insurance Co Ltd v Australian Hospital Care Pty Ltd in 2001 clauses referring to “circumstances” were removed from insuring clauses in policies in the Australian market with this policy benefit now solely being provided by Section 40(3) of the ICA which reads as follows:

“Where the insured gave notice in writing to the insurer of facts that might give rise to a claim against the insured as soon as was reasonably practicable after the insured became aware of those facts but before the insurance cover provided by the contract expired, the insurer is not relieved of liability under the contract in respect of the claim, when made, by reason only that it was made after the expiration of the period of the insurance cover provided by the contract.”

In addition to understanding how a policy operates to provide cover on a “claims made” basis, one must also consider the mechanism by which insurers can decline or reduce their liability to insureds under the policy where the Insured/Policyholder has failed to notify a claim or “circumstance” at the time it first became aware. This is generally known as the “known circumstance exclusion”. An example of this Exclusion is outlined below:

“We will not cover You for any Claim:

• • made, threatened or intimated against You prior to the Period of Insurance;
  • arising out of any fact(s) or circumstance(s) that might give rise to a claim against You which You were aware of, or ought reasonably to have been aware of, prior to the inception of this Policy, whether notified under any other insurance or not;
  • arising out of any matter the subject of any claim(s) or fact(s) that might give rise to a claim against You referred to in Your proposal form, declaration or underwriting information being the basis of this policy.”

The above exclusion (or variation of) is one of the most common grounds for insurers to deny claims, on the basis that the Insured had knowledge of a potential claim prior to the commencement of the policy.

Based upon the above, you can identify whether you need to report a circumstance by considering the following question:

Are you aware of any situation or fact that, when viewed objectively, would a reasonable professional in your position form the opinion that that situation or fact is likely to or may result in a claim or demand for compensation or damages in the future?

If you are aware of a facts or circumstances or any matter which requires notification, or are unsure whether something is a “circumstance” the best and first option is to talk the matter through with your insurance advisor as they are in the best position to advise and assist you in determining the most appropriate course of action. Involving your advisor at this early stage can also help in determining whether there is potential for the insurer to apply their known circumstance exclusion and to assist you with strategic advice in this regard.