May 8, 2015

English law’s response to an insured’s fraudulent representations – Part 2

In our last article, we reviewed the current English law position and pending future reform in respect of fraudulent claims and devices. In this article we consider the effect of an insured's fraudulent statement in litigation which ultimately results in settlement.

1. Introduction

The duty of utmost good faith applies throughout the insured's/insurers' relationship but only up and until the commencement of litigation.[1] Once litigation has commenced, the parties' relationship and any settlement of a disputed claim is governed by the relevant Civil Procedure Rules, the court's own procedures and common law.[2]

The test approved in Versloot Dredging, and as discussed in our last article, does not however apply in respect of fraudulent misrepresentations made by an insured in the course of or compromise of litigation.

2. Settlements Induced By False Statements

The general position is that following the compromise of a disputed claim, defendant insurers are not entitled to seek to have the settlement agreement set aside at some later date only on the basis that they can now prove that the insured's factual statements in its pleadings and/or witness statements were false. In deciding to settle, insurers take the risk that the insured's statements may not be proved at trial, and pay a sum commensurate with the assessment of that risk. Insurers could have taken the case to trial to disprove the statements in question but, by settling, relinquished that opportunity and cannot reserve the right to come back later to reopen the settlement. Otherwise, no settlement would ever be final.

However, the position is different where the claimant's statements are fraudulent, not merely false, and insurers had not pleaded or were otherwise unaware of the possibility of such fraud when entering into the settlement agreement. That position was considered in the recent English Court of Appeal case of Hayward v. Zurich Insurance Company Plc.[3]

3. Hayward v. Zurich: The Facts

In June 1998, the insured's employee sustained injuries whilst at work. In May 2001, the employee sued his employer (the insured) for £420,000 and liability, subject to a 20% deduction for contributory negligence, was admitted with quantum to be determined. The defence was conducted by insurers. Insurers disputed the level of claimed quantum on the basis of a 1999 surveillance video which appeared to show the claimant undertaking heavy lifting at home, whereas he asserted in his claim that his injuries were such that he would have been unable to have undertaken heavy lifting. In the Statement of Defence, insurers pleaded. "[t]he Claimant has exaggerated his difficulties in recovery and current physical condition for financial gain."  On 3 October 2003, shortly before trial, the parties entered into a settlement agreement in the sum of £134,973 in full and final settlement of the claim. About two years later, the employee's neighbours provided a statement to insurers alleging that the employee's statements in his claim about his injuries were dishonest. In February 2009, insurers commenced proceedings against the employee claiming damages for deceit or in the alternative a rescission of the settlement agreement and the repayment of the sums paid under it.

Following the trial of insurers' claim, the judge found that the employee had dishonestly exaggerated the effects of his injury (which was not challenged on appeal) and proceeded to set aside the settlement agreement on the basis that "…although Zurich was aware at the time of the settlement of the real possibility of fraud here, [the employee] had continued his deliberate misrepresentations even after the disclosure of the [surveillance video] and those continuing misrepresentations did influence Zurich into agreeing a higher level of settlement than it would otherwise have made." The Judge reassessed quantum and held that the amount to which the employee was entitled was £14,720, not the £134,973 at which insurers had compromised. The employee was ordered to repay the difference.

4. Hayward v. Zurich: Court of Appeal

The employee successfully appealed to the Court of Appeal which dismissed the trial judge's orders, holding that a defendant aware of the possibility of fraud, but knowingly enters into a settlement agreement, cannot later seek to rescind that agreement if and when the fraud is established.

One of the judges observed that "whilst it may be fair to treat a defendant as having taken the risk of the claimant's statements in support of his claim being wrong, it would not – absent any indication to the contrary – be fair to treat him as having taken the risk of them being dishonest". In respect of wrong, but not dishonest statements, the judge undertook the analysis we set out in Section 2 above. The rationale for treating fraudulent statements differently from merely wrong statements is that the courts will not normally accept that a defendant has taken the risk that the claimant's case is dishonest. But what risk the defendant is to be treated as having accepted must depend on the circumstances of each case. The judge commented that "f it is in any case sufficiently apparent that the defendant intended to settle notwithstanding the possibility that the claim was fraudulently advanced, either generally or in some particular respect – the paradigm being where he has previously so asserted – there can be no reason in principle why he should not be held to his agreement even if the fraud subsequently becomes demonstrable…It cannot be right that a defendant who has made an allegation of fraud against the claimant but decided in the end not to have it tested in the court should be allowed, whenever he chooses to revive that allegation as a basis for setting aside the settlement."

In this instance, insurers had pleaded that the claimant had exaggerated his physical condition for financial gain, which was tantamount to an allegation of fraud. The Court concluded that against that background it was necessarily implicit in the full and final settlement agreement that the insured employer and insurers gave up the right to set aside that agreement if they were subsequently in a position to provide the identical dishonesty alleged in the Statement of Defence.

5. Observations

Had the insured/insurers not investigated and discovered a suspected fraud, and pleaded such, prior to the settlement, the later discovery of fraud could have allowed them to seek to rescind the settlement agreement. However, as a general principle, if fraud is suspected, insurers should be cautious of entering into a standard settlement agreement without reserving their rights should fraud be later proved. 

[1] See Versloot Dredging per Mance LJ at paragraph 76

[2] The Star Sea[2003] 1 AC 469

[3] [2015] EWCA Civ 327