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Focus: Insurance & Reinsurance – May 2008

Joining an insurer in a legal action

In brief: The Full Court of the Federal Court has held that an applicant can join an insurer to legal action against the insured, even if the insured does not wish to seek indemnity from the insurer. Partner Jenny Thornton (view CV) and Law Graduate Bryn Dodson look at the decision in Employers Reinsurance Corporation v Ashmere Cove Pty Ltd that has potentially wide-ranging consequences for insurers.

How does it affect you?

  • If you are an insurer and you deny indemnity on a policy, you may have to litigate the meaning of the policy even if the insured does not dispute your decision.
  • Seeking a declaration becomes a useful tool for claimants looking to recover money from insurers, particularly if the insured defendant is insolvent.
  • It should be noted, however, that this decision is currently the subject of a special leave application to the High Court, and if special leave is granted and the appeal is successful, the law may change.

Background

Knightsbridge Managed Funds Ltd (KMF) ran managed investment schemes where investors pooled their funds and KMF found borrowers and arranged for the lenders to take mortgages on the borrowers' property as security.

KMF was insured by the appellants, Employers Reinsurance Corporation and Suncorp Metway Insurance Ltd (the insurers). The insurers agreed to indemnify KMF, but the policy excepted 'any Claim ... directly or indirectly arising out of ... the non-repayment of any loan which was originated or managed by KMF'.

On 16 December 2000, KMF notified the insurers that certain borrowers had defaulted on their loans and that it anticipated claims against KMF from investors. The first respondents, Ashmere Cove Pty Ltd (the investors) did suffer losses in the managed investment schemes run by KMF and they sued KMF in the Federal Court, alleging negligence and breaches of the Corporations Law (the forerunner to the Corporations Act 2001).

The insurers declined to offer indemnity, alleging the proceedings fell within the exception in the policy for claims arising from the non-repayment of loans.

By the time of the proceedings, KMF was in liquidation and had no funds to meet claims for compensation. The liquidator chose not to claim against the insurers under the contract of insurance.

The investors sought to join the insurers in their claim against KMF, seeking a declaration that the insurers were liable to indemnify KMF under the insurance contract. Because KMF was insolvent, the investors wanted to be able to recover money under KMF's insurance policy. The insurers opposed the joinder. Justice French ordered the joinder at first instance,1 and the insurers appealed, unsuccessfully, to the Full Federal Court.2

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The decision

The Full Federal Court had to determine two issues.

The first was whether the court had the judicial power to join the insurers in the investors' action, even though there was no contract between the insurers and the investors. The insurers argued that there was no dispute between the insurers and investors and any argument between those parties about the meaning of the insurance policy was therefore hypothetical.

The Full Federal Court rejected that argument. It held that the investors had a 'real interest' in showing the insurers were liable to pay KMF on the policy, because that money would then be available to the investors if they succeeded in their action against KMF.3 While the main dispute in these proceedings was between the investors and KMF, the court said that the argument between the investors and the insurers was part of a single controversy between all the parties.4 It was therefore not a hypothetical dispute.

The second issue was whether, if the court had the power to join the insurers in the action, it was appropriate to do so. The insurers argued that any decision about the meaning of the policy would only bind the insurers as against the investors – it would not be binding as against KMF. Joining the insurers, therefore, might require them to litigate the meaning of the policy twice: once against the investors, and then against KMF, if the liquidator later decided to try to recover money under the policy.

The Full Federal Court decided it was appropriate to join the insurers. It assumed, for the purposes of the appeal, that the declaration sought by the investors would not bind the insurers as against KMF. However, the court said that there would be 'formidable obstacles' facing the insurers if they attempted to litigate the meaning of the policy more than once, and that such a course of action was potentially an abuse of process.5 Therefore, joining the insurers to the current proceedings would 'facilitate the orderly, expeditious and just resolution'6 of the dispute.

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Impact of the decision

The decision has potentially important ramifications for the insurance industry. An insurer may not only have to resolve disputes with an insured, but with a potentially open-ended field of claimants, especially where the insured is insolvent. These claimants may be (as was the case here) more determined to pursue the indemnity question than the insured, making it more likely that insurers will be forced to litigate.

As stated above, however, the status of this decision is uncertain pending an application for special leave to the High Court.

Footnotes
  1. Ashmere Cove Pty Ltd v Beekink (No.2) Pty Ltd [2007] FCA 1421 (Justice French).
  2. Employers Reinsurance Corporation v Ashmere Cove Pty Ltd [2008] FCAFC 28 (Justices Heerey, Sackville and Siopis).
  3. [2008] FCAFC 28 [52].
  4. [2008] FCAFC 28 [49] - [51].
  5. [2008] FCAFC 28 [68] - [70].
  6. [2008] FCAFC 28 [73].

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