Many people automatically assume that the insurer will pay out simply because the premium has been paid when a claim is made. But there are certain grounds on which the insurer can refuse to pay

I wrote piece in Building on the outcome of the Aldi case in the Court of Appeal and commented that there were two layers of insurance, one that paid out and the other that did not. In response, Malcolm Taylor, a reader, wrote in with the following observation: “If the court has established liability, on what grounds can the insurer refuse to pay?” It is obvious from further observation that Mr Taylor has a feel for some of the issues.

There are misconceptions about what insurance will cover. The key starting point is that an insurance policy is primarily to benefit the person taking out the insurance. It is this party that contracts with the insurer for insurance. In principle, therefore, it is this party that calls on the policy to make a recovery. This basic position is distorted by a number of things but the importance of this should not be lost sight of for the reasons set out here.

What distorts the position? Well, the first thing may be as simple as the way that car insurance operates in this country. You are involved in an accident, you pass on your insurance details and the insurer pretty much deals with it. This can give rise to an impression that insurance is there to benefit the victim of a negligent driver. To a degree that is correct, because parliament requires drivers to be insured so that there is a policy to be claimed against. However, the requirement to have car insurance and the fact that insurers deal administratively with claims does not take away from the fact that the contract of insurance is between the insured driver and the insurer.

The second thing that I suspect tends to affect our thinking about insurance in the construction industry is the way procurement and standard forms tend to make it appear that the insurance is being placed for the benefit of another party, third parties, employees or an employer under the contract. Again, a lot of this is sensible procurement and good practice, but it still does not overcome the basic point that the contract is between the insured and insurer. Contracts of insurance are of utmost good faith. You have to tell the insurer all that is relevant to the insurance when you take the policy out and insurers frequently investigate claims and decide they will not pay out based on a non-disclosure. The insured can challenge the insurer if it takes such a position. It is a contract and can be sued on if one party does not think the other is entitled to avoid providing cover.

The complexities in Aldi were two-fold. First, the contractor that had taken out insurance was insolvent. This presented the problem that the insured party was not around to pursue the insurer for coverage. That was resolved to some degree by the 1930 act of parliament that said that a party with a claim against another party that has the potential benefit of an insurance policy can obtain a judgment against that party and then seek to enforce against the insurer.

The contract is between the insured and the insurer, and each insurer is entitled to deny that it is bound by the contract of insurance

Critically, the party using the act stands in the shoes of the original insured party. Therefore, if the original insured party has done something that invalidates the insurance, the claiming party is fixed with that potentially fatal default. It is also important to note that a judgment must be obtained first. This means that the original wrongdoer is pursued first and only then can the claimant find out if there is insurance there to pay the claim.

Second, in Aldi there were two layers of insurance. The first layer paid out – it did not challenge the validity of the policy. The second layer took a different view and challenged it. This only serves to emphasise the points made here; namely, that the contract is between the insured and the insurer and that each insurer is entitled to deny that it is bound by the contract of insurance.

The more insurers involved in the insurance cover, the more insurers that have to be sued (although, in practice, as in this case, that can be dealt with by a representative or lead insurer being the defendant to the claim).

The lesson from all of this is that just because the contract documents say that there is to be insurance in place does not mean that the insurance will be there when a claim is made or will cover that claim.