In February 2019, the Government committed to extending the unfair contracts regime to insurance contracts in response to Recommendation 4.7 of the Financial Services Royal Commission. This commitment followed numerous proposals to extend the regime, most recently in June 2018 when treasury published its proposals paper and invited stakeholders to respond to its model to amend the Insurance Contracts Act 1984 (ICA) and the Australian Securities and Investments Commission Act 2001 (ASIC Act).
The Government has now published its exposure draft of the Treasury Laws Amendment (Unfair Terms in Insurance Contracts) Bill 2019 (the Bill) which proposes to:
- amend the ASIC Act to broaden its application of the unfair contracts provisions to insurance contracts generally, including by providing particular specifications relevant to such contracts; and
- amend the ICA to ensure that the proposed relief to consumers to have unfair terms voided is not excluded.
This regime will effectively sit alongside an insurer's new Design and Distribution Obligations and ASIC's Product Intervention Powers which should already require insurers to turn their mind to the 'appropriateness' of their product and its disclosure. That assessment should arguably also uncover the 'fairness' of the product.
Unfair contract termsIn 2010, the unfair contracts regime was introduced for 'standard form' consumer contracts. This was extended to small businesses in 2016. Currently, under the ASIC Act this protection does not cover contracts of insurance even though it expressly does apply to other contracts for financial products and financial services.
Under the unfair contracts regime generally, a term in a standard form contract is considered unfair if:
- it causes a significant imbalance in the parties' rights and obligations arising under the contract;
- it is not reasonably necessary to have the imbalance to protect the legitimate interests of the advantaged party; and
- it causes detriment to one party if that term was applied or relied on.
If a term in a relevant standard form consumer contract is determined to be unfair, it is void. The rest of the contract continues to bind the parties if it is capable of operating without the voided unfair term.
Proposed changes to extend regime to insurance contracts
The Bill includes the following amendments to the operation of this regime:
Narrow 'main subject matter' definition limited to "what is being insured": Ordinarily, the main subject matter of a contract is excluded from being claimed as being 'unfair', being the subject matter the parties are agreeing to and inherently it can't be considered 'unfair'.
Industry groups submitted that the excluded subject matter should be broadly defined to include any insurance terms that defined the insurer's liability and insured risks. However, Commissioner Hayne supported the treasury proposal for a narrower approach excluding which excludes only 'what' is being insured. This means that even exclusion of liability under insurance contracts could be considered 'unfair' unless legitimised by demonstrating that they protect the insurer's legitimate interests.
Of course, these two concepts become blurred where the details of what is included and excluded combine to form the insurance product (eg is travel insurance only insuring the 'person' or is it a bundle of rights that together form the insurance product).
Transparent excess terms: The Bill proposes to exclude terms from being unfair that set the quantum or existence of the excess or deductible in an insurance contract, as long as they are presented transparently and disclosed upfront
Third party beneficiaries to insurance contracts able to bring action: Given that specified third parties can make claims under an insurance contract, the Bill proposes to allow them to also bring actions for an unfair terms under the insurance contract in which they are specified as third party beneficiary.
No excessive details
The explanatory memorandum references the need for less prescriptive legislation with excessive detail, which appears to have resulted in a fairly concise draft and with some of the detail recommended by the treasury paper and in Hayne's report, excluded. The Explanatory Memorandum provides further details that address some of the recommendations missed, but it appears to use examples to fill in some of those blanks rather than explanatory text.
For example, in Hayne recommended clarification that premiums would be included in the 'upfront price' (which is the term already used in the regime and is excluded from being unfair). This is clarified in the Explanatory Memorandum only.
The recommendation to expand the range of remedial options other than the term being voided has also not been included.
Hayne's report also recommended clarifying that extending this regime to insurance does not preclude an assessment by the insurer of its underwriting risks in relation to the contract. There is reference to this concept, however only by way of example (see last example below).
Examples given in the Explanatory Memorandum on an unfair term include:
- a term that allows the insurer to settle rather than repair, based on the cost to repair by the insurer and not the cost to the insured;
- a term that would allow an insurer to require excess to be paid upfront, before the claim has been paid (which is a significant move away from how the industry currently operates); and
- a term that limits the ability of the insured to obtain a rebate on their premium which is linked to another contract, if the other contract is cancelled.
There is no explanation or rationale provided for any of these examples, which may have been useful to fully understand which aspects are being singled out as unfair.
In respect of Hayne's recommendation to clarify that this regime did not prevent insurers from protecting their underwriting risks, a further example is given of increasing premiums as being necessary to protect the legitimate interests of the insurer, in response to a change in the actuarial pricing of the risk required to underwrite the policy. Although it is reassuring that this can be done, as noted above, industry had initially pushed for a broader definition of 'main subject matter' which could have excluded such matters from the regime.
It therefore appears that insurers will need to demonstrate the necessity for increased premiums to protect their legitimate interests rather than doing so on a commercial basis alone - and potentially rely on the example that to do so is fair.
The Bill sets out an 18-month delay to commencement of the regime to insurance contracts, and a transition period for new, varied or renewed contracts from that time.