Initial Implications of the UK High Court Business Interruption Insurance Test Case Ruling
16th September 2020
On September 15, 2020, the UK High Court largely decided in favour of the position of policyholders in the test case brought forward by Financial Conduct Authority (FCA) regarding the interpretation of a sample of business interruption (BI) policies used by several insurance companies in the British market.
In May, the FCA announced that it would seek legal clarity on the interpretation of a number of BI insurance policies to resolve concerns from small and medium-size enterprises (SMEs), whose claims due to BI losses during the Coronavirus Disease (COVID-19) pandemic were initially denied or disputed.
BI is a type of commercial insurance that protects insured customers against the loss of income that a business suffers as a result of a covered peril that triggers a suspension of its activity. A typical BI policy would cover lost profits, fixed costs, and extra expenses incurred during the affected period. Originally, BI policies were designed to protect against the loss of income caused by a peril covered under the property insurance policy, such as a fire, earthquake, or flood. However, over time, BI coverage has
extended to cover the loss of income even in the absence of physical damage to the insured premises, including BI losses caused by the actions of a civil authority. This specific circumstance is exactly what the FCA tried to prove in the High Court, as many SMEs had to shut down operations during the pandemic due to mandated lockdowns, even if there was no direct physical damage in their premises. Following the severe acute respiratory syndrome (SARS) outbreak in 2003 that caused millions of dollars in BI claims, many insurers began adding exclusions to standard commercial policies for losses caused by viruses or bacteria. Insurers have already started to update their policy wordings to limit further losses due to BI pandemic claims, as significant supply chain disruptions, mandatory or voluntary quarantines, social distancing measures, and restricted travel are still taking a direct toll on many businesses.
In DBRS Morningstar's view, the implications of the High Court decision could extend beyond the British insurance industry given the level of integration between insurers and reinsurers on a global scale, the relevance of the London Market, and the common-law precedent that could be used in other jurisdictions. The FCA expects that British insurers will begin to settle claims as soon as possible, with any legal appeal being initiated promptly to avoid further delays for policyholders. Despite the potential increase in BI claims following the High Court's decision, UK insurers remain well capitalized and the losses should have minimal impact on their financial strength. However, the consequences on reinsurance markets as well as on potential larger claims coming from corporate clients are still to be assessed.
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