Marine Insurance: Law and Practice
CHAPTER 27
SUBROGATION AND RECOUPMENT
I INTRODUCTION
The “doctrine of subrogation”
27.1 The underlying purpose of a contract of indemnity insurance is the provision of an agreed indemnity to an assured for a loss. The “doctrine of subrogation” is often used to describe a series of related legal principles which can be best understood as having two major functions. The first is to prevent the assured from being over-indemnified under the contract of insurance for the loss insured against, at the expense of the insurer. The second is to facilitate recoupment of the insurer for the indemnity paid to the assured—often, though not invariably, at the expense of the party responsible for causing the loss. 27.2 Behind the “doctrine of subrogation”, so understood, are two fundamental principles. The first is that where an assured has a right of action against a third party in respect of the loss insured against, the third party generally cannot avoid or reduce its liability by relying on the fact that the assured has been (or is entitled to be) indemnified by his insurer. The second principle is that, conversely, an insurer cannot generally avoid or reduce his liability under the contract of insurance by relying on the fact that the assured has a right of action against a third party in respect of the loss insured against by which the assured might diminish his loss. 27.3 The danger that inevitably arises from those two fundamental principles is that the assured may be over-indemnified for the loss insured against—by an accumulation of recoveries from the insurer and the third party. He would be paid a sum by way of indemnity for a “loss” which in the event is diminished or extinguished by some other means. The law both avoids that consequence and facilitates recoupment of the insurer at the expense of the third party against whom the assured has a right of action, by a combination of several principles. 27.4 First, where the loss insured against is diminished before the assured obtains payment from his insurer, the insurer’s liability under the contract of insurance for the loss is generally correspondingly reduced. 27.5 Second, if—whilst the assured’s loss has previously been diminished—the insurer nevertheless mistakenly overpays the assured, the insurer has a claim to recoupment against his assured to recover the amount of the overpayment. 27.6 Third, if—following indemnification by his insurer—the assured obtains a recovery which reduces the losses for which the indemnity was paid, the insurer again has a claim to recoupment against his assured to recover the amount of the overpayment. 27.7 Fourth, if—following indemnification by his insurer—the assured has a right against a third party, the exercise of which will diminish the losses for which the indemnity was paid, the insurer is entitled to be “subrogated to” the assured’s right(s) of action. That “right of subrogation” involves the right to insist that the assured allow the insurer to exercise the right(s) held by the assured against third parties for the insurer’s benefit, in the limited sense of enabling the insurer to recoup himself for the sums paid by way of indemnity to the assured. 27.8 Fifth, the recoupment of the insurer is further facilitated by the recognition that the insurer has an equitable proprietary right, in the form of an equitable lien, over recoveries obtained by his assured, and possibly over the assured’s right of action against a third party whereby such a recovery can be obtained.The insurer’s “right of subrogation” and the insurer’s “claim to recoupment”
27.9 The legal consequences just described flow from the character of a contract of insurance as a contract of indemnity—even in the absence of express provision. It remains possible for a contract of insurance to exclude or modify those basic principles by contrary provision. The primary focus of this chapter is, however, on two particular aspects of the law’s general—default—principles. Accounts of the “doctrine of subrogation” in insurance law have not always clearly distinguished and separated them; but clarity of understanding and exposition requires that they should be.1 27.10 The first, which can be properly labelled the insurer’s “right of subrogation”, denotes the entitlement of an insurer, on indemnifying his assured under the contract of insurance, to insist that subsisting rights held by the assured against third parties are exercised for the insurer’s benefit. “For the insurer’s benefit” here means “for the limited purpose of enabling the insurer to recoup himself for the sums paid by way of indemnity to his assured”. The principles governing the insurer’s “right of subrogation” are described in Part II of this chapter. 27.11 The second, which can be neutrally labelled the insurer’s “personal claim to recoupment”, denotes the entitlement of an insurer to recover sums which he has overpaid by way of indemnity to his assured. Properly understood, the principles governing the insurer’s “claim to recoupment” are of general application. They determine the extent of the insurer’s entitlement against his assured where the insurer has mistakenly overpaid the assured after the loss insured against has been diminished by some other means. And they determine the extent of the insurer’s entitlement against his assured in respect of recoveries obtained after the assured has been indemnified by the insurer, whether those recoveries are obtained following the exercise of a right of action vested in the assured by the assured himself or by the insurer pursuant to his right of subrogation, or are obtained by the assured independently of any right of action vested in him. In some of its manifestations, at least, that claim to recoupment is secured by an equitable lien over recoveries obtained by the assured from third parties; it may also be secured by an equitable lien even over the rights of action held by the assured against the third parties. The principles governing the insurer’s “personal claim to recoupment”, and the equitable security interest which secures that claim, are described in Parts III and IV of this chapter.The general law and the Marine Insurance Act 1906
27.12 The “doctrine of subrogation” is statutorily recognised in the context of marine insurance by the Marine Insurance Act 1906. Sections 79(1) and 79(2) deal separately with cases of total loss and partial loss. They provide that:- “(1) Where the insurer pays for a total loss, either of the whole or in the case of goods of any apportionable part, of the subject-matter insured, he thereupon becomes entitled to take over the interest of the assured in whatever may remain of the subject-matter so paid for, and he is thereby subrogated to all rights and remedies of the assured in and in respect of that subject-matter as from the time of the casualty causing the loss.
- (2) Subject to the foregoing provisions, where an insurer pays for a partial loss, he acquires no title to the subject-matter insured, or such part of it as may remain, but he is thereupon subrogated to all rights and remedies of the assured in and in respect of the subject-matter insured as from the time of the casualty causing the loss, in so far as the assured has been indemnified, according to this Act, by such payment for the loss.”
II THE INSURER’S RIGHT OF SUBROGATION
Introduction
27.14 The insurer’s “right of subrogation” is the entitlement of an insurer, on indemnifying his assured under the contract of insurance, to insist that subsisting rights held by the assured against third parties are exercised for the insurer’s benefit—for the limited purpose of enabling the insurer to recoup himself for the sums paid by way of indemnity to his assured.The preconditions of the insurer’s right of subrogation
A contract of indemnity insurance
27.15 A marine insurer is only subrogated to the relevant rights of his assured if he pays for the loss pursuant to a valid contract of indemnity insurance. The requirement for a valid contract of indemnity insurance is consistent with the general law, and with the underlying rationale of an insurer’s right of subrogation. It is also apparent from John Edwards & Co v Motor Union Insurance Co Ltd,2 where it was held that a marine insurer has no right to subrogation if he pays under a ppi policy which is wholly avoided under statute.3 The premise of that decision was that an insurer’s right does not just require payment for a loss. It depends on payment pursuant to an underlying, valid contract of indemnity insurance. 27.16 Where there is an underlying valid contract of indemnity insurance, however, an insurer who pays for a loss is not denied the rights of subrogation that would ordinarily arise, merely because the payment is made for a loss which is in fact outside the policy. In King v Victoria Insurance Co Ltd,4 where the underlying contract of insurance was valid, it was said that insurers would be entitled to exercise their rights of subrogation by virtue of a “payment honestly made by [them] in consequence of a policy granted by them and in satisfaction of [the insured]”. It was not open to the third party, against whom the insurers subsequently brought an action, to argue that the insurers had no rights of subrogation, because the payment was a “voluntary” payment to a “stranger”, which did not carry the normal consequences of a payment to an assured under a policy.The insurer must “pay for” the loss
27.17 The Marine Insurance Act 1906, sections 79(1) and 79(2), expressly provide that an insurer is subrogated to relevant rights of his assured where he “pays for” a total or partial loss.The extent of the payment required
27.18 Under the general law, an insurer cannot exercise any right of subrogation at least until he fully performs his obligation to indemnify the assured under the policy.5 For this purpose, “fully performs his obligations” may require the insurer to satisfy all claims arising out of the same incident, for which a single premium is paid under a single policy. It is insufficient for the insurer merely to satisfy the particular claim in respect of which he asserts a right to be subrogated.6 27.19 Doubt has sometimes been expressed about whether an insurer’s right of subrogation only arises once the assured has been fully indemnified for his actual losses, where that loss exceeds the sums payable and paid by the insurer under the policy.7 The preferable view may be that an insurer’s right of subrogation becomes exercisable once the insurer fully indemnifies the assured as required by the policy; but that, at least under non-marine policies, the manner in which the right is exercised may be affected by whether the assured has obtained a full indemnity against his actual loss. A non-marine authority suggests that, if the policy provides only a partial indemnity, and the assured wishes to bring proceedings to enforce his rights against a third party, the assured may be entitled to remain in control of the proceedings—to be “dominus litis”—until he receives a full indemnity against his actual loss.8 Following Napier v Hunter,9 however, that probably cannot apply to uninsured losses which fall below a policy excess. 27.20 Even if such a qualification does generally exist, it is unclear how far it can apply to marine insurance contracts. First, where an assured is fully insured under a valued policy, the agreed value is conclusive between the parties to the policy as to the value of the subject matter, in the absence of fraud.10 The parties are estopped from disputing that the value of the thing insured is as agreed.11 The assured should similarly be estopped from denying that the amount paid to him under the policy, in accordance with the valuation, has fully indemnified him for his losses. On that assumption, whatever might otherwise be the case, the insurer would be entitled to control any proceedings even if the assured’s actual loss exceeds the agreed measure of the indemnity.12 27.21 Second, where an assured is underinsured under a valued policy or an unvalued policy, the assured will not be estopped from denying that he has been fully indemnified against either the agreed measure of his loss (if the policy is valued) or his actual loss (if the policy is unvalued), by payment of the lesser insured sum. Nevertheless, the Marine Insurance Act 1906, section 81, deems an assured to be his own insurer in respect of the uninsured balance under a valued policy or an unvalued policy. It has been suggested that the insurer may be able to argue that payment under the policy, together with the assured’s own responsibilities as deemed self-insurer, provide a full indemnity against the assured’s actual loss—at least for the purpose of determining whether the insurer acquires and can exercise rights of subrogation.13 27.22 Assuming that an assured under a marine insurance policy is sometimes entitled to remain dominus litis, despite full indemnification by the insurer under the policy, the significance of that qualification must not be overestimated.14 An insurer under a policy which in terms provides only a partial indemnity can take steps to protect himself. First, even in the absence of express contractual provision, the insurer may obtain an injunction, restraining proceedings by the assured, unless the assured undertakes to include the insured loss in his claim against the third party; the assured’s freedom of action in those proceedings is also limited by his general duty not to prejudice the insurer’s right of subrogation.15 Second, express contractual provision may afford the insurer a right to control the proceedings—even where such a right would not otherwise arise. Thus, in particular, the International Hull Clauses, clause 49.1.4, imposes a duty on an assured to take reasonable steps, inter alia, to “cooperate with the Leading Underwriter(s) in the taking of such steps as may be reasonably required to pursue any claims against third parties”.16 That duty applies whether or not the insurers have paid a claim or agreed to pay a claim or potential claim under the policy. Where such a duty is expressly incorporated into the contract of insurance, it would appear to displace any entitlement that an assured might otherwise retain to control the conduct of proceedings to enforce his rights of action against third parties, whether or not the insurers have indemnified him under the policy.The nature of the payment
27.23 Although the Marine Insurance Act 1906, section 79, provides that an insurer is entitled to be subrogated on “payment” for a loss, those words should not preclude rights of subrogation where the insurer provides some other agreed form of indemnity for an assured’s loss.17The timing of the payment
27.24 An insurer should ensure that he makes the required payment to the assured before he commences any action against a third party. An action commenced by the insurer, at least if brought without the assured’s initial authority or perhaps later ratification,18 will not be regarded as effectively commenced.19 It appears that that defect cannot be cured simply by the insurer subsequently fully indemnifying the assured.20The extent of the insurer’s right of subrogation
A right of subrogation until the insurer has been fully recouped for sums overpaid
27.25 Consistently with its underlying rationale, an insurer’s right of subrogation must end once the insurer has fully recouped the sums overpaid to the assured by way of indemnity. Put differently, an insurer’s right, vis-à-vis his assured, to insist that the assured’s rights against third parties are exercised for his benefit should endure only as long as the insurer would have a claim to recoupment in respect of some or all of any recovery obtained by the assured from the third party. That limitation applies to cases of total and partial loss alike. The same point may sometimes be made by statements that an insurer would be subrogated to the assured’s rights “to the extent of” the indemnity paid.21The rights of the assured to which an insurer is entitled to be subrogated
Only rights held by the assured
27.26 An insurer’s right of subrogation, narrowly conceived, can only arise in respect of rights which the assured holds against third parties. The loss insured against might occur in circumstances in which the assured acquires no right of action against a third party—for example, because the assured has effectively excluded any liability on the part of the third party for the loss by a prior contract with the third party.22 Similarly, an insurer’s right of subrogation, narrowly conceived, can only be exercisable in respect of subsisting rights of the assured against third parties. Thus an insurer’s right of subrogation is effectively limited if, for example, a right of action which has accrued to the assured against a third party in respect of the loss insured against has been extinguished or become unenforceable by a time bar, or if, for example, the right of action has been effectively released by the assured by an effective settlement with the third party.23 27.27 An important caveat is nevertheless required. Whilst the fact that an assured has no (subsisting) right of action against a third party in respect of the loss insured against prevents the insurer from exercising his right of subrogation in respect of that right, that does not mean that the insurer has no claim whatsoever.24 If the assured has previously obtained a recovery from a third party which diminishes the insured against loss, pursuant to a right of action which no longer exists, the insurer has a claim to recoupment for the amount of the indemnity overpaid to the assured.25 Furthermore, an insurer may be entitled to relief against the assured where the assured has been responsible for “prejudicing” the insurer’s right of subrogation, by his action or perhaps inaction.26Only rights of the assured, the exercise of which will diminish the loss insured against
27.28 An insurer is not entitled to be subrogated to every subsisting right held by the assured against third parties. The Marine Insurance Act 1906, section 79, expressly provides that an insurer is subrogated to “all rights and remedies of the [assured] in and in respect of [the insured] subject-matter as from the time of the casualty causing the loss”.27 The provision should be given a purposive interpretation, consistently with leading pre-1906 judicial statements,28 with the rationale of the insurer’s right of subrogation, and with the extent and rationale of the insurer’s associated claim to recoupment. A marine insurer should be entitled to be subrogated to rights of the assured, regardless of their legal quality, which if exercised will be regarded as diminishing the losses against which the assured has been indemnified by the insurer.29 27.29 The test cannot be purely factual. It contains a normative component which it is impossible to ignore: should the exercise of the right in question be considered to diminish the loss insured against? An insurer’s right of subrogation is by no means limited to rights of action against third parties who wrongfully caused the loss insured against.30 Many cases ordinarily cited in this context actually concern whether an insurer can treat a recovery previously obtained by an assured as reducing his liability to the assured for the loss insured against;31 or whether, having paid the assured, the insurer has a claim to recoupment against the assured to the extent that the recovery reduces the loss for which the indemnity was paid.32 Such questions should, however, be answered consistently by the law.33The exercise of the insurer’s right of subrogation
The insurer’s entitlement to bring or continue proceedings in the name of the assured
27.30 The essence of the insurer’s right of subrogation is that, on indemnifying his assured, the insurer is entitled to insist that certain rights, held by the assured against third parties, are exercised “for his own benefit”—for the purpose of enabling the insurer to recoup the amount of the indemnity paid to the assured. In practice, that has the consequence that the insurer is entitled to bring proceedings, or to continue existing proceedings, in the name of the assured. It is fundamental that an insurer is not entitled by subrogation to bring an action in his own name; the cause of action against the third party remains the assured’s. To that extent, an insurer who is subrogated to an assured’s rights is in a different position from an insurer who has taken a legal assignment.34 27.31 A further corollary of the fact that the insurer’s right of subrogation gives the insurer no new, independent cause of action is that an insurer cannot effectively commence any action against a third party before he fully indemnifies the assured under the contract, without either the assured’s initial authority or perhaps his subsequent ratification;35 such an action is a nullity.36 The defect cannot be cured simply by the insurer subsequently fully indemnifying the assured.37 27.32 If the assured refuses to lend his name to proceedings, after being fully indemnified by the insurer under the policy, the insurer has two major options. He might bring proceedings seeking an order compelling the assured to lend his name. However, the modern and less circuitous course would be for the insurer to bring an action against the third party and the assured. In that action, he would claim an order that the assured authorise him to proceed against the third party in the assured’s name, and would seek to proceed—once so authorised—against the third party.38The assured’s duties in relation to his rights of action
Generally
27.33 In the absence of express provision, it may be that an assured has no duty to bring or continue proceedings, nor any more limited duty to ensure that his causes of action, to which the insurer is or may be subrogated, are prejudiced by his inaction—for example, by failing to ensure that any cause of action is not prejudiced by a time bar.39Special provision—express duties relating to proceedings in the standard forms
27.34 A duty may of course be expressly imposed on an assured by the contract of insurance, requiring the assured to take active steps to preserve his causes of action against third parties. Marine insurance standard forms contain important examples of such a duty. 27.35 In the case of cargo insurance, the Institute Cargo Clauses impose a duty on the assured, his employees and agents “to ensure that all rights against carriers, bailees or other third parties are properly preserved and exercised”.40 The insurer has a corresponding obligation to reimburse the assured for the sums “properly and reasonably incurred” by the assured in performance of that duty.41 It appears that breach of that term does not entitle the insurer to repudiate his duties, but merely renders the assured liable to pay damages to the insurer, which the insurer may set off against his liability to the assured under the policy.42 The measure of damages for breach of such a term should probably represent the value of the insurer’s lost opportunity to obtain recoupment of the amounts paid by way of indemnity to the assured.43 27.36 In the case of hulls insurance, the International Hull Clauses, clause 49, now makes very detailed provision for duties on the part of the assured with regard to potential recoveries.44 Whether or not the insurer has paid a claim or agreed to pay a claim or potential claim under the policy, the assured has duties to take reasonable steps to:- “49.1.1 assess as soon as possible whether there are any prospects of a recovery from third parties in respect of matters giving rise to a claim or to a potential claim under this insurance
- 49.1.2 protect any claims against such third parties if necessary by the commencement of proceedings and the taking of appropriate steps to obtain security for the claim from third parties
- 49.1.3 keep the Leading Underwriter(s) and the appointed average adjuster (if any) advised of the recovery prospects and any action taken against third parties
- 49.1.4 cooperate with the Leading Underwriter(s) in the taking of such steps as may be reasonably required to pursue any claims against third parties.”
That clause makes further express provision for the insurer to reimburse the “reasonable costs” incurred by the assured pursuant to those duties “in the same proportion as the insured losses bear to the total of the insured and uninsured losses”.45 In addition, further express provision is made for the reimbursement of “reasonable costs” incurred by the assured pursuant to his duty under clause 49.1.2 to protect any claims against third parties in respect of matters giving rise to a claim or to a potential claim under the policy, even though no claim is recoverable under the policy, if the assured has obtained the insurer’s written agreement to the incurring of such costs before they are incurred.46