Reinsureds' Obligation Under The Uberrimae Fidei Doctrine

In the recent decision of Allendale Mutual Insurance Company v. Excess Insurance Company Ltd., 1998 WL 59411 (S.D.N.Y. 1998), District Judge Scheindlin shed some light on reinsureds' obligation of good faith toward their reinsurers. In that case, a subsidiary of Allendale issued an insurance policy that covered physical losses at a warehouse in France. This policy was 100% reinsured by Allendale, which in turn reinsured 95% of the risk.¹ Allendale ceded almost 15% of the risk to the defendants for the first half of 1991 by means of a broker's slip. Before initialing the slip, the defendants added this handwritten condition: "sub[ject] to all rec[ommendation]s complied with within 60 days of receipt of survey by reassured." The slip also briefly described the warehouse and disclosed that it was "non-sprinklered." Shortly after the contract became effective, the warehouse was surveyed by an engineer who then drafted a report containing certain recommendations. These recommendations regarded installing of fire hoses, a burglar alarm, a sprinkler system with a pump and second water supply, and implementing welding procedures. Next to each recommendation in the report was a comment that, with the exception of the burglar alarm and welding procedures, the insured did not plan to make the suggested change. In fact, the insured made none of the suggested changes. The defendants, who never requested a copy of the survey report, were not informed by Allendale of these recommendations or of the insured's noncompliance.

At the expiration of this contract, the parties entered into a new contract. This new contract was substantially similar to the old one, including the "non-sprinklered" disclosure; however, this contract did not contain the "subject to all recommendations" condition that appeared on the previous contract. Shortly after the contract became effective, a fire completely destroyed the warehouse. Six months afterward, the defendants rescinded the contract on the basis, inter alia, of Allendale's failure to disclose the survey report recommendations.

In deciding for the defendants on this issue, the court relied on the doctrine of uberrimae fidei, under which a reinsured owes a duty of utmost good faith to its reinsurer. The court went on to describe the core of that duty as "a basic obligation of a reinsured to disclose to potential reinsurers all material facts regarding the original risk of loss, and failure to do so renders a reinsurance agreement voidable." The Court recognized that the burden is on the reinsured to volunteer all material facts, while the reinsurer has no duty to inquire. With respect to the reinsured's duty, the Court announced that "even an innocent failure to disclose a material fact" will make the contract voidable. The decision was grounded on the Court's determination that the insured's compliance with the surveyor's recommendations was material to the reinsurers, even though the reinsurers had not required that condition in the policy sued upon. Regarding materiality, the Court noted that information is "'material' if, at the time of contract formation, a reasonable reinsurer would refuse to cover the risk or would charge a higher premium if the disclosure were made." The Court elaborated - "[m]ateriality is generally a question of fact, and is determined by consideration of what a reasonable reinsured would have believed to be material to the reinsurer at the time of contracting." Applying this standard, the Court concluded that during the negotiation of the second contract Allendale reasonably should have looked to the clauses of the previous contract in identifying information that the defendants would believe to be material.

The "subject to all recommendations" clause of the previous contract put Allendale on notice that the defendants considered the survey report's recommendations and their implementation important. Although this clause only appeared in the first contract, which was no longer in effect, the Court held that under the doctrine of uberrimae fidei the defendants were under no obligation to notify Allendale at each renewal of the facts they considered material. The Court reasoned that such an obligation would effectively impose on reinsurers a duty of inquiry, which would frustrate the information-forcing purpose of the uberrimae fidei doctrine.

The Court did concede that, over time, information sought in one contract may become stale if, for instance, the parties renewed the contract for years without including the "subject to all recommendations" clause. The Court rejected, however, the possibility that the defendants would no longer consider the insured's compliance with the survey report's recommendations to be material only six months after the previous policy was conditioned upon it. Allendale argued that the recommendations could not have been material because many of them concerned the addition of a sprinkler system and both contracts disclosed that the warehouse did not have a sprinkler system. The Court acknowledged that if Allendale had good reason to believe that the defendants did not consider all of the recommendations to be material, then selective disclosure on the subject might have been sufficient; however, agreeing to an unsprinklered warehouse is not the same as consenting to coverage of an unsprinklered warehouse after a professional surveyor recommended that sprinklers be installed. The clause suggests, the Court said, that the defendants did not consent to be bound without the unqualified approval of a surveyor; thus, the surveyor's recommendations were material despite the defendant's knowledge that the warehouse was "non-unsprinklered."

Accordingly, under District Judge Scheindlin's interpretation of the uberrimae fidei doctrine, reinsureds should assume that once a reinsurer has placed a condition in a contract, information relevant to that condition continues to be material to the reinsurer during succeeding contract periods.

¹ Although technically this was a retrocession agreement, the Court describes the parties as "reinsured" and "reinsurer." It does not appear that this distinction is relevant for purposes of the ceding company's obligations; therefore and for the sake of consistency, we have adopted the same titles used by the court.