Arbitration Clause in General Insurance Policies – A Legal Gimmick to Avoid Liability

“If parties to a contract have agreed to something unreasonable, they should be treated as if they have not agreed at all and be released. This happens in the case of general insurance contracts and is dealt with here in the light of a recent decision.”

Introduction

1.   Recently, the Karnataka High Court in E-Spring Building Systems (I) Pvt. Ltd., Bangalore vs. Regional Manager, Tata AIG General Insurance Company Ltd., Bangalore 2006(3) Kar. L.J. 317 (decided on 22.03.2006) dismissed a petition under section 11(6) of the Arbitration and Conciliation Act, 1996 (‘the Act’) seeking appointment of an arbitrator to enter into reference and adjudicate the dispute between the parties.

Facts of the Case

2.  The respondent M/s. Tata AIG General Insurance Company Ltd. had issued an “All Risk Insurance Policy” in favour of the petitioner and a certain claim has been put forth by the petitioner  under the terms of the policy. However, the claim itself having been rejected by the respondent,  the petitioner had issued legal notice calling upon the respondent for appointment of an arbitrator, but the respondent remained silent, hence the petitioner filed a petition praying for intervention of the Court invoking section 11(6) of the Act.

2.1  The arbitration clause as contained in the policy reads as follows:

Clause 7: If any dispute or difference shall arise as to the quantum to be paid under this policy (liability being otherwise admitted) such difference shall independently of all other questions be referred to the decision of a sole Arbitrator, to be appointed in writing by the parties to or, if they cannot agree upon a single Arbitrator within 30 days of any party invoking arbitration, the same shall be referred to a panel of three Arbitrators comprising of two Arbitrators – one to be appointed by each of the parties to the dispute / difference, and the third Arbitrator to be appointed by such two Arbitrators and arbitration shall be conducted  under and in accordance with the provisions of the Arbitration and Conciliation Act, 1996.

It is clearly agreed and understood that no difference or dispute shall be referable to arbitration as hereinbefore provided, if the Company has disputed or not accepted liability under or in respect of this policy.

It is hereby expressly stipulated and declared that it shall be a condition precedent to any right of action or suit upon this policy that the award by such Arbitrator / Arbitrators of the amount of the loss or damage shall be first obtained”.

2.2   It transpires that the respondent had in fact disputed the liability for settling the claim or appointment of an arbitrator  on the premise that under the policy they were not liable to settle third party claims in terms of their reply dated 16.02.2006 which reads thus  “ …….. that as per policy conditions the arbitration can be invoked only when there is no dispute  on admission of liability under the subject policy. Any dispute relating to liability under the policy cannot be decided through arbitration ……”   (emphasis supplied)

2.3   The court observed that the arbitration clause provides for appointment of an arbitrator in the situation of a dispute relating to the quantum of compensation payable in respect of a claim i.e.  a referable dispute, which is a dispute relating to the quantum and (not) on the liability by the insurer.

2.4   The High Court held that “in the present case the insurer is denying the liability itself and therefore the arbitration clause does not spring into action,  i.e., it is as if there is no arbitration clause  for a dispute of this nature. If such is the agreement providing for the very appointment of an arbitrator the question of appointing an arbitrator either by the volition or by the intervention of the court does not arise at all.  Situation is not one which fits into the situation contemplated under section 11(6). No occasion to entertain this petition, CMP is dismissed”.

2.5    It is interesting to note that almost all the General Insurance Companies have incorporated in their policies an identical arbitration clause as quoted above. Now to unearth the mischief one has to note the ingredients of the arbitration clause as follows :

(a) If any dispute or difference shall arise as to the quantum to be paid under this policy ; liability being otherwise admitted.

(b) It is clearly agreed and understood that no dispute shall be referable to arbitration if the Company has disputed or not accepted liability under or in respect of this policy.

(c) It is hereby expressly stipulated and declared that it shall be a condition precedent to any right of action or suit upon this policy that the award by such Arbitrator / Arbitrators of the amount of the loss or damage shall be first obtained.  (emphasis supplied)

2.6  A careful reading of the components of the arbitration clause reveals that if the insurance company has accepted the liability then only the dispute relating to the quantum of compensation can be referred to arbitration. In other words, in case the insurance company has not accepted the liability then no dispute in respect of the policy can be referred to arbitration, this has also been upheld by the aforesaid judgment of the Karnataka High Court. Further, if one wants to file a civil suit in the court he is bound to first obtain an award of the arbitration tribunal.

2.7  In the result a strange situation arises that in case the insurance company has not accepted the liability one can neither refer the dispute for arbitration nor file a suit in the court. In effect the insured is remediless if the insurance company does not accept its liability under the policy.

Restriction on Legal Proceedings

3.  Pursuant to section 28 of the Indian Contract Act, 1872  every agreement in restraint of legal proceedings is void. This section applies to agreements which wholly or partially prohibit the parties from having recourse to a court of law. If, for instance, a contract were to contain a stipulation that no action should be brought upon it, that stipulation would be void, because it would restrict both parties from enforcing their rights under the contract in the ordinary legal tribunals. Therefore it stands concluded that aforesaid component (c) of the arbitration clause is void being in violation of section 28 of the Indian Contract Act, 1872.

Serious terms of a contract must be specifically brought to the notice of the parties

 

4. The Bombay High Court in Road Transport Corpn Vs. Kirloskar Bros Ltd    (AIR 1981 Bom 299) said that it is for the carrier to plead and prove that the print on the receipt was brought to the notice of the consignor and that he had agreed to and accepted the same. The Court held that it is necessary that serious terms of a contract must be specifically brought to the notice of the parties whose rights are sought to be curtailed. In Oriental Fire and General Insurance Co Vs. New Suraj Transport Co (AIR 1985 All 136) the consignment note was not even signed by the booking party or his agent, the Allahabad High Court held that the consignor was not bound by a printed term about the exclusive jurisdiction. The Court said that something more must be done than merely printing the terms on consignment documents.

4.1 In Road Transport Organisation of India vs. Barunai Powerloom Weaver’s Coop Society Ltd (1994 84 Cal LT 174)           the Calcutta High Court held that the law requires that before making a person bound by any such term ( a clause in a consignment note as to exclusive jurisdiction ) it must be proved that the same was brought to the knowledge of the consignor in such a way that it should seem to be the result of a mutual assent. In Grandhi Pitchaiah Venkatraju & Co vs. Palukuri Jagannadham & Co (AIR 1975 AP 32) where a consignment way bill contained the words “subject to Calcutta jurisdiction”,  the Andhra Pradesh High Court ignored it since it was not one to which the plaintiff assented.  Following these principles in East India Transport Agency vs. National Insurance Co (AIR 1991 AP 53 FB) the Andhra Pradesh High Court came to the conclusion that a term as to the place of suit was not binding on the insurer who had paid out the consignee and who was  then suing the carrier for the negligent loss of the goods unless it could be proved that the insurer too was made or was otherwise aware of the terms.

Judicial intervention for rescuing parties from unreasonable terms

5.  In Central Inland Water Transport Corpn vs. Brojo Nath Ganguly (1986 3 SCC 156, 206)  the Supreme Court has noted that the word “unconscionable” means something as shows no regard for conscience and which is irreconcilable with what is right or reasonable. The matter before the court was a service contract. A clause in the contract empowered the employer (a Govt. undertaking) to remove an employee by three months’ notice or pay in lieu. The employee, who contested the validity of this clause, was removed by handing him over a three months’ pay packet. The Supreme Court regarded the clause to be constitutionally as well as contractually void. The court added that any term which is so unfair and unreasonable as to shock the conscience of the court would be opposed to public policy therefore also void under section 23 of the Contract Act. The contract was not based upon a real consent. It was rather an imposition upon a needy person. The term was unconstitutional because it was so absolute that any officer could be made a target irrespective of his conduct, good or bad.

5.1 Commenting upon this expanding power of the court to relieve a party from the consequences of his own contract, a learned writer J.H. Baker says that “freedom of contract turns out to be a misleading guide when so many contracts are not free in the economic sense. The notion of contract as private legislation appears less attractive when legislation is always drawn up one-sidedly. Judges are empowered to read in terms which are not there, or read out terms which are there. They are to impose reasonableness. Whatever is not reasonable is not law.   If the parties have agreed to something unreasonable, they should be treated as if they have not agreed at all and released”(J. H. Baker, From Sanctity of Contract to Reasonable Expectation, Current Legal Problems 1979).

Conclusion

6. It has been opined by the learned author Anthony T Kronman, in Paternalism and the Law of Contracts, (1988) 32 Yale Law Journal 763The law plays in this respect the role of a parent. A person who would give away too much of his own liberty must be protected from himself, no matter how rational his decision or compelling the circumstances.” Therefore, it is expected that the courts and/or INSURANCE REGULATORY AND DEVELOPMENT AUTHORITY shall take suo motu  cognizance of the legal gimmick being played by the General Insurance Companies in drafting their arbitration clause and if the insured has agreed to something unreasonable, he should be treated as if he has not agreed at all, and released. (END)

 

Note: The views expressed are my personal and a view point only.

 

Author:

Narendra Sharma,

Consultant (Business Laws)

(Mobile-9229574214)

E-mail: nkdewas@yahoo.co.in

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