Full disclosure – the materiality test for insurance explained

March 1st, 2020
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‘The object of devising a means or criterion for determination of the materiality of undisclosed facts must surely be to ensure … that justice is done to both parties. The insurer is to be protected against non-disclosure which could … prejudice him but at the same time the insured ought not to be unfairly required to forfeit his rights under a policy which he entered into in good faith …’ (Mutual and Federal Insurance Co Ltd v Oudtshoorn Municipality [1985] 1 All SA 324 (A)).

It is against this backdrop that this article considers the materiality test outlined in s 59 of the Long-Term Insurance Act 52 of 1998 and s 53 of the Short-Term Insurance Act 53 of 1998. The test for materiality is that: ‘The representation or non-disclosure shall be regarded as material if a reasonable, prudent person would consider that the particular information … should have been correctly disclosed to the insurer so that the insurer could form its own view as to the effect of such information on the assessment of the relevant risk’ (my italics).

The causal connection is between the non-disclosure and the conclusion of the contract and not between the non-disclosure and the claim event (Ombudsman for Long Term Insurance ‘Annual Report 2018’ www.ombud.co.za, accessed 3-2-2020 at 16 (the Ganas/Momentum case)). This article attempts to determine whether the test for materiality is indeed fair and just to both the insurer and insured.

Origins of the materiality test

The materiality test was first cemented in the Mutual and Federal Insurance case. Briefly put, the insurer rejected Oudtshoorn Municipality’s claim after it discovered that the municipality failed to disclose the hazardous height of an electric pole near an aircraft runway. After considering the position in English law and Roman-Dutch law, the court held that the reasonable man would consider this information to be material and disclose it to the insurer when assessing the risk. Therefore, the insurer was entitled to repudiate the claim when an aircraft collided with the pole (see paras 2 – 11).

It is noteworthy that –

  • the test originates from the ‘reasonable insurer test’ that favoured the insurer;
  • the purpose of the ‘reasonable man test’ was to prevent fraud, encourage good faith and to treat parties equally while preventing the insured from unfair exposure to forfeiture of his rights; and
  • the undisclosed material fact caused the event that led to the claim.

Identifying the limitations of the materiality test – the barriers to justice and fairness

The shortfall of the materiality test, as set out in the Mutual and Federal Insurance case, was first identified by Didcott J in Pillay v South African National Life Assurance Co Ltd 1991 (1) SA 363 (D). Didcott J held that the unjust implication that an insurer is entitled to cancel the contract even in the event of a breach of warranty by the insured when there is evidence that had the insurer not been misled, it would still have accepted the risk but on different terms (MFB Reinecke and PM Nienaber ‘Mis- or non-disclosure: Reconstructing the policy’ www.ombud.co.za, accessed 3-2-2020 at 9). Although the court in Pillay dealt with breach of warranty, it still recommended that the law be revised to prevent an insurer from cancelling the contract on the grounds of misrepresentation, whether warranted or not (Reinecke and Nienaber (op cit) at 9).

Insurers have, in some instances, agreed to the application of what is termed as the ‘Didcott principle’ (the Ganas/Momentum case). However, although application of the principle is encouraged in the industry, the law is yet to be amended to afford an insured this protection (Reinecke and Nienaber (op cit) at 12 – 13). Therefore, strictly speaking, an insurer may elect not to consider the Didcott principle. The legislator’s intervention is, therefore, required.

One could argue that the Didcott principle is but a stepping stone when considering the ‘all or nothing’ approach of s 59 and s 53.

The dilemma posed by the materiality test became evident in the Ganas/Momentum case of 2018. Mr Ganas, the deceased, failed to disclose a blood sugar condition when applying for life cover. In 2018, the deceased passed away after a fatal shooting. When his spouse lodged a claim with the insurer, Momentum, the claim was rejected on the grounds of non-disclosure of material information at the application stage as the insured had failed to disclose his blood sugar condition. The insurer’s decision was upheld by the office of the ombudsman (the Ganas/Momentum case). However, following backlash from the public, the insurer accepted the claim and even changed its practice – where the deceased passed away in an incident of violence, the insurer undertook to pay the claim even if there was non-disclosure of material information, which would entitle it to reject the claim and rescind the policy.

The Ganas/Momentum case illustrated the disconnect between the materiality test and the principle that ‘in respect of insurance agreements in particular, they should be interpreted strictly against the insurer’ (Jerrier v Outsurance Insurance Company Limited [2015] 3 All SA 701 (KZP) at para 23). The main point of contention was that the materiality test does not consider the causal connection between the non-disclosure and the claim event. Instead, it only considers the causal connection between the non-disclosure and the conclusion of the contract (the Ganas/Momentum case and Reinecke and Nienaber (op cit) at 3).

In the Mutual and Federal Insurance case, the causal link between the non-disclosure and claim event was not addressed. However, it should be borne in mind that the claim event occurred as a direct result of the undisclosed information.

The ‘all or nothing’ approach of the current materiality test is not universally favoured. In this regard, there are countries that have taken further steps to afford an insured the necessary protection (Reinecke and Nienaber (op cit) at 11). For instance, the Australian Insurance Contracts Act 1984 affords the insured protection in cases of non-disclosure or misrepresentation of material information. If it is revealed that the insurer (had there not been non-disclosure) would still have concluded the contract but on different terms, the insurer is not entitled to cancel the contract. Instead, the insured’s claim is reduced proportionally (Reinecke and Nienaber (op cit) at 12 and ss 27–31 of the Australian Insurance Contracts Act). This approach is in line with the Didcott principle.

The German Insurance Contract Act 2008 goes even further and actually applies the causation principle (Reinecke and Nienaber (op cit) at 11). In this regard, notwithstanding the insurer’s right to terminate a contract where there was a non-disclosure of material information, the insurer ‘may still be obliged to pay a claim if the non-disclosed circumstance is not responsible for the occurrence of the insured event that gave rise to the claim’ (F Herdter and C Drave ‘Getting the deal through – insurance litigation 2016: Germany’ www.wilhelm-rae.de, accessed 3-2-2020 at 29). In terms of this approach, the non-disclosure is irrelevant if there is no causal connection between the non-disclosed information and the event that led to the claim (Reinecke and Nienaber (op cit) at 11). Naturally, both the Australian Insurance Contracts Act (s 31) and the German Insurance Contract Act make provision for addressing fraudulent and grossly negligent non-disclosure of material information and thereby putting in place measures to protect the insurer against prejudice.

It cannot be argued that the provisions of s 59 of the Long-Term Insurance Act and s 53 of the Short-Term Insurance Act are just and fair to both the insurer and insured. The current materiality test embodies an ‘all or nothing’ approach and limits the relevant factors to be considered solely to the nexus between the non-disclosed material information and assessment of the risk when the contract was concluded. The nexus between the actual loss and non-disclosed material information is not considered. This oversight is what led to the public outcry and change in an insurer’s practice in the Ganas/Momentum case.

Application of the materiality test

A few notable cases in which the criteria for the materiality test was analysed and applied are for example:

Although these matters solidified the materiality test in precedent, it would be fruitful to consider application of the test by the office of the ombudsman as the process paints a better picture of the inadequacies of the test.

Ombudsman for Long-Term Insurance: CR200 Non-disclosure – materiality – remedies

In the first case considered, the insured contracted for a life policy that included disability cover. The insured then sustained brain injuries in a motor vehicle collision. When he lodged a claim with the insurer, the claim was rejected, and the contract rescinded. The insurer argued that the insured answered a question relating to hypertension incorrectly and this amounted to a material misrepresentation. The office of the ombudsman held that such a misrepresentation was indeed material.

However, during assessment of the matter, it was revealed that had there not been a misrepresentation, the insurer would not necessarily have elected not to conclude the contract. Accordingly, the office of the ombudsman suggested that the insurer apply the Didcott principle. The insurer, using its discretion, agreed to the application of the Didcott principle and amended the policy and accepted the claim.

Ombudsman for Long-Term Insurance: CR153 Non-disclosure

In this case, the insured was the life insured under two policies. When the insured lost his ability to work due to Parkinson’s disease, he claimed from the insurer for disability benefit. However, his claim was rejected, and the insurer cancelled the policies due to non-disclosure of material information.

The insurer argued that the insured failed to disclose certain material medical information at application stage. The non-disclosed information was a visit to a neurologist, after the insured experienced difficulties with his back, neck and tremors in his hand. The neurologist suspected Parkinson’s disease but did not communicate this to the insured.

The office of the ombudsman found that the non-disclosure of the visit to the neurologist and the non-disclosure of the tremors constituted material non-disclosure and entitled the insurer to repudiate the policy. It was further held that although it was evident that the insured’s non-disclosure was ‘innocent’ – he was not aware that he suffered from early Parkinson’s disease – the office of the ombudsman could not find in favour of the insured as fraud is not a factor that is considered in the materiality test. In the circumstances, the insurer was entitled to rescind the policy.

These cases serve as an indication that the materiality test is not in line with current insurance law practices in that, inter alia, the ‘all or nothing’ approach may very well require the insured to unfairly forfeit his rights under a policy, which he entered into in good faith. In addition, even though a misrepresentation may have been made in good faith, the only factor that is considered is the misrepresentation and its bearing on assessment of the risk.

Conclusion

According to Joubert JA (the Mutual and Federal Insurance case), the purpose of the materiality test is to prevent fraud, encourage good faith and to treat parties equally while preventing the insured from unfair exposure to forfeiture of their rights. In my view, it cannot be argued that the ‘all or nothing’ implications of the materiality test serve this purpose. It is noteworthy that even though the Short-Term Insurance Act and Long-Term Insurance Act were recently consolidated into the Insurance Act 18 of 2017, the legislator has still not made substantive amendments to the provisions dealing with the materiality test (Donald Dinnie ‘Understanding non-disclosure’ www.cover.co.za, accessed 12-2-2020). Accordingly, intervention from the legislature is necessary having due regard to industry practices and the insured’s rights as they currently stand.

Tshephisho Somo LLB (cum laude) (UP) is a legal practitioner in Pretoria.

This article was first published in De Rebus in 2020 (March) DR 23.

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