Who gets what? Dividing recovery proceeds between insured and insurer

Technology Swiss Pty Ltd v AAI Limited t/a Vero Insurance [2021] FCA 95

The Federal Court of Australia recently considered how to allocate between insurer and insured the proceeds of a recovery action against a third party.  The case emphasises that an insurer has a right to share in the proceeds of a recovery action only to the extent that the insurer provides indemnity under the policy.  Where the insurer pays a settlement to the insured for costs incurred by the insured which are not part of the indemnity provided by the policy then, absent a contractual right, the insurer has no right to share in the fruits of a recovery action.  If the insurer wants to procure this right, it needs to ensure that the settlement agreement with the insured makes this clear.

Background

Technology Swiss Pty Ltd (TS) and Vero entered into a marine cargo policy which provided for cargo losses to be paid on the basis of insurance and freight (CIF) plus 10%, with an excess of $250 for each loss and an overall policy limit of $500,000 for any one conveyance or location.

In December 2014, TS shipped a cargo of fog cannons from Melbourne to Bangkok with a CIF value of $770,095.58.  The contractual carrier was a freight forwarder called Famous Pacific Shipping (FPS).  The cargo was damaged in transit, so TS made a claim under the policy for $500,000.  Vero accepted liability to indemnify TS but disputed the quantum of the claim. 

Vero had received a repair estimate of $200,000 and offered to pay that sum, but TS considered that the goods were a constructive total loss and gave notice of abandonment.  TS then issued proceedings against Vero for $500,000, claiming that the goods were a constructive total loss because the goods would need to be sent to the manufacturer in Italy for repair at a total cost which would exceed both the value of the repaired goods and the policy limit.

TS also claimed ongoing storage fees that had been incurred, saying that these were costs incurred to minimise any further loss or damage.  TS said that this amount was payable in addition to the policy limit.

In due course, Vero paid TS $200,000 pursuant to the policy and entered into negotiations with TS to settle.  Ultimately, the matter settled, with Vero paying TS a further $425,000.

After settlement, the parties wished to bring joint recovery proceedings against FPS but could not agree on how they should share the legal costs and any sum recovered. In time TS simply issued proceedings itself against FPS.  It recovered $863,758.70, comprising the invoice value of the goods, freight and interest, but with no sum awarded for storage costs.  Legal costs were also ordered in TS’s favour.

TS then issued proceedings in the Federal Court, seeking a declaration as to how the recovered sum should be apportioned between itself and Vero. 

Federal Court judgment

The starting point was the ordinary principle that an insured whose loss is covered by a policy of indemnity insurance is not entitled to be more than fully indemnified for its loss.  An insurer who has paid money to an insured to reduce an insured loss has the right to pursue the third party responsible for the loss in respect of any recovery. 

The question that then arises is how the recovered money ought to be allocated between the insured and the insurer.  A related question is what is the proper allocation where the insured has recovered full payment from the third party, having been partially indemnified by the insurer?  The issue here was that there was a range of possible calculations, producing a range of outcomes, which would favour one party more than the other.

It was clear that Vero should recover the $200,000, as this was a payment under the policy.  More difficult, however, was how the $425,000 paid by Vero in the subsequent settlement with TS should be treated.  Vero argued that it was also a payment under the policy.  However, the Court held that this was simply a sum paid to settle the dispute between the parties.

The Court noted that the settlement agreement did not break down the $425,000 into components – it was simply a lump sum.  Further, there was nothing in the settlement agreement which allocated any amounts recovered from FPS between the parties. 

The Court referred to a number of authorities to the effect that an insurer does not acquire a right of subrogation where it makes payments not under the policy but rather to conclude a dispute.  But the insurer would have a right of subrogation if it was mutually intended by the parties that the payment by the insurer was a bona fide compromise of the claim made under the policy.  This would also be the case where the insurer made a payment to compromise a dispute as to whether the policy would respond.   

The Court further noted that an insurer who wishes to maintain rights of subrogation for sums paid to settle a dispute about coverage should identify what is being paid to settle the claim to indemnity under the policy. In particular it noted that “if this requires agreement with the insured, as a matter of mutual commercial interest, so be it. If no clarity is given to the matter, an insurer cannot expect guesswork or surrogate ex post facto negotiation for its benefit."

Here, the Court confirmed that Vero was entitled to recover the full amount of $200,000 as this was a payment by way of indemnity under the policy.  With respect to the payment of $425,000, there was no clear bona fide mutual intention that the full amount was being paid by way of indemnification under the policy of the insured’s loss.  Instead, it was satisfied that $277,000 related to settlement of legal costs and $30,000 to storage costs.  These costs were not attributed to the provision of indemnity under the policy and Vero was not entitled to reimbursement of these amounts.  Vero was entitled to recoup the balance of $118,000.

Comment (Pauline Davies)

This decision makes it clear that insurers who wish to benefit from recovery proceedings where there has been a dispute over the extent of policy response must specify in the settlement agreement which part of the payment relates to the loss insured under the policy.  If it does not, then they run a risk that a court may attribute the payment to costs not indemnified under the policy and miss out on sharing in the fruits of the recovery.

Pauline Davies is a Partner at Fee Langstone