To trust or not to trust, what happens to insurance proceeds held by an insolvent insured?

The claim in Wood v Desai¹ concerned an attempt by third party claimants to obtain the monies paid under a professional indemnity insurance policy to the insured professional, against which the claimants alleged a professional negligence claim.

Although the insured’s liability in respect of the professional negligence claim had not been established, insurers had paid out the policy limit in settlement of their liability under the policy, as they were contractually entitled to do. Subsequent to the insurance payment, the insured went into liquidation. The claimants argued that they had a proprietary interest over the insurance monies which the insured had received by way of a constructive trust or, in the alternative, unjust enrichment.

Background

Boscolo Limited (the “Company”), provided interior design and project management services. The claimants issued a professional negligence claim against the Company following an alleged breach of contract for interior design services provided in relation to an apartment in Hampstead, London. The contract between the parties incorporated the British Institute of Interior Design Conditions which required that the Company obtain and maintain professional indemnity insurance. The Company already had such cover with a limit of indemnity of £250,000 for any one claim, in excess of £500.

After the claimants’ claim had been notified, insurers initially took control of the defence, and the parties corresponded to explore settlement. However, the Company was in financial difficulty at that stage. As permitted under the claims conditions of the policy, insurers paid the Company the limit of indemnity “in connection with” the claim and relinquished control of the defence. The Company instructed their own solicitors to handle the claim, who were subsequently paid part of the indemnity on account of costs.

The claimants issued proceedings against the Company for the sum of £700,000 in contract and negligence, arguing there was a constructive trust over the balance of the insurance monies and, in the alternative, claimed unjust enrichment or damages for breach of contract. The claimants also issued proceedings against insurers for intentionally procuring a breach of contract and/or knowingly assisting in a breach of trust.

The Company subsequently entered voluntary liquidation. The Company’s only remaining asset was its bank balance of £246,000 which included the balance of the insurance monies paid under the policy. It had a number of creditors, the biggest of which was one of the directors of the Company itself. Liquidators sought directions from the Court under section 112 of the Insolvency Act in relation to the monies.

The parties’ positions

The claimants argued that they had a proprietary interest in the insurance monies as follows:

1. On a true construction of the contract for services, the claimants were beneficiaries of the policy in equity. As such, any insurance monies received by the Company were held by them as agent or trustee and such a term should be implied as it was so obvious that it would go without saying this was the intention and would be necessary to give the contract business efficacy in the circumstances.²
2. In the alternative, the claimants argued the insurance monies were subject to a constructive trust and it would be unconscionable for the Company to assert any beneficial title over them as the monies had been provided to protect the Company’s clients against potential insolvency. If the Company retained the insurance monies or paid them to their creditors, those monies would have “come to the wrong hands” in the eyes of equity.³
3. A constructive trust would also prevent unjust enrichment of the Company where the insurance monies had been paid at the expense of the claimants’ clear contractual protection pursuant to the conditions for insurance under the contract.

In response to the constructive trust argument, liquidators relied upon case law which established that no special rights applied to insurance monies in circumstances of insolvency and accordingly, the insurance monies should remain part of the Company’s general assets.⁴ Liquidators also disagreed that it was an implied term in the contract that an effective policy had to be in place.

They did not agree that the insurance monies had been paid in acknowledgment of the Company’s liability, particularly where the Company’s liability had not been established at that point in time, as proceedings remained ongoing. Further, it was not unconscionable for the Company to treat the payment as part of its general assets in the absence of express terms confirming that any property obtained by the Company would be held on trust for its clients.

Liquidators challenged the claim for unjust enrichment on the basis that the legal conditions required under case law did not arise, particularly in circumstances where the claimants had not been deprived of any benefit that they would have otherwise been entitled to by way of the policy. The policy was granted to the Company for the Company’s benefit.

Judgment

Justice Paul Matthews held the insurance monies belonged to the Company and, under the usual insolvency process, the liquidators were entitled to deal with them as necessary. He found as follows:

1. Although a professional indemnity policy requires a claim to be notified, in order for an insured to be indemnified, the insured must first suffer a loss i.e. civil liability must be established (following the well-known authority Post Office v Norwich Union⁵). In this case, no such liability had been established to the claimants because negligence proceedings were ongoing. The Judge acknowledged that it would not be impossible for a professional indemnity policy to be held in some form of trust by the insured for the benefit of its clients, but in the absence of a form of specific agreement or declaration of trust that would not be the case. The policy in this case was not expressed to be for one project or for any particular clients, but was for all work on an ongoing basis.

Turning to the wording of the Code of Conduct which had been incorporated into the contract between the parties (which the claimants pointed to in order to distinguish this matter from prior case law), the responsibilities to obtain insurance were expressly owed to the “institute and the interior design profession” and not necessarily for the benefit of any clients. This necessarily also applied to insurance proceeds, and therefore the Company did not hold the insurance proceeds for the benefit of the claimants.

2. The Judge did not agree that a term should be implied to the effect that the clients should have a proprietary interest in the insurance proceeds, as it was not so obvious that it was required to give business efficacy to the contract. The absence of case law successfully supporting the claimants’ argument was a clear indicator that such an implication was incorrect. The insurance made business sense without the need to imply such a term in that it was obviously beneficial to the Company to have professional indemnity insurance.

3. As to the constructive trust: first, a payment made by an insurer under a contractual policy right, before liability is established, to discharge the insurer’s possible future obligations to indemnify under the policy, is not necessarily the traceable exchange product of the contractual right to indemnity. There is no contractual right to an indemnity until liability to the third party is established. Further, the Judge disagreed with the claimants’ application of Angove’s Pty. In the circumstances and in light of the mechanics of an indemnity policy, the insurance monies had been paid to the “right” (as opposed to the “wrong”) hands.

4. Although he was not required to do so given that the claimants’ position on a constructive trust was incorrect, the Judge considered the claimants’ unjust enrichment claim. There was no unjust enrichment as no additional or “over” value was gained by the Company: the potential rights under the policy had been exchanged for the payment. Further, no loss has been suffered by the claimants because of the payment by the insurers,

The Judge therefore directed that the insurance payment belonged to the Company beneficially.

Discussion

Justice Paul Matthews’ decision highlights the common law position where the Third Parties (Rights against Insurers) Act 2010 does not apply⁶. The timing of (i) the receipt of the insurance monies and (ii) the insured’s insolvency (i.e. after the payment) were key factors in the decision. If the sequence of events had been different, the Third Parties Act may have allowed the claimants to bring both the liability claim and a claim against insurers under the policy, and potentially obtain a different outcome It is understood that an application for permission to appeal has been made.

Footnotes

1. [2024] EWHC 1893 (Ch).
2. The claimants referred to the Privy Counsel’s application of the Supreme Court’s decision in Marks & Spencer’s plc v BNP Paribas Securities Services Trust Co (Jersey) Ltd [2016] AC 742 on the rules for implication of terms in Ali v Petroleum Company of Trinidad and Tobago [2017] ICR 532.
3. Pursuant to Lord Sumption’s judgment in Angove’s Pty Ltd v Bailey [2016] 1 WLR 3179 SC.
4. Re Harrington Motor Co Ltd, ex p Chaplin [1928] Ch 105, Hood’s Trustees v Southern Union General Insurance Co of Australasia [1928] Ch 793. Notably, this case law led to the enactment of The Third Party (Rights Against Insurers) Act 1930 which outlines that such monies would be earmarked in certain circumstances.
5. [1967] All ER 577.
6. Or the Third Parties (Rights Against Insurers) Act 1930 if still relevant under the transitional provisions.