Impact of global financial crisis to insurance industry

M.Z.M.Nazim

The present day global financial crisis has contributed to some critical thinking in the Insurance industry. The most important and the most relevant is the unstable situation of extreme danger and difficulty being faced by insurers as well as the insureds in the event of liquidation of a bank or a ‘failed’ bank.

Buildings and stocks are mortgaged to the banks and in many instances they are also co-insureds under a business oriented Insurance policies.

Are there any regulatory provisions under our Insurance Act to take action against a receiver or liquidator of a failed bank?. From what we can see the insurance policy has no exclusions or limitations based upon regulatory action or for the receiver or liquidator of a failed bank”

In such a situation we are faced with:

1. Whether insurers are willing or able to issue insurance contracts covering operational risk events without such exclusions or limitations. And

2. If insurers are willing to do so, would such an insurance policy be enforceable?

The first issue is that, in the international context most insurers believe that when a bank goes into liquidation or is taken over by a regulator, insurance cover for ongoing acts should cease.

This does not mean that all insurance cover automatically stops from that date for acts that may have occurred prior to that date.

Most specialist insurance policies, such as Bankers. Blanket, Professional Indemnity etc. are arranged on a losses discovered or claims-made basis. That is to say they usually cover acts occurring during the policy period that are discovered during the policy period or claims that are made during the policy period arising from such acts.

However, extended discovery or reporting extensions can be written into insurance contracts.

These provide that, although insurance cover will have ceased on the day of the event triggering cancellation, a subsequent operator, such as a liquidator or a regulator, will have time to discover losses or manage claims made after that day, provided they arise out of acts occurring on or before such cessation.

Similar provisions apply in typical commercial merger or acquisition situations where insurances of the acquired party are often cancelled but extended discovery or reporting periods are negotiated. These are typically known as a run off provisions.

The second issue that Insurers raised is more fundamental. They have always considered that when a bank goes into liquidation, the legal process transfers asset ownership from the shareholders to the liquidator and that this process invalidates an insurance policy, there being no privity of contract between the Insured and the liquidator.

In the United Kingdom it is normal practice upon the appointment of a liquidator for the liquidator to review completely the failed entity’s insurance portfolio in conjunction with a newly appointed insurance adviser/broker and, wherever required, to put in place new insurances.

Usually, new insurances will be effected to protect the assets because the insurance arranged by the former owners of the assets cannot be relied upon once they have been transferred. Thus the absence of any comments concerning regulatory action or that of a liquidator may allow a cancellation event to render insurances invalid - the opposite effect to that being sought.

It may be that specific provision should be incorporated into an operational risk event insurance to ensure that coverage remains in force for the benefit of a regulator or liquidator as regards acts occurring in the period up to the regulatory intervention or liquidation.

This would allow the regulator or liquidator time to formulate a claim or prepare a defence in respect of potential litigation resulting from such acts.

This is an area warranting further consultation before specific criteria are finally established.