Subrogation and insurance – latest UK case law

The decision of the UK Supreme Court in Gard Marine & Energy v China Chartering, delivered on 10 May 2017, has important ramifications for construction contracts. The decision concerned a shipping case in which a vessel was chartered by the owner (OLH) to a demise charterer (OVH) who in turn chartered the vessel to a time charterer (Sinochart) who then sub chartered the vessel to Daiichi. The vessel became a total loss after she ran aground in Japan.  It was alleged that the accident occurred after the vessel was permitted to enter an unsafe port, in breach of a warranty in the time charter.

The charter between the OLH and OVH obliged OVH to take out joint insurance for the benefit of OLH and OVH. The insurance clause in the charter did not contain an express waiver of rights of subrogation.

The Supreme Court decided by a 3:2 majority that Gard, the insurer of the vessel, did not have a right of subrogation against the OVH (the co-insured), Sinochart or Daiichi.  

Lord Mance, who was in the majority, stated “It is well established…that, where it is agreed that insurance shall inure to the benefit of both parties to a venture, the parties cannot claim against each other in respect of an insured loss. This principle is now best viewed as resting on the natural interpretation of or implication from the contractual arrangements giving rise to such co-insurance.”

Lord Toulon, who was also in the majority, stated “The critical question is whether the contractual scheme between [OLM] and [OVM] precluded any claim by the former against the latter for the insured loss of the vessel. This is a matter of construction. It has become a common practice in various industries for the parties to provide for specified loss or damage to be covered by insurance for their mutual benefit, whether caused by one party’s fault or not, thus avoiding potential litigation between them. The question in each case is whether the parties are to be taken to have intended to create an insurance fund which would be the sole avenue for making good the relevant loss or damage, or whether the existence of the fund co-exists with an independent right of action for breach of a term of the contract which has caused that loss. Like all questions of construction, it depends on the provisions of the particular contract.

….the risk existed that the vessel might be directed to an unsafe port, not necessarily by negligence on anyone’s part, so causing peril to the vessel, but the risk of consequential damage to the vessel was catered for by the insurance required to be maintained by [OVM] in the joint names of itself and [OLH]. The commercial purpose of maintaining joint insurance in such circumstances is not only to provide a fund to make good the loss but to avoid litigation between them, or the bringing of a subrogation claim in the name of one against the other….The insurance arrangements under clause 12 provided not only a fund but the avoidance of commercially unnecessary and undesirable disputes between the co-insured.”

Despite being a shipping case the decision in this case is of application to construction contracts. The better view now is that co-insurance clauses are likely to be interpreted as having the effect of relieving a party from liability for loss or damage that falls within the scope of the insurance policy, thereby limiting the recovery of the injured party to the proceeds paid under the insurance policy. If this is not the intention of the parties, clear wording must be included in the contract to preserve the right of the injured party to recover damages from the guilty party. This may be especially relevant where a party fails to place insurance, or in the event of insurer insolvency.