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Is the attraction of arbitration waning in the insurance market?

12 September 2011

Traditionally, insurance contracts have included arbitration clauses as their mechanism for dispute resolution, rather than litigation in the courts. However the trend may slowly be beginning to change. This article explores the reasons for this shift.

Arbitration clauses are undoubtedly very common in insurance contracts. This is for various reasons.

First, one of the key advantages to arbitration – both for insurers and insureds - is confidentiality. An arbitration clause governed by English law carries with it an implied duty of confidentiality. This means that disputes can be heard without the threat of adverse publicity and associated reputational risk.

Secondly, arbitral awards only bind the parties to the award. They have no precedent value. Insurers in particular may see the lack of precedent as an advantage as it allows them to run different arguments as to the interpretations of particular clauses. This means, by way of example, that whilst an insurer at one layer may be ordered by a tribunal to pay out on a claim, an insurer at another layer before another panel of arbitrators may experience a different outcome. In addition, an insurer may want to take one position against an insured, and another against its reinsurer, and it can do so in the forum of an arbitration without the other side being aware of any contradiction. Therefore whilst the risk of inconsistent decision-making is sometimes cited as a disadvantage of arbitration, the nature of insurance business (often based on complex layering arrangements and fairly standard form wording), can mitigate this risk for insurers.

Despite these advantages, we may now be seeing the beginnings of a move away from the arbitration clause in insurance contracts. Why might this be happening?

In the past, there was a belief that arbitration was cheaper and quicker than court litigation. This is no longer always the case (if indeed it ever was). Arbitrators' fees can be significant and, with three arbitrators on most panels and arbitral institutions charging administrative fees, the costs soon add up. Arbitrations can also be delayed significantly by the lack of availability (sometimes for months or years) of busy arbitrators. Whilst there is plenty of scope for flexibility and efficiency in arbitration (and a well-run arbitration will achieve this), it can often depend upon the willingness of the parties to take the necessary steps. Meanwhile the English courts have become more focused on case management. Court fees are also relatively insignificant (judges and court clerks do not charge an hourly rate, albeit there are fees for filing certain documents).

There are other advantages to the court system that arbitration either cannot offer, or can only offer if the parties are prepared to agree the position contractually. These include the ability to seek pre-action disclosure, the availability of a summary judgment procedure and a straightforward process for joining other parties to proceedings. The English court system therefore has significant appeal.

In addition, both insurers and insureds may now be better educated to consider a range of dispute resolution clauses before they enter into insurance contracts. Improved contract certainty in the insurance market may mean that parties are more focused on the terms of their contract from the outset. In the past, insureds might have been more likely only to search for the dispute resolution provisions once they came to claim under the policy.

It remains to be seen whether there is a significant change coming. International parties are still reluctant to commit to a legal system that is foreign to them, and in this respect arbitration often has appeal to both insurers and insureds. Parties at risk of litigation in the US are also often keen to avoid a jury trial, and arbitration is a straightforward means of doing so. Finally, much depends on the differing requirements of insurers and insureds and these will shift constantly depending on the cover and the parties involved. However, opening up a discussion on dispute resolution is an important step in ensuring that all appropriate possibilities are considered.