The government is consulting on draft legislation which proposes to extend the application of the unfair contract terms regime (UCT regime) to insurance contracts in line with Recommendation 4.7 of the Financial Services Royal Commission Final Report.The government announced that it would extend the UCT regime to insurance contracts on 4 February as part of its response to the Commission's recommendations.

In announcing the consultation, Treasurer Josh Frydenberg said that 'removing the exemption for insurance contracts from the UCT regime will ensure consumers and small businesses have the same protections regardless of which financial service or product they are purchasing.'Mr Frydenberg added that the government is taking action on all 76 recommendations made by the Financial Services Royal Commission.

The deadline for submissions is 28 August 2019.

Implementing FSRC recommendations 4.7, 7.3 and 7.4

• Although the UCT protections apply to most financial products and services regulated by the Australian Securities and Investments Commission Act 2001 (ASIC Act), they do not currently apply to insurance contracts regulated under the Insurance Contracts Act 1984 (Insurance Contracts Act).The draft Bill proposes to extend the UCT regime to insurance contracts in line with Financial Services Royal Commission Recommendation 4.7.
• The government has also agreed that wherever possible, it will simplify the financial services law to eliminate exceptions and qualifications to the law (Financial Services Royal Commission Recommendation 7.3). The draft Bill removes one such exemption.
• The government has further agreed to identify the norms of behaviour and principles that underpin legislation as part of the legislative simplification process (Financial Services Royal Commission Recommendation 7.4).The norm underlying this Bill is that insurers should not include terms in their standard form contracts that are unfair to the other party.

Proposed change is also in alignment with the recommendations of a number of other inquiries

The explanatory memorandum accompanying the draft legislation notes that a range of government and independent inquiries since 2010 have recommended the extension of UCT provisions to insurance contracts.

The release of the draft legislation follows earlier consultation on a proposed model

The government has previously released a proposals paper outlining a potential model for extending the regime.

There are two key components in the draft Bill.

These are as follows.

Extension of the UCT regime to insurance contracts

The draft Bill proposes to amend the Insurance Contracts Act 1984 (Cth) to enable the UCT regime under the Australian Securities and Investments Commission (ASIC) Act 2001 (Cth) to apply to insurance contracts covered by the Insurance Contracts Act where:

• at least one party to the contract is a consumer (as defined in subsection 12BF(3) of the ASIC Act) or a small business (as defined in subsection 12BF(4) of the ASIC Act); and
• the contract is a standard form contract (as defined in section 12BK of the ASIC Act).

The draft Bill proposes to amend the ASIC Act to tailor the existing UCT regime in its application to insurance contracts

[Note: In recommending the UCT protections be extended to insurance contracts, Commissioner Hayne also recommended that 'The provisions should be amended to provide a definition of the ‘main subject matter’ of an insurance contract as the terms of the contract that describe what is being insured. The duty of utmost good faith contained in section 13 of the Insurance Contracts Act should operate independently of the unfair contract terms provisions'.]

• Main subject matter: The ASIC Act presently excludes terms that define the main subject matter of a contract from the UCT regime. The draft Bill proposes to amend the ASIC Act to provide that the main subject matter of an insurance contract is limited to the description of what is being insured eg the house, car or person that is insured.The draft explanatory memorandum comments that the Financial Services Royal Commission considered that the benefits of extending the UCT regime to insurance contracts would be undermined if a broader definition of main subject matter were adopted.
• Transparent excess terms: The draft Bill proposes to amend the ASIC Act to exclude terms that set the quantum or existence of the excess or deductible in an insurance contract from the UCT regime, as long as they are presented transparently.
• Third party beneficiary: The draft Bill proposes to amend the ASIC Act to allow for third party beneficiaries of insurance contracts to bring actions against insurers under the UCT regime.

Duty of utmost good faith

Under the Insurance Contracts Act parties to insurance contracts have an obligation to act with the utmost good faith (sections 12-15 of the Insurance Contracts Act). The draft Bill does not propose to impact this obligation, with the duty of the utmost good faith operating independently of the UCT regime (in line with Recommendation 4.7 of the Financial Services Royal Commission).

The explanatory memorandum states that, 'A breach of the duty of the utmost good faith will not necessarily equate to a breach of the UCT regime. A breach of the UCT regime will not necessarily equate to a breach of the duty of the utmost good faith. Each regime operates independently of the other. However it is possible that some scenarios may give rise to relief under both sets of provisions. In such scenarios, a party may bring actions before the court under either or both regimes, and the court will be able to take into account the concurrent operation of the two regimes when considering what orders to make'.

When would a term be considered unfair?

If an insurance contract is subject to the UCT regime, a term in that insurance contract may be declared unfair and therefore void. A term is considered unfair if it meets all three criteria in section 12BG of the ASIC Act which currently apply to general contracts.

As such, a term would be unfair if it: a) would cause a significant imbalance in the parties’ rights and obligations arising under the contract; and b) is not reasonably necessary in order to protect the legitimate interests of the party that would be advantaged by the term; and c) would cause detriment to a party if it were to be applied or relied on.Section 12BH sets out examples of terms which could be unfair.Diagram 1.1 at p 7 of the Explanatory Memorandum accompanying the draft Bill summarises the operation of the proposed changes.

Proposed timeline and application

• Consultation closes on 28 August 2019
• The proposed commencement date for the amendments is 18 months after the Bill receives Royal Assent.
• The UCT regime will apply to insurance contracts made or varied after the commencement date.

Cost of implementation?

The explanatory memorandum states that the compliance costs for insurers are likely to be 'low'.It's estimated that there will be upfront costs of $4m in the first year to implement the reform with zero ongoing costs for insurers.