The English Supreme Court decision handed down in Travelers v XYZ  UKSC 48 provides helpful and welcome guidance on the circumstances in which an insurer might face non-party costs orders.
The potential for non-party costs orders has been an area of concern within the professional indemnity liability insurance market in recent years. Following a few decisions in which courts had made non-party costs orders against insurers, a growing trend for claimant lawyers to seek such orders was becoming apparent. Prior to Travelers v XYZ, the circumstances in which such orders might be made against insurers were becoming increasingly difficult to predict, given the making of such orders is at the discretion of the Court and the absence of clear guidance at the appellate level.
The awarding of non-party costs orders against insurers could be seen as fundamentally rewriting the commercial contract between insurers and insured for the benefit of a third party. This is perhaps even more surprising given standard exclusions in such policies expressed a clear intention by the parties to exclude third party rights and that such policies were not intended to confer any benefit on a third party.
The possibility that a Court might make a non-party costs award against an insurer, if this became more commonplace, was a very troubling prospect indeed.
A particular concern was that it could result in insurers’ exposure exceeding their contractual liability to the insured, not least having regard to any applicable pro rata provisions contained in the policy, and even the policy limits. An insurer would not have included or been able to price this risk into the original insurance premium when writing the risk. Moreover, insurers not only had a duty under the professional indemnity insurance policy to defend but a wider duty to treat customers fairly, but these duties did not appear to have been duly considered by the courts when making non-party costs orders.
In summary and without going into all the nuances, the Supreme Court’s decision in Travelers v XYZ clarifies the limited circumstances in which non-party costs awards may be made against liability insurers. It represents good news for insurers and Travelers’ appeal against a non-party costs order in that case was allowed. While the case concerned product liability insurance, the guidance it provides is equally relevant in the context of other forms of liability insurance including professional indemnity insurance.
The Supreme Court did not consider that factors of reciprocity or asymmetry provided sufficient justification to impose a non-party costs order on an insurer. Rather, the Supreme Court has adopted and focused on such orders being appropriate in a liability insurance context only in rare cases where there had been unjustifiable “intermeddling” or the insurer is the “real defendant”.
The “real defendant” test and application of the Chapman principles
So far as the issue of whether an insurer is the “real defendant” is concerned, the Supreme Court adopted the “real defendant” test previously enunciated by Phillips LJ in TGA Chapman Ltd v Christopher  1 WLR 12 in which Phillips LJ at p.20 set out five features (“the Chapman principles”) namely :
(1)The insurers determined that the claim would be fought; (2) the insurers funded the defence of the claim; (3) the insurers had the conduct of the litigation; (4) the insurers fought the claim exclusively to defend their own interest; (5) the defence failed in its entirety.
However, Lord Briggs suggests these might perhaps be better considered as guidelines rather than rigid conditions (para 51). Furthermore, in Travelers v XYZ the Court duly noted and took account of a liability insurers’ general contractual obligations. Lord Briggs refers to these (at para 31 of the Judgment) noting that while it may defend and have conduct of the defence, unlike an ATE insurer, a liability insurer is typically an involuntary funder rather than a voluntary funder of litigation and the control an insurer habitually exercises over conduct of the defence arises from a pre-existing contractual entitlement, rather than a freely made decision to intermeddle. Referring to previous cases in which non-party costs orders had been made against insurers, Lord Briggs emphasised the application of the fourth Chapman principle (where an insurer fought the claim exclusively to defend their own interest) as the basis for those decisions.
Similarly, Lord Sumption made it clear that the position of a liability insurer merely because it has defended an insured claim, funded the defence, and had conduct of it does not normally result in it becoming the “real defendant”. As he noted (at paras 114-115 of the judgment):
“The relationship between a liability insurer and his assured has a number of specific features which are not necessarily common to other cases in which costs orders are sought against non-parties. In the first place, although the insurer is potentially liable to meet a third party’s claim against his assured, that liability is owed only to his insured and not directly to the third party, subject to special statutory regimes such as that applicable to insolvent assureds under the Third Parties (Rights against Insurers) Act 2010. In this respect English law differs from many civil law systems which allow direct actions against insurers as a matter of course. Secondly, the insurer is not even liable to his assured during the litigation, since his liability arises only once the assured’s liability has been ascertained by judgment, award, admission or agreement. Thirdly, the insurer’s contractual right to direct the conduct of the litigation, which is an almost invariable incident of liability policies, is a form of compulsory agency. It is a right to direct it in his assured’s interest, and not his own, even though their interests will usually coincide. The solicitor whom he appoints is the assured’s solicitor, who owes all the usual professional duties to the assured and is entitled to look to the assured for his fees, notwithstanding that his instructions come from the insurer.”
“These features, and particularly the last, mean that the insurer cannot be regarded as the real defendant. He is simply in a position where (i) by virtue of his contractual obligations to the assured, he is liable to suffer a detriment if the assured loses; and (ii) by virtue of his contractual right against his assured, he is entitled to direct the conduct of litigation in his assured’s interest. Both are common to other relationships which non-parties may have with a defendant without necessarily being at risk in costs, for example his solicitor or other litigation agent in case (i), or a liquidator bringing a claim in the company’s name in case (ii). Neither factor is any concern of the claimant, whose concern is only with the defendant. The claimant may hope or even expect the defendant to be insured. But he has no legally recognised right to proceed on that basis and must accept the risk, commonplace in litigation, that he is not.” [bold added for emphasis]
The recognition and focus on the fact that a liability insurer has a legitimate legal interest in the performance of their contractual duties under the policy and the exercise of their contractual rights is particularly welcome.
Indeed, in light of this Lord Sumption appeared to consider this only left “unjustifiable intermeddling” as the basis on which a liability insurer might potentially be at risk of a non-party costs order.
The Judgments of Lord Briggs (with whom Lady Black and Lord Kitchin agreed) and Lord Reed however did not go quite so far. Having regard to the fourth Chapman principle, care should be taken in situations where an insurer is effectively considering embarking upon fighting a claim exclusively to defend their own interest. This of course may well, but need not necessarily, amount to “intermeddling”. In this context, it would be wise for insurers and their legal advisers to give particular consideration to an insurers’ position in circumstances where an insured is no longer trading or insolvent, particularly if it is clear that the insured has no interest at all in defending the claim (not even from a reputational perspective).
It is worth noting that the interest of an insured in defending a claim may well go beyond purely a direct financial interest in the outcome. Even in cases where an insured firm is no longer trading, the individual members may have a legitimate professional and reputational interest in the claim being defended.
The Supreme Court decision recognises that an insurer could face a non-party costs order if the insurer “intermeddles” in litigation. However, cases in which an insurer has engaged in “intermeddling” are likely to be rare, and an insurer who acts in good faith in relation to insured claims should not incur liability for a non-party costs order.
As Lord Sumption noted in his concluding remarks regarding the proper defence of insured claims:
“This is an area in which a person conducting or directing the conduct of litigation is entitled to a large margin of judgment and hindsight is not usually an adequate tool for assessing how he exercises it. If he acts in good faith in the interest of the assured qua the defendant to insured claims, he should not incur liability in costs. As at present advised, I would expect this to be equally true of the case where the potential liability of the assured is subject to a limit of cover which is exceeded, but that is not an issue which needs to be examined on this appeal because it does not arise on the facts.”
Other points to note
Even where the real defendant test is satisfied or an insurer is found to have unjustifiably intermeddled, a causative connection remains an important element and is still required before a non-party costs order will be made.
The Supreme Court also recognised that there is no requirement upon an insurer to disclose insurance policy details. A decision by an insurer not to do so does not justify imposing a non-party costs order on an insurer.
In practice in light of Travelers v XYZ an insurer will rarely be seen as the “real defendant” when the insurance policy is called upon to respond to a professional indemnity claim. It would take something out of the norm (unjustifiable “intermeddling”) for them to be treated as such.
Further consideration should be given to the position however in situations where there is the potential for the fourth Chapman principle to apply and an insurer is considering fighting a claim exclusively to defend their own interest.
What is the issue? The circumstances in which costs can be awarded against a liability insurer that is not a party to the proceedings, which could exceed their contractual liabilities under a policy, and potentially the policy limits.
What did the case decide? The Supreme Court overturned the non-party costs order that had been made in the Travelers v XYZ case. In doing so, the Supreme Court gave guidance as to when non-party costs orders against insurers might be appropriate.
Why is it important? The Court gave guidance on the rare instances where non-party costs orders against insurers might be contemplated. Generally speaking, in light of this decision an insurer who acts in good faith in relation to insured claims should not incur the risk of a non-party costs order. The position may need to be more carefully considered and fact specific advice should be sought, however, in circumstances where the insurer is effectively the real defendant in the litigation, particularly bearing in mind the fourth Chapman principle.