Exclusion clauses in insurance contracts are often contested in cases where coverage is in dispute. The manner of interpreting exclusion clauses, particularly when ambiguous, is key to deciding its applicability and therefore, knowing the tools of interpretation for exclusion clauses is critical.
In a recent judgment, the Supreme Court (in the case of Texco Marketing Private Limited v. Tata AIG General Insurance Company Limited and others), has addressed a very important question relating to the rights of an insured – whether an exclusion clause destroying the contract knowingly entered can be permitted to be used by a party which introduced it to avoid liability? In this case, the policy in question was a Standard Fire and Special Perils insurance policy purchased by the Appellant for a shop situated in the basem*nt of the building and one of the exclusion clauses specified that the policy does not cover the basem*nt, as such, this exclusion clause destroyed the very purpose of the policy.
While discussing that contracts of insurance are adhesion contract or standard form contracts, the Court stated that such contracts require very high degree of prudence, good faith, disclosures, and notice on part of the insurer thereby rendering the concept of freedom of contract less significant. The Court further opined that in case the insurer relies on exclusion clauses, the onus and burden of proving the applicability of such clauses lies on the insurer alone. Moreover, the Court clarified that an exclusion clause must be understood on the barometer of ‘Doctrine of Reading Down’. The effort must be to harmonise the exclusion clause and main purpose of the policy, instead of allowing the exclusion clause to snipe at the main purpose.
Further and notably, the Court has also discussed, in detail, the ‘Doctrine of Blue Pencil’ which is akin to the principle of severance, i.e., striking off or invalidating the offending clause in a contract. Applying this, the Court held that clauses which are repugnant to the main contract, and which destroy it without even a need for adjudication, must be eschewed by the Court as the very existence of such clauses is illegal and detrimental to the execution of the main contract.
An exclusion clause cannot conflict with the main purpose of the contract and the party relying on such clause should not have committed any act of fraud, coercion or misrepresentation particularly when the contract along with the exclusion clause is introduced by it. The Court further stated that an exclusion clause has to be understood through the prism of the main contract and since it is only a limb in the contract which has no existence outside of the contract and whose existence is dependent on the main contract, it cannot have the ability to destroy the main contract.
Given that insurance contracts are ‘uberrimae fidei contracts’, i.e., contracts of utmost good faith, parties are required to act in good faith and have a duty to disclose all material facts. In case of exclusion clauses, it is the duty of the insurer to the disclose the same to the insured and failure to do so would make such clause in the policy non-existent and redundant. The Court has further relied on the provisions of the Insurance Regulatory and Development Authority (Protection of Policyholders’ Interests) Regulations, 2002 (2002 Regulations) which mandate the insurer and its agent to provide all material information in respect of a proposed cover to the prospect to enable it to decide the best cover.
This judgment is not only based on sound principles of interpretation of a contract such as that of insurance but is also a significant step towards protecting policyholders and insureds who often lack both the legal knowledge and the ability to negotiate terms with insurance companies. The tools of interpretation that have been discussed by the Supreme Court would be extremely valuable in cases where insurance companies reject claims basis absurd and tyrannical exclusion clauses. The judgment reinforces an objective manner of interpretation which is exactly what the doctor ordered for the insured in the current claims’ environment.
