Article

by King-tak Fung

The major change in UCP 600 relating to insurance documents (article 28) is the statement that "an insurance document may contain reference to any exclusion clause." The following issues concerning insurance documents are frequently raised by trade finance practitioners:

1. What are the differences between an "insurance policy" and an "insurance certificate"?

2. Can an insurance broker sign an insurance policy?

3 Is an insurance certificate acceptable in lieu of an insurance policy?

4. Is it a better practice to indicate both an "effective date" and an "issuance date" on an insurance policy?

5. Is "over-insured" a discrepancy?

6. What kinds of exclusion clauses are permissible under UCP 600?

7. What are the differences between a "franchise" and an "excess"?

8. How can conflicting shipment terms jeopardize an insurance claim?

Insurance policy v. insurance certificate

An insurance policy is the documentary evidence of the existence and terms of an insurance contract. It is an actionable document, i.e., the claimant (either the insured or the assignee) can claim from the insurer based on the terms of the policy.

An insurance certificate is evidence that insurance cover has been effected under a master/open policy. The certificate itself is not actionable in many jurisdictions; the claimant will need to obtain a policy from the insurance company before claiming. An insurance certificate does not contain all of the terms of the policy, but refers to the master/open policy and must be countersigned by the insured before it takes effect.

Role of insurance broker

Similar to a forwarder who signs a bill of lading, an insurance broker can perform different roles in an insurance transaction. Accordingly, the principal question is: in what capacity is the insurance broker signing the insurance policy? If it acts as an agent of the insurance company or underwriter, this is acceptable, since the policy will be binding on the relevant insurance company or the underwriter that has appointed the broker as its agent in signing the policy.

This explains why a cover note issued by an insurance broker is not acceptable under sub-article 28 (c) since, in this case, the broker only acts for the insured in sourcing different insurance packages. The broker does not act for the insurance company or underwriter.

Insurance certificate v. insurance policy

UCP 600 sub-article 28 (d) states: "An insurance policy is acceptable in lieu of an insurance certificate or a declaration under an open cover." However, an insurance certificate is not acceptable in lieu of an insurance policy, because an insurance certificate, unlike a policy, is not an actionable document. The claimant must produce both the certificate and the open policy in order to lodge a claim against the relevant insurance company. In the author's view, the better way to reflect the practice in UCP 600 would have been to add "but not vice versa" at the end of sub-article 28 (d).

"Effective date" and "issuance date"

Is it a better practice to indicate both an "effective date" and an "issuance date" in an insurance policy? Definitely. This is because the effective date of a marine cargo insurance policy is critical in determining at which point that the cargo is covered by insurance. Many insurance policies only bear the issuance date without the effective date. It follows that, unless the policy states otherwise, the issuance date is deemed to be the effective date.

Since the application for insurance may be sent to the insurance company several days after shipment (in order to submit all of the shipment details required by the insurance company), the frequent market practice is for the insurance company to backdate the issuance date so that it matches the shipment date of the goods. In such a case, the date of the insurance application will be later than the issuance date of the policy.

To rectify backdating malpractice, more and more insurance companies have inserted an effective date into their policies in addition to the issuance date. The arrangement is exactly the same as indicating an "on board date" and an "issuance date" on a shipped on board bill of lading. The author is of the view that this is a good practice, as it correctly reflects the sequence of events and can minimize unnecessary misunderstandings.

"Over-insured"

Whether "over-insured" is a discrepancy depends on the wording of the L/C. If the L/C requires an exact insurance percentage or words of similar effect, any excess in coverage would render the insurance document discrepant. However, if the L/C only requires a minimum percentage, an excess of coverage would be acceptable.

What if the L/C only requires 110 per cent insurance coverage without mentioning a "minimum"? In this case, the 110 per cent required by the L/C would be deemed to be the minimum, and the excess in coverage would not render the insurance document discrepant (see ICC Banking Commission Opinion R 468 - Question 2).

Exclusion clauses

In addition to the standard exclusions stipulated in Institute Cargo Clauses A, B and C, more exclusions have been added to insurance documents. Some of these are the Institute Classification Exclusion, Cargo ISM Endorsement Exclusion, Institute Radioactive Contamination, Chemical, Biological, Biochemical and Electromagnetic Weapons Exclusion, Institute Cyber Attack Exclusion and Termination of Transit (Terrorism) Exclusion, etc. The addition of these exclusions has caused considerable confusion in the L/C community.

To resolve this issue, sub-article 28 (i) expressly states that "An insurance document may contain reference to any exclusion clause." It is important to note that although this provision seems to be extremely broad, it is well settled in law that, irrespective of sub-article 28 (i), no exclusion clause can contradict the express terms of the contract, e.g., an insurance document that excludes a risk expressly required by the L/C would be unacceptable, since that would defeat the purpose of calling for such an insurance document.

"Franchise" and "excess"

A franchise exists when the insurance company is not responsible for the loss which does not exceed an agreed amount, but is responsible for the entire amount of the loss which exceeds the agreed amount. An excess exists when the insured agrees to be responsible for an agreed amount of loss, and the insurance company is only responsible for the amount over the agreed amount.

Example

An insurance policy cover of USD 100,000 - see the differences between a franchise of 5 per cent (i.e., USD 5,000) and an excess of 5 per cent (i.e., USD 5,000):

Conflicting shipment terms

Case study

Company A in Hong Kong signed a sale and purchase contract with its supplier in Japan on FOB (Free On Board) terms. Company A then instructed its banker to issue an L/C in favour of the supplier in Japan, calling for a full set of original bills of lading on FOB terms. The vessel sank after it left Yokohama port. The supplier was paid, since the documents presented under the L/C were compliant. Pursuant to Incoterms 2000 (ICC Publication No. 560), Company A was obligated to pay the supplier in Japan, because the risk of loss of or damage to the goods under FOB transferred from the seller to the buyer when the goods passed the vessel's rail at the port of loading.

In fact, Company A sold the goods to Company B in Hong Kong, and the relevant sale and purchase contract also indicated FOB Japanese port. Company B's banker issued a local L/C in favour of A. The delivery term stated in the local L/C was "local delivery", and one of the required documents was a cargo receipt issued by the applicant. Company B also paid Company A under the local L/C (by issuing a cargo receipt, though it never received the goods), since Company B held the view that the risk of loss of the goods already passed to it under FOB.

However, when Company B lodged a claim under the marine insurance policy, the insurance company contended that Company B did not have an insurable interest. Its rationale was that for "local delivery" the risk of loss of or damage to the goods would not have passed to Company B until the goods had been physically delivered to Company B in Hong Kong. Since the goods never arrived in Hong Kong, it followed that Company B was not liable for the loss of the goods.

This demonstrates the problem of using inconsistent or conflicting Incoterms or delivery terms in the sale contract, L/C contract, transport contract and insurance contract. In the author's view, the Incoterm FOB stipulated in the sale and purchase contract should prevail, as Incoterms only deal with the relation between sellers and buyers under the sale contract1. The local L/C was only a means of payment governing the payment terms between the issuing bank and Company A, the beneficiary.

Conclusion

Article 28 of UCP 600 provides a comprehensive framework concerning insurance documents in L/C operations. Following the clarifications on the issues highlighted above, in particular the ones on exclusion clauses (sub-article 28 (i)), the author hopes that disputes and discrepancies about insurance documents can be minimized.

King-Tak Fung is a banking partner of DLA Piper specializing in international trade law and practice, a member of the ICC Consulting Group on the UCP 500 revision and author of Leading Court Cases on Letters of Credit published by ICC Publishing. This article is adapted from his new book, UCP 600: Legal Analysis and Case Studies, published by P.E.E.R. Consultancy Ltd. in Hong Kong www.peer.com.hk. King-Tak Fung's e-mail is kingtak.fung@dlapiper.com

1. Incoterms 2000, ICC Publication No. 560 - Introduction.