Key takeaways
Insured interest under MII
Mortgagee lender’s security interest in the Vessel.
Proximate cause of loss
Breach of trading warranties not forged additional war risks cover note.
Fortuitous loss
Loss caused by Vessel striking a mine.
We previously reported on the Commercial Court decision in this case: see Mortgagee Interest Insurance Policy Ruling | Hill Dickinson
The Court of Appeal has now unanimously dismissed the insurers’ appeal and upheld the first instance decision in favour of the mortgagee lender.
Significantly, this is the first appellate consideration of the standard Institute Mortgagees’ Interest Clauses – Hulls (1/3/97) and it provides important guidance on the nature of Mortgagees’ Interest Insurance, the insured interest protected by such policies, proximate cause, privity and fortuity.
While the Court of Appeal broadly came to the same conclusions as the Commercial Court, it undertook a much more detailed analysis of the structure and operation of the MII wording and, in particular, the relationship between the insured interest, the insured loss and the insured perils.
The background facts
The facts were largely unchanged from those before the Commercial Court.
Oceanus Capital SARL (Oceanus) had provided US$ 3 million financing to the vessel owner, Lyra Mare Limited, secured by a first preferred mortgage over MV VYSSOS and an assignment of the owners’ insurance rights.
The Vessel was insured under a marine war risks policy containing trading warranties prohibiting calls to Ukrainian waters without underwriters’ agreement and payment of an additional premium. Oceanus also purchased Mortgagees’ Interest Insurance (MII) on the Institute Mortgagees' Interest Clauses - Hulls (1/3/97).
In December 2023, Oceanus sought confirmation that additional war risks cover had been arranged before the Vessel entered Ukrainian waters. On the evening of 26 December 2023, a purported additional war risks cover note was supplied. Oceanus accepted that document as evidence of cover and agreed there was no need to hold the Vessel back.
The following morning, the Vessel struck a mine in Ukrainian waters and was later declared a constructive total loss. It subsequently emerged that the December additional cover note was a forgery and that no additional war risks cover had in fact been placed. The owners’ war risks insurers declined the claim because the Vessel was trading in breach of the trading warranties.
The parties agreed that:
the mine strike caused damage to the Vessel
such damage would prima facie have been covered under the war risks policy
the Vessel was trading in breach of the trading warranties
the breach entitled war risks underwriters to decline payment and
breach of trading warranties was an insured peril under the MII policy.
The issues on appeal
Insurers advanced three principal grounds of appeal:
The proximate cause of Oceanus’ loss was the forged December additional cover note, rather than breach of the trading warranties.
Oceanus was privy to the breach of trading warranties and therefore fell within the policy’s privity proviso.
The loss was not fortuitous because Oceanus knew entry into Ukrainian waters would breach the trading warranties.
The Court of Appeal decision
What is insured under an MII policy?
A central feature of the appeal was the parties’ disagreement regarding the nature of the interest insured by the MII policy.
Insurers argued that the MII policy principally insured Oceanus’ interest as assignee and loss payee under the owners’ insurances. Oceanus argued that the insured interest was its mortgagee security interest in the Vessel itself.
The Court of Appeal generally preferred Oceanus’ analysis.
It held that the insured interest protected by the MII policy was Oceanus’ security interest in the Vessel as mortgagee. Particular weight was placed on the policy’s 'Mortgagees Interest Insurance' wording and the definition of 'Net Loss', which expressly referred to loss under the loan agreement 'to the extent secured by the mortgage'.
The Court of Appeal also rejected insurers’ contention that the insured loss was simply the inability to recover proceeds under the owners’ insurance policies. Rather, the insured loss remained the mortgagee’s loss to its security interest in the Vessel, albeit subject to the policy’s limits and caps.
This aspect of the judgment is likely to be one of its most important contributions to the law of MII insurance.
What was the proximate cause of Oceanus’ loss?
Insurers’ position
Insurers argued that the relevant cause of loss was the forged December additional cover note. Had the document represented genuine cover, Oceanus would not have suffered a loss. Accordingly, insurers contended that the forgery, rather than the breach of the trading warranties, was the true proximate cause. Since forgery was not an insured peril under the MII policy, cover was said not to respond.
Oceanus’ position
Oceanus maintained that the MII policy requirements were satisfied by:
loss resulting from damage to the Vessel
prima facie cover under the war risks policy
non-payment under that policy and
non-payment caused by the insured peril of breach of trading warranties.
The forged cover note was not part of the insured peril structure contemplated by the policy wording and did not alter the objective facts giving rise to cover.
The Court of Appeal’s finding
The Court of Appeal agreed with Oceanus and dismissed the causation challenge.
It held that clause 1.1 of the MII policy creates a sequence of insured contingencies. The relevant question was whether the policy conditions were objectively satisfied, rather than what Oceanus subjectively believed at the time.
The Court found that:
the only relevant existing owners’ policy was the war risks policy;
that policy would prima facie have responded to the casualty;
it failed to respond because of breach of trading warranties; and
breach of trading warranties was an insured peril expressly identified in the MII policy.
The forged document could not prevent cover arising under the MII wording. The Court of Appeal observed that what mattered was the objective insurance position, not Oceanus’ mistaken belief that separate cover had been arranged.
The Court of Appeal also noted that, absent the forgery, the Vessel likely would have entered Ukrainian waters anyway and the same loss would have followed. On the Judge’s findings, even if Oceanus had instructed Lyra Mare not to proceed, the Vessel would probably have entered Ukrainian waters in any event.
Was Oceanus privy to the breach of trading warranties?
Insurers’ position
Insurers argued that Oceanus knew entry into Ukrainian waters would breach the trading warranties and expressly agreed that the Vessel could proceed. It, therefore, possessed both the necessary knowledge and concurrence required for privity.
Oceanus’ position
Oceanus accepted that it knew entry into Ukrainian waters would breach the warranties under the war risks policy. However, it argued that any consent was fundamentally influenced by the forged December additional cover note, which led it to believe that equivalent war risks protection had been put in place.
The Court of Appeal’s finding
The Court of Appeal confirmed that 'privity' in the MII policy bears the same meaning as in the established authorities on s.39(5) of the Marine Insurance Act 1906, namely knowledge together with concurrence or consent. Knowledge may include blind-eye knowledge.
The Court of Appeal ultimately concluded that insurers’ privity defence failed.
Although Oceanus knew the Vessel would enter Ukrainian waters and knew that this would breach the trading warranties in the war risks policy, its consent was procured through deception. The Court of Appeal held that, had the additional cover been genuine, the war risks policy would very probably, and in the normal course of events, have been irrelevant to any MII claim, save for a narrow range of possible circumstances.
The Court of Appeal accepted that fraud can prevent consent from having the legal consequences necessary to establish privity. It held that the deception was closely connected to the very operation of the MII policy and was not merely collateral or related only to the financial consequences of the breach. Accordingly, Oceanus was not privy to the insured peril for the purposes of the policy.
Was the loss fortuitous?
Insurers’ position
Insurers argued that Oceanus knowingly allowed the Vessel to trade outside the war risks trading limits and therefore voluntarily accepted the consequences of the breach. The loss was said to be the product of a conscious commercial decision rather than fortuity.
The Court of Appeal’s finding
The Court of Appeal rejected the insurers’ argument.
The insured loss was Oceanus’ loss to its security interest in the Vessel. That loss only occurred because the Vessel fortuitously struck a mine. The mine strike was plainly accidental and not inevitable. As a result, the loss remained fortuitous.
The Court of Appeal further held that where cover depends upon a combination of insured contingencies, fortuity remains present if one of the essential elements in the chain is itself fortuitous. Here, the mine strike satisfied that requirement.
The Court of Appeal additionally observed that, if Oceanus’ consent had been tainted by deception for the purposes of the privity analysis, there was no logical basis for treating its 'choice' differently in the fortuity context.
Comment
The Court of Appeal has unanimously upheld the Commercial Court’s decision and, in doing so, has provided the first appellate guidance on the Institute Mortgagees' Interest Clauses Hulls (1/3/97).
The judgment is important because it clarifies what MII insurance is intended to protect. The Court of Appeal held that, under this wording, the insured interest is the mortgagee’s security interest in the vessel itself, not merely its right to recover insurance proceeds as assignee or loss payee under the owners’ policies.
The Court of Appeal rejected insurers’ argument that the forged December cover note was the real cause of the loss. Instead, it looked at the position under the MII policy objectively. The existing war risks policy would have covered the mine strike but did not respond because the Vessel was trading in breach of the trading warranties. That breach was an insured peril under the MII policy, so the MII cover responded.
On privity, the Court of Appeal confirmed that an insurer must show both knowledge and consent. Although Oceanus knew the Vessel would enter Ukrainian waters in breach of the trading warranties, its consent was obtained by deception. Oceanus had been led to believe that separate war risks cover was in place. In those circumstances, the Court of Appeal held that Oceanus was not privy to the breach.
The decision is important because it protects mortgagees who actively check the underlying insurance position but are misled despite doing so.
For the London market, the decision represents a significant endorsement of the protective function traditionally associated with MII. Unless the matter proceeds further, the Court of Appeal decision in this case is now likely to become the leading authority on the interpretation of the standard Institute MII wording.
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