In many high-value insurance cases, two key issues to consider are (i) whether the applicant or policyholder has an insurable interest in the object of the contract, and (ii) how the insurer applies its subrogation rights after compensation is paid to the insured party.
Although China is a civil law jurisdiction, its legal theory being largely transplanted from German law, its insurable interest rule originates from common law. This difference in legal foundation has led some experts to cast doubt on certain aspects of insurance law, particularly the rules on insurable interest and subrogation. An August 2009 case illustrates the questions that are likely to arise.
In March 2008 the insurer accepted an application covering the insured’s building. The insurance contract was for an insured amount of Rmb15 million. The annual premium was Rmb19,800 and the insured period was from April 2 2008 to April 1 2009.
Before the contract was signed, the building was leased to the insured’s wholly owned subsidiary. The insurer was aware of this, but nonetheless accepted the application. During the insured period the building caught fire due to the negligence of one of the subsidiary’s employees – an eventuality not covered by the contract’s exclusion clause. The insured claimed compensation of up to Rmb6.4 million based on its estimate of the cost of reconstructing the building. However, the assessor appointed by the insurer reported that the building was beyond restoration and that the due compensation based on its replacement value was approximately Rmb3 million. The insured stated that if the insurer agreed to cede its right of subrogation in respect of the subsidiary, it would accept Rmb3 million.
Some experts would argue that the insured was not entitled to claim, even though the insurer knew that the building had been leased to the subsidiary, since the insured had no insurable interest in the building when the event occurred.
Article 12 of the Insurance Law stipulates that "the insured in property insurance shall have an insurable interest in the insured subject matter when an insured incident occurs", and that "property insurance shall be a type of insurance which takes property and interests related thereto as the subject matter insured".
The key point is the definition of ‘insurable interest’. This is a broad concept in Chinese insurance law, covering:
• rights in property;
• rights of action created by a contract;
• rights as a shareholder;
• liabilities imposed by law; and
Rights in property include ownership and lien. Thus, the insured had an insurable interest in the insured building as its owner. In addition, if the sum for which the building is insured does not exceed its insurable value, a tenant (eg, the subsidiary in this case) can apply for an insurance policy covering the building on the grounds that it has a contractually founded insurable interest created by its lease from the insured.
Article 4 stipulates that:
"Where an insured incident occurs for any losses caused by a third party to the insured subject matter, the insurer shall, from the date on which it pays insurance money to the insured, subrogate the insured’s claim for indemnity against the third party within the extent of the indemnity amount.
Where the insured has been indemnified for losses by the third party after the insured incident described in the preceding paragraph, the insurer may, when paying insurance money, deduct the corresponding amount of indemnity that the insured has obtained from the third party."
Thus, the law grants the insurer the right of subrogation. Once compensation is paid to the insured, the insurer can seek to recover losses from the third party that is responsible for the insured’s loss. The insurer must first compensate the insured (if covered losses are found to have occurred), but can then recover the losses from the responsible third party on behalf of the insured. As the tortfeasor, the third party can prepare a defense according to the rights of defense against the insured. The insurer cannot reject the claim by arguing that the insured must first claim against the third party that is responsible for the occurrence of the risk. The insurer in this case had to seek to recover compensation from the subsidiary on the insured’s behalf on the grounds that the subsidiary was responsible for the fire by reason of (i) tort law and the employment relationship with the tortfeasor, or (ii) breach of the lease contract.
The subrogation rule also raises the question of what constitutes a ‘third party’. It could be argued that the subsidiary in this case was wholly owned by the insured and therefore could not be treated as a third party. If an entity completes the procedures for registration as a legal person, it can be treated as an independent entity under civil law. Although economic theories of law pay greater attention to the controlling relationship between entities, the wholly owned subsidiary was nonetheless an independent entity and third party because civil law theories apply to insurance law.