Court pours cold water on insurer’s fraud claims: Malhotra Leisure Ltd v Aviva

Court pours cold water on insurer’s fraud claims: Malhotra Leisure Ltd v Aviva

During the Covid-19 lockdown in July 2020, water escaped from a cold-water storage tank at one of the Claimant’s hotels causing significant damage.

Aviva, the Claimant’s insurer under a property damage and business interruption policy, refused to indemnify the Claimant on the basis that:

1. the escape of water was deliberately and dishonestly induced by the Claimant; and

2. there were associated breaches by the Claimant of a fraud condition in the policy.

The Commercial Court dealt with each of the issues as follows.

Was the escape of water accidental or deliberate?

Aviva bore the burden of proof and had to show that, on a balance of probabilities, the escape of water was the result of an intentional act carried out either by, or at the direction of, the Claimant or its agents.

In considering whether the escape of water was accidental or deliberate, Cooper J held that there was a distinction to be drawn between whether the Claimant’s witnesses were credible, and the question of whether they were sufficiently dishonest that they were prepared to deliberately cause the incident and thereafter lie about their involvement both during the investigation and then throughout the litigation. In reaching that view, he considered the following established principles:

a) if fraud is to be made out, the evidence must exclude any substantial plausible explanation for how the escape of water may have occurred accidentally; and

b) when assessing the evidence, the Court should take into account as probative tools the following factors:

i) whether there is evidence of a plausible financial motive for the Claimant to damage its own property;

ii) the fact that owners of property do not generally destroy their own property and an allegation that they have done so is a serious charge to make;

iii) instances of lesser wrong-doing may not be probative of an allegation that an insured has deliberately destroyed property to defraud insurers; and

iv) in considering where the balance of probabilities lies, it is important to consider the evidence as a whole, putting the available evidence as to the physical cause of the escape of water into the context of the surrounding circumstances and commercial background.

In considering (a) Cooper J was satisfied that it was possible, based on the plumbing evidence and the fact that Aviva’s own expert accepted that it was possible for the escape of water to have occurred accidentally, that the incident was fortuitous.

Evidence of a plausible financial motive

In circumstances where there was no direct evidence as to how the escape of water was caused, the question as to whether there was a financial motive became correspondingly more significant. Aviva submitted that there was a “preponderance of evidence” that the Claimant was struggling financially in the lead up to the incident, and that from March 2020 onwards the Claimant and its wider group had been placed under significant financial pressure as a result of the pandemic. To the contrary, the evidence showed that the Claimant’s group had extensive cash reserves (£7.5 million in cash and £150 million in tangible assets at the time of the incident) with a turnover of £38 million.

The Court held that the cash reserves represented a substantial hurdle to Aviva’s case that the Claimant’s controlling shareholder Mr Malhotra had motive to commit fraud to obtain a payment in relation to damage to the hotel. To that end, Cooper J pointed out that any payment made would have been diminished in covering the immediate clean up costs (which had already been incurred by the Claimant) and the costs of repair and refurbishment. There was therefore no evidence of a financial motive sufficient to explain why the Claimant would have caused the incident. In fact, all necessary steps to reinstate the hotel had been taken, without the benefit of an interim payment from Aviva.

The proper approach to the construction of fraud conditions

The Fraud Condition

The policy included a fraud condition, which read:

“If a claim made by You or anyone acting on your behalf is fraudulent or fraudulently exaggerated or supported by a false statement or fraudulent means or fraudulent evidence is provided to support the claim, We may:

(1)      refuse to pay the claim”

(the “Fraud Condition”).

In addition to the allegation that the escape of water was deliberately induced by the Claimant, Aviva made various submissions in respect of statements made by the Claimant’s employees and associates to Aviva’s loss adjusters. Those allegations included:

1. That the Claimant’s Estates Manager, Mr. Vadhera, who discovered the escape of water, was not an honest witness and had good reasons to be willing to lie in order to support the Claimant’s insurance claim, including that:

a) he had been the Claimant’s Estates Manager since 2019, overseeing 20 members of staff, and was responsible for 20 – 30 properties;

b) there was a close personal relationship between Mr Malhotra and Mr. Vadhera dating back nearly three decades;

c) Mr Vadhera was personally and financially indebted to the Claimant, due to various substantial loans;

d) Mr Vadhera was the sole director of a construction company owned by Mr Malhotra;

e) his testimony was that, upon discovery of the escape of water, he saw the cold water tank overspill, which on Aviva’s case, would not have occurred without the connected tanks also overspilling (when in fact, the Judge found that the tank in question did overspill); and

f) he told loss adjusters that he had apologised to Mr Malhotra for disturbing his birthday on the day of the incident, when in fact it was not Mr Malhotra’s actual birthday (incidentally, it was found that Mr Malhotra was indeed celebrating his 60^th birthday on that day).

2. That Atul Malhotra, Mr Malhotra’s son and the sole director of the Claimant, had lied about the whereabouts of the valve that had caused the escape of water (when in fact, he had simply not appreciated what the plumbers had handed him during the cleaning works, it being in a dissembled state and in a plastic bag).

3. That Mr Malhotra lied to loss adjusters about Mr Vadhera finding insulation in the overflow of the cold water tank (when in fact, the evidence supported that there was indeed insulation in the overflow, there was no benefit to the Claimant in it being Mr Vadhera who discovered it, and in any event who discovered it was immaterial to the claim).

4. That Mr Malhotra told loss adjusters that Mr Vadhera told him of what he had discovered on 12 July 2020, when it must have been 11 July 2020 (which was immaterial to the claim and provided no benefit to the Claimant).

Regardless, Aviva’s position was that the Fraud Condition had been breached such that it was entitled to refuse the claim.

An extension of the common law position

The common law has long prohibited recovery from an insurer where the insured’s claim has been fabricated or dishonestly exaggerated, a principle known as the fraudulent claims rule. In The Aegeon [2002] EWHC 1558 (Comm) Mance LJ extended that rule to apply to ‘collateral lies’ (i.e. fraudulent statements made in support of claims which are otherwise valid) which are material in that they:

a) directly relate to the claim;

b) are intended to improve the assured’s prospects of obtaining a settlement or winning the case; and

c) if believed, are objectively capable of yielding a not insignificant improvement in the insured’s prospects of obtaining a settlement or better settlement.

However, Versloot Dredging BV v HDI Gerling [2017] 1 AC 1 abolished that doctrine, establishing that the fraudulent claims rule does not apply to collateral lies. Giving a dissenting judgment, Mance LJ indicated that he would have upheld the test in The Aegeon, subject to potentially raising the threshold of materiality from a requirement for ‘a not insignificant improvement’ to the insured’s prospects, requiring instead ‘a significant improvement’.

After Versloot, policy provisions purportedly allowing an insurer to reject a claim pursuant to collateral lies go further than the common law position. Cooper J accepted the Claimant’s submission that – in the absence of very clear words to the contrary – fraud conditions which seek to write in a power to decline claims on the basis of collateral lies should be read as taking effect subject to the limitations of the old common law doctrine, as set out by Mance LJ in The Aegeon and modified in Versloot.

The specific wording of the Fraud Condition

Cooper J further considered whether, by referring to a ‘false’ as opposed to ‘fraudulent‘ or ‘dishonest‘ statement in the Fraud Condition, the parties were intending that any false statement, including a statement made carelessly or without knowing it to be untrue, should be enough to entitle Aviva to reject a claim.

In finding that this was not the intention, he referred to the language of the Fraud Condition, which makes clear that it is dealing with fraudulent claims and collateral lies. In other words, the Court held that the Fraud Condition intended to address a situation where there was dishonesty, and did not apply to false statements made carelessly or innocently. Further, the wording of the Fraud Condition required that any false statement support the Claimant’s claim. In other words, it only applied to false statements made to assist in persuading Aviva to pay the claim, consistent with the common law position (both before and after Versloot).

Since there was no evidence of dishonesty on behalf of Mr Malhotra or any of the Claimant’s employees and/or associates, Cooper J held that the Fraud Condition had not been breached and the Claimant was entitled to an indemnity in respect of the claim.

Key takeaways for policyholders

Cooper J’s obiter guidance on the interpretation of fraud conditions in insurance policies provides welcome protection for policyholders and reads as a cautionary tale for insurers. Allegations of dishonesty and fraud cannot be pleaded lightly, and there are professional obligations on insurers to first ensure that reasonably credible evidence exists establishing a prima facie case of fraud.

Following Malhotra Leisure, it is clear that courts will interpret conditions seeking to provide an insurer with the power to decline claims on the basis of collateral lies, subject to limitations of the old common law doctrine. In short, any collateral lie covered by a fraud condition must directly relate to the claim, be intended to improve the insured’s prospects and be capable of yielding a significant improvement in the insured’s prospects of obtaining a settlement or better settlement. Many of the allegations made in this case, including immaterial points such as whether Mr Malhotra was celebrating his birthday, and whether he was told certain facts on one day or the next, were never going to pass that test, and only served to distract from what was an otherwise covered claim.

Citation: Malhotra Leisure Ltd v Aviva Insurance Limited [2025] EWHC 1090 (Comm)

Abiigail Smith is an Associate at Fenchurch Law