Insights for consumers and participants
A reasonable precautions exclusion in an insurance policy does not allow an insurer to decline a claim merely because the insured was negligent, or because better controls could have prevented the loss. Proving recklessness is a high threshold. In this case, the insured’s controls were inadequate, but not so inadequate that the insured had knowingly courted the risk or acted in a way an ordinary person would regard as grossly irresponsible.
What happened?
Harbour operated a small vehicle rental business and held a liability policy with an insurer. The policy covered loss caused by employee theft.
Harbour hired Ms R in a customer service role. Around four months later, Harbour’s customers began contacting Harbour to say they had not received their bond refunds. Harbour investigated and discovered that Ms R had processed about $80,000 in refunds to her own EFTPOS cards instead of to the customers. Harbour lodged a claim for their loss with the insurer.
What were the parties’ views?
The insurer declined the claim, relying on an exclusion in their policy for direct financial loss arising from the insured’s failure to take all reasonable precautions to prevent their loss. The insurer said Harbour had failed to conduct proper pre-employment checks, gave Ms R broad authority to authorise, process, document and reconcile refunds, and did not have a secondary authorisation process to verify that refunds were legitimate before they were processed.
Harbour disagreed. They said controls were in place, including record keeping for bookings and refunds, a master PIN for the EFTPOS refund system, and a daily reconciliation processes to be reviewed by the branch manager (which the branch manager had negligently failed to perform in practice). They also said the insurer’s interpretation would undermine the commercial purpose of the policy, which is to protect Harbour against dishonest employee conduct.
What was FSCL’s view?
While the case was finely balanced, we concluded that the circumstances fell short of the high threshold required to prove recklessness under New Zealand law.
Harbour had failed to take all reasonable precautions. Stronger controls may have prevented or reduced the loss. However, the relevant question was not simply whether Harbour had been negligent. The insurer needed to show Harbour had been reckless by either:
- knowingly courting the risk of employee fraud, or
- engaging in conduct that any ordinary person would regard as grossly irresponsible.
The key elements of this decision were that:
- The key control against employee theft was the branch manager’s reconciliation of daily receipts and refunds. That control failed because the branch manager wasn’t doing their job properly. It was reasonable for Harbour to expect their branch manager to do their job properly. If the branch manager was doing their job properly, that would have prevented or minimised the losses they experienced.
- Although Harbour’s failure to conduct pre-employment checks was negligent, there was no evidence that doing those checks would have revealed information that would have changed the outcome.
- Harbour ran a small business where employees were often left in sole charge, so some concentration of responsibility for staff was understandable, even if not ideal.
- The insurer had not made any underwriting enquiries about Harbour’s internal fraud controls before agreeing to provide cover.
How did FSCL suggest that the complaint should be resolved?
We suggested the complaint should be resolved by the insurer paying the claim.
Although Harbour’s controls were imperfect and its failures contributed to the loss, we were not satisfied that their conduct reached the high threshold of recklessness required to rely on the “reasonable precautions” exclusion in the policy.
Both parties accepted the preliminary decision and agreed to settle the complaint.
