The Equitable Remedy
Since, the Eighteenth Century insurance has been considered a business of the utmost good faith.
Parties to an insurance contract are required to deal with each other fairly and in good faith. Neither party should conceal any material facts from the other nor should either misrepresent any facts material to the decision to insure or not insure.
In England, before there was a United States of America, courts were divided between law courts that dealt with money damages and courts of equity that existed only to allow for dealing fairly with litigants. Rescission was one of those ancient equitable remedies where two contracting parties sought to avoid a contract because there was a mistake as to the reason for the contract, misrepresentation, concealment or fraud. The court would order the contract void ab initio, that is, from its inception with each party returning the consideration received for the contract. When dealing with an insurance contract, if the court found rescission was appropriate, the contract was declared void, the insurer was required to return the premium to the insured and the insured was required to return the contract to the insurer and both would treat the insurance contract as if it never existed.
One of the first, if not the first insurance rescission case which also reported that insurance was a contract of utmost good faith, was decided by Lord Mansfield in the British House of Lords, in 1776. Since it is a first and uses some ancient English usages and spellings, it is worthy of being read in full and in its original language at Carter v. Boehm, S.C. 1 Bl.593, 3 Burr 1906, 11th May 1766.
After 1935, if a California contract of insurance was entered into as a result of mistake of fact, mistake of law, concealment of material fact or misrepresentation of material fact the insurer or the insured has the right to rescind the policy from its inception. The California Supreme Court, the Ninth Circuit Federal Court of Appeal and the California courts of appeal have consistently enforced the right of insurers to rescind policies of insurance without requiring the party deceived to present evidence of intentional misrepresentation, intentional concealment of material fact or fraud. All that is required is that the party deceived was in fact deceived about a fact or facts material to the decision to insure. Other states make it more difficult to rescind a policy of insurance and consider states like California to apply the law of rescission in a Draconian fashion.
California rescission statutes do not require that the party deceived prove it was deceived intentionally. All that is required is that the party deceived by a misrepresentation or concealment of a material fact or mistake prove the deception and that the fact misrepresented or concealed was material to the decision to insure or not insure. If deceived the party deceived can return the consideration – the policy or the premium paid – and both parties return to their position immediately before the policy was issued.
Not all states allow rescission for innocent misrepresentations or innocent, inadvertent misrepresentations of material fact or concealment of material fact not related to a loss. They require either fraud or intentional misrepresentation of material fact and some require that the misrepresentation be relevant or related to the pending claim.
Rescission is an equitable remedy as ancient as the common law of Britain. When the United States was conceived in 1776 the founders were concerned with protecting their rights under British common law. They adopted it as the law of the new United States of America modified only by the limitations placed on the central government by the U.S. Constitution approved in 1789. The viability and ability to enforce contracts was recognized as essential to commerce. Courts of law were charged with enforcing legitimate contracts. Courts of equity were charged with protecting contracting parties from mistake, fraud, misrepresentation and concealment since enforcing a contract based on mistake, fraud, misrepresentation or concealment would not be fair. The common law developed rules that courts could follow to refuse to enforce the terms of a contract that was entered into because of mutual mistake of material fact, a unilateral mistake of material fact, the breach of warranty (a presumptively material promise to do or not do something), a material concealment, or a material misrepresentation. The remedy – called rescission – created a method to apply fairness to the insurance contract and allow an insurer to void a contract and allowed courts to refuse to enforce such a contract entered into by misrepresentation or concealment of material facts.
Read more about this and other insurance books by Barry Zalma at zalma.com/zalma-books/