Taking direct action - An innovation introduced in the 1994

A DEBATE is currently under way in Croatian maritime law circles in relation to the proposed amendments to the Maritime Code of the Republic of Croatia, 1994. One of the matters taken into account in the current revision of the code is the possibility for a third party which suffers damage for which a shipowner is liable to institute a direct action against the insurer of the shipowner’s liability.

The direct action was an innovation introduced in the 1994 code that attracted a lot of debate. The supporters of the direct action in 1994 based their argument on the need for the additional protection of the claimants due to the ever more frequent bankruptcies and liquidations of shipping companies. This was particularly true for Croatian companies in a transitional period and in the process of privatisation. The new reform of the code once again brought about discussions on the same topic.

The present position

Compulsory insurance

Croatian law distinguishes between compulsory and voluntary insurance of liability. Generally, compulsory insurance is regulated in the Law of Insurance. The legislator in this way protects individuals - their physical integrity, life and property - by providing some kind of guarantee that they will be compensated for the damage suffered. The fundamental characteristic of compulsory insurance is that it protects the interests of injured parties rather than the interests of the insured. For this reason the terms of coverage, the minimum insured amounts and the level of premiums are not subject to contractual agreement.

There is a right to a direct action, and a third party claimant is therefore in a position which is independent from the relationship between the insurer and the insured. The insurer as a defendant in a direct action may not rely on any of the defences it would have had against the insured on the basis of the insurance contract (e.g., deductibles, non-payment of premiums etc) or on the basis of a statute. Nor may defences such as the wrongful intent or gross negligence of the insured be invoked, although normally damage caused by such misconduct is excluded from insurance by law.

The Law of Insurance, inter alia, prescribes compulsory insurance of liability of the owners or users of motor-powered boats for damage caused to third persons (for personal injury, death and damage to health). In the Maritime Code there are two special cases of compulsory insurance of the shipowner’s liability. First is the liability for oil pollution damage on the basis of the International Convention on Civil Liability for Oil Pollution Damage (CLC) 1969/1992. Second is compulsory insurance of liability of the operators of nuclear-powered ships inspired by the 1962 Convention on Liability of Operators of Nuclear Ships.

Voluntary Insurance

The Maritime Code regulates marine insurance of liability contracts which are based on the free will of the parties. A shipowner may insure its liability (both contractual and extra-contractual) for damage caused to third persons in relation to the operation of the ship. The code introduces an unconditional right to a direct action against the insurer of liability which therefore does not depend on the impossibility of obtaining compensation from the liable insured person (e.g., due to bankruptcy or liquidation),

“Art. 756.
2. Third party, […] may claim an indemnity directly from the insurer for the damage or loss sustained in an event for which the insured is liable, but only up to the amount of the insurer’s liability.
4. Where the contract of insurance provides an amount for which the liability is insured, the indemnity shall be paid only up to the amount insured.”

The insurer may rely on the same limitation of liability as the insured,

“Art. 406.
4. The insurer of liability for claims subject to limitation according to the provisions of this Law, shall be entitled to avail himself of the benefit of this part of the Law to the same amount as the insured person.”

Unlike in compulsory insurance, where there is hardly any contractual freedom, here the relationship between the third party claimant and the insurer continues to be governed by the contract of insurance. Therefore, the insurer may rely on two groups of defences, first being those arising from the contractual relationship between the insurer and the insured and second being the respective relationship (contractual or tortious) between the insured and the third party.

Unfortunately the courts in Croatia sometimes confuse the nature of voluntary insurance with that of compulsory insurance. This results in the incorrect interpretation of the relevant provisions of the Maritime Code and the incorrect application of substantive law on the respective relationships between the insurer, the insured and the third party claimant.

The proposed amendments under the current reform of the Maritime Code

The proposed amendments to the direct action provision are as follows. The direct action is to be allowed ;

a) in compulsory insurance of liability; and
b) in voluntary insurance of liability when the claim is for death and personal injury of a crew member according to the relevant provisions of the Maritime Code.

Again the claim can be made only up to the limit of the insurer’s liability. Furthermore, a new paragraph is proposed clarifying that when the direct claim against the liability insurer is for death and personal injury of a crew member, the insurer may invoke all the defences which it is entitled to bring against the insured on the basis of law or on the basis of the insurance contract. On the direct action in compulsory insurance, the rules of general insurance law apply, as described above.

The proposed amendments deserve criticism on several points. Firstly, as a matter of general principle, legal consistency and practical implication, it only makes sense to allow the direct action in compulsory insurance. The liability for crew claims for death and personal injury is insured voluntarily under Croatian law. If these types of claims are considered to deserve utmost social protection, the legislator should, following the same argument, prescribe compulsory insurance for the respective liabilities. However, compulsory insurance may only be imposed upon and enforced in respect of the operators (or owners) of Croatian ships. Since there are not many Croatian ships and Croatian seamen are mostly employed on foreign vessels, compulsory insurance would not have a wider effect.

The only way to enforce compulsory insurance on foreign ships is through port state control. All ships calling at Croatian ports would be obliged to carry a certificate attesting to the provision of adequate financial security for claims. In that case at least the insurers would be aware of their exposure upon the exercise of a direct action against them. But such course of action would itself most probably adversely affect the competitiveness of Croatian ports.

Secondly, even if direct action is allowed in voluntary marine liability insurance, this can only be justified in cases where compensation cannot be obtained from the insured (e.g., due to insolvency). The current proposal entirely ignores this consideration. With a provision like this, in practice virtually all claims would be first directed against the insurer, since that is far more convenient, expedient and much less expensive.

Thirdly, if the insurer may invoke all the defences under the contract of insurance, as proposed, one of these will almost certainly be the ‘pay to be paid’ rule, which means that the action will fail. Therefore, the ‘pay to be paid’ defence would have to be nullified by an express provision. Furthermore, in the amendments there is no mention of the insurer being entitled to the defences that the insured would have had against the third party claimant on the basis of the original cause of action, which could be misleading.

Finally, together with the conflict of law provisions, the effect is such that it allows the Croatian courts to assume jurisdiction and apply Croatian law very widely whenever the claimant is a Croatian seafarer. This would mean that the P&I clubs of virtually all shipowners employing Croatian crew would become exposed to direct action in Croatian courts and under Croatian substantive law. This could lead to an internal policy within the P&I clubs to encourage their members not to employ Croatian crew.

Shifting the burden unilaterally onto foreign shipowners and their insurers through over-protective laws is a short-sighted solution which will ultimately result in the uncompetitiveness of the domestic industry.