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Rule 77 Administrative costs, insolvency and sanctions etc.

The Association shall not cover:

a the Member’s internal administrative costs or expenses;

liabilities, losses, costs and expenses arising out of the insolvency of the Member or any other person or out of overdue or irrecoverable debts or out of any of the circumstances described in Rules 25.1(a) and (b).

The Association shall not indemnify a Member against any liabilities, costs or expenses where the provision of cover, the payment of any claim or the provision of any benefit in respect of those liabilities, costs or expenses may expose the Association to any sanction, prohibition, restriction or adverse action by any competent authority or government

3 The Member shall in no circumstances be entitled to recover from the Association that part of any liabilities, costs or expenses which is not recovered by the Association from any party to the Pooling Agreement and/or from any reinsurer because of a shortfall in recovery from such party or reinsurer by reason of any sanction, prohibition or adverse action by a competent authority or government or the risk thereof if payment were to be made by such party or reinsurer. For the purposes of this paragraph, ”shortfall” includes, but is not limited to, any failure or delay in recovery by the Association by reason of the said party or reinsurer making payment into a designated account in compliance with the requirements of any competent authority or government.

 

Guidance

(A) …internal administrative costs or expenses… (Rule 77.1.a)
The purpose of the Association is to provide insurance cover for liabilities, losses, costs and expenses that are fortuitously incurred by the Member in relation to the operation of the Ship, but not to provide insurance cover for the internal, administrative costs and expenses that are incurred by the Member, even if these are higher than usual as a result of claims that involve the Member. Therefore, whilst Rule 46 makes cover available for extraordinary costs and expenses that are reasonably incurred by the Member on or after the occurrence of a casualty or event for the purpose of avoiding or minimising any liability that may be incurred by the Association, it does not make cover available for any internal administrative costs and expenses that the Member incurs for this purpose.1 Similarly, Defence cover is not available for work done, and time spent, by the Member’s own in-house lawyers and other staff in relation to claims for which the Member seeks Defence cover even if such involvement is necessary, substantial and productive.2 

It is not possible to give a definitive list of those cost items that are deemed to be ‘internal administrative costs or expenses’ for the purposes of Rule 71.1.a but they include items such as the costs of staffing the Member’s office and rental and utility charges. Furthermore, in order to ensure that the claims of all Members are handled by the Association with the same degree of consistency, the Association is given the discretion to determine whether particular items are to be treated in any particular circumstances as ‘internal administrative costs or expenses.’ 

Notwithstanding the exclusion of cover for such costs and expenses, the Member is obliged in the event that cover is available from the Association for a particular claim, to obtain, at his own cost, any information that may be required by the Association, and to make calculations, attend meetings and provide whatever assistance that may be required by the Association, whether by use of his own employees or by the use of others that are regularly used to perform such services.3 If the Member fails to do so, he may be considered to be in breach of the duty that he has under Rule 82 to provide the Association with the necessary assistance that may be required by the Association in order to deal with claims. In such circumstances, the Association has the right, under Rule 82.2 to reject the claim or to reduce the sum that would otherwise be payable to the Member. The Association also has similar rights in relation to Defence cover.4 

(B) …insolvency of the Member or any other person or out of overdue or irrecoverable debts or out of any of the circumstances described in Rules 25.1.a and b. (Rule 77.b)
Rule 77.b deals with two quite separate scenarios – the financial failure of the Member, and the financial failure of others with whom the Member carries on business. In either case, cover is not available for liabilities, losses, costs or expenses that arise in such circumstances since liabilities, losses etc., that arise as a result of financial failure affect all types of business activity and cannot be said to arise purely and simply in direct connection with the operation of the particular Ship.5 

Furthermore, in the event that the Member becomes insolvent in the circumstances described in Rules 25.1 and 25.2, he ceases automatically upon the occurrence of any such event to be covered by the Association in respect of any and all Ships that are entered by him.6 

(C) The Association shall not indemnify a Member against any liabilities...where the provision of cover may...expose the Association to any sanction... (Rule 77.2)
Rules 77.2 and 77.3 were introduced with effect from the 2011 policy year as a result of the introduction of new sanctions clauses into the International Group General Excess Loss reinsurance contract and the Pooling Agreement the purpose of which is to protect reinsurers against exposure to any sanctions, prohibitions or restrictions that may be applied by individual states and/or international organisations. Rules 77.2 and 77.3 are intended to ensure that the cover that is provided by the Association to its Members is ’back to back’ with the reinsurance cover that is provided to the Association by the International Group Pool and market excess loss reinsurance, and to thereby avoid the risk that the Association may be exposed to liabilities, costs and expenses for which there would be no reinsurance protection or for which there would be a shortfall in reinsurance recovery. 

Unlike Rules 24.3 and 25.4, Rules 77.2 and 77.3 do not provide for the termination or automatic cesser of the contract(s) of insurance for the subject Ship(s). Therefore, subject to Rules 24 and 25 where applicable, the contract(s) of insurance will remain in force, albeit that the Association will not be obliged to indemnify the Member in the circumstances that are described in Rules 77.2 and 77.3. Furthermore, Rules 77.2 and 77.3 have wider application than Rules 24.3 and 25.4 in that they apply in circumstances where the Association may be exposed to, or be unable to recover under the Pooling Agreement as a result of, ”any sanction, prohibition, restriction or adverse action by any competent authority or government.” 

Rule 77.2 provides, firstly, that the Association shall be under no legal obligation to indemnify a Member for any liability, cost or expense in circumstances where the mere provision of insurance cover for the subject liabilities, costs or expenses may expose the Association to any sanction, prohibition, restriction or adverse action by any competent authority or government. In recent years, various sanctions regimes have been promulgated by the United Nations and the European Union and by individual countries including the United States, the United Kingdom, Bermuda and Norway that have imposed sanctions on any business activities that contravened the prohibition rules including the insurance of such business activities and the transfer of funds to sanctioned countries. The prohibition has applied to countries such as Iran, the Ivory Coast, Libya, Syria and Russia and it is realistic to assume that similar sanctions may well be promulgated against other countries in the future. It should also be appreciated that sanctions provisions are often voluminous, complex and often lack uniformity which makes compliance extremely difficult. 

Rule 77.2 also applies in circumstances where there is a risk that the Association may be exposed to sanctions etc., as a result of the payment of claims or the provision of any benefit in respect of the subject liabilities, costs or expenses. For example, the Association is not obliged to pay any sums to a third party pursuant to any judgment, award or settlement agreement, or to provide security for claims on behalf of a Member, if such payment or provision of security might expose the Association to sanctions for having contravened any regulations that prohibit or restrict such payment or the provision of such security. Similarly, the Association is not obliged to indemnify a Member that had made such payment and thereafter seeks recovery from the Association under the P&I insurance if the provision of such indemnity might expose the Association to any risk of sanction. This provision also applies to the payments of costs and expenses for P&I correspondents and/or legal services in the country that is subject to such sanctions, if such payment contravene regulations that prohibit or restrict the transfer of funds. 

The Association will invoke this provision if it believes that it may be exposed to sanctions, even if the underlying transaction is legal. For example, even if the Ship is carrying foodstuffs, such as grain, that has been duly licensed by the US and/or any other relevant authority, and is therefore, not in breach of any relevant sanctions regime, the Ship could still be involved in a casualty in Iranian territorial waters or could make contact with a fixed or floating object in such waters. If the person or entity that is pursuing a claim in such circumstances is a designated or blacklisted citizen under an applicable sanctions regime, the Association would not be able to make any payments in relation to such a claim. 

(D) The Member shall in no circumstances be entitled to recover from the Association that part of any liabilities, costs or expenses which is not recovered by the Association from any party to the Pooling Agreement and/or from any reinsurer because of a shortfall in recovery from such party or reinsurer by reason of any sanction, prohibition or adverse action by a competent authority or government… (Rule 77.3)
Rule 77.3 makes it clear that the Association is not obliged to pay compensation to any Member in respect of any liabilities, costs or expenses if the Association is not able to be indemnified for such payment by any party to the Pooling Agreement and/or from any reinsurer because of the applicability of any sanction, prohibition or adverse action on the part of any competent authority or government. The provision also makes it clear that the inability to recover from a party to the Pooling Agreement and/or reinsurer is also deemed to occur where such parties are not permitted by the competent authority or government to transfer funds to the Association, but only to a designated account. It is envisaged that a competent authority or government could well decide to order that payment must be made in this manner as an interim measure, e.g. in order to complete investigations to determine whether payment of the compensation by such parties constitutes a breach of the relevant sanctions regulations. 

Rule 77.3 is intended to protect the Association against any shortfall in recovery from the Pool or reinsurers by reason of sanction risks. It applies in circumstances where, although payment of a claim or provision of cover by the Association may not expose the Association itself to the risk of sanction, the Association may not be able to recover from another association in the International Group of P&I Clubs or a reinsurer by reason of a sanction risk to which that association or reinsurer is exposed (e.g. in another jurisdiction). For example there could be a situation where US reinsurers are not allowed to make the payment that is required under the relevant reinsurance arrangements, in which case, the Association is not obliged to make any payment to the Member of any sum that the Association is not able to recover from its reinsurers. 

Therefore, Rule 77.3 has the result that the risk of a shortfall in recovery is transferred from the Association to the relevant Member. Whilst this is disadvantageous to the Member, the Association has a duty to the membership as a whole and such a result is considered to be in the interests of the mutual membership as a whole in order to ensure that the assets of the Association are protected.


1 See the Guidance to Rule 46.
2 See also (A) to the Guidance to Rule 65
3 See the Guidance to Rule 82.4.
4 See the Guidance to Rules 65 and 67.
5 See Rule 2.4.a.
6 See the Guidance to Rule 25.1.