University of New South Wales Law Journal Student Series
UTMOST GOOD FAITH AND FAIRNESS IN LIFE INSURANCE:
RESTORING CONSUMER CONFIDENCE
Fairness is an important facet of robust buyer-seller relationships, particularly in the context of financial services. Consumer confidence is detrimentally affected where consumers and the community as a whole perceive systemic unfairness in financial products, or in dealings with financial services providers in respect of those products. That much is evident in recent public discourse surrounding Australia’s life insurance industry. As set out in Pt II below, the fairness of life insurers’ claims handling practices has come under the spotlight, highlighting a gap between ‘reasonable consumer or community expectations’ and insurers’ conduct. This contradicts a fundamental ‘theme that runs through the law of contract ... that the reasonable expectations of honest men must be protected’.
This paper argues that when a claim is made on a life insurance policy ‘reasonable community expectations’ require the handling of that claim to be procedurally and substantively fair. That is to say, the outcome of the claim and the steps taken to achieve that outcome must both be fair. For consumers, the ‘intrinsic value’ of a life insurance policy is ‘the ability to make a successful claim when an insured event occurs’. However, the long-term and complex nature of such contracts renders it difficult to evaluate the likelihood of making a successful claim at the time of entering into the contract. The corollary is that consumers have particular difficulty assessing the value of these products, perpetuating a gap between the community’s reasonable expectations and industry practice.
Nonetheless, Pt II contends there is a strong economic and social welfare imperative to bridge the expectation gap and align claims handling with reasonable community expectations. To that end, this paper focuses on s 13 of the Insurance Contracts Act (‘s 13’, ‘ICA’), which provides that contracts for insurance are ‘based on the utmost good faith’. The highest authority in the Australian jurisdiction equates the duty with acting ‘consistently with commercial standards of decency and fairness, with due regard to the interests of the insured’. That has subsequently been interpreted to encompass ‘notions of fairness, reasonableness and community standards of decency and fair dealing’. However, it is difficult to distil the meaning of utmost good faith in practice when handling life insurance claims, given the want of judicial authority or practical guidance on the point.
Accordingly, this paper compares utmost good faith with fairness to evaluate whether it is an appropriate legal vehicle to bring procedural and substantive fairness into the handling of claims under life insurance policies. Pt III contends that utmost good faith is a separate and more onerous obligation than ordinary good faith. Further, by reference to the nature of the obligation, and the legislative framework as a whole, Pt IV argues that utmost good faith must at a minimum encompass fairness, in both a procedural and substantive sense. Ultimately, however, the community reasonably expects commercial standards of conduct in claims handling to exceed fairness. Indeed, utmost good faith incorporates standards of conduct beyond the recognised elements of fairness.
At a conceptual level, therefore, the legal standard required by utmost good faith ought to suffice to bridge the expectation gap. However, considering the core elements of fairness, Pt IV demonstrates that claims handling processes are not meeting that legal standard. Woven through the analysis in Pt IV is a case study of claims made under policy terms pertaining to heart attacks in FOS’ Determination 276195 (‘276195’), and Larwint Pty Ltd v Norwich Union Life Australia Ltd (‘Larwint’), both of which demonstrate the effect of the expectation gap in practice. Pt V therefore considers appropriate mechanisms to address the systemic and structural limitations that inhibit insurers’ ability to meet reasonable community expectations. It argues that the industry has made improvements in respect of procedural fairness in the Life Insurance Code of Practice as a launching pad for industry driven standards of best practice. However, the Life Insurance Code of Practice is not an effective mechanism to deliver substantive fairness. In that respect the industry requires regulatory reform to address persisting issues pertaining to reinsurance and underwriting, legacy products, and out of date policy definitions. Only then can claims handling satisfy reasonable community expectations of fairness.
II BRIDGING THE EXPECTATION GAP WITH FAIRNESS
A Unfairness in Life Insurance
Recent scrutiny of the life insurance industry by Parliament, media and regulators has reflected and compounded consumers’ concerns surrounding claims handling practices and eroded trust in the industry as a whole. In March 2016 the Senate referred matters regarding life insurance to the Economics References Committee (Committee) seeking submissions on, inter alia, the need for further reform and improved oversight of the industry. 
Submissions made to the Committee revealed the most significant consumer concerns in the claims handling context to be:
unreasonable requests for information or piecemeal evidence gathering;
3. concerns with surveillance and investigation tactics;
4. disputes centered on non-disclosure or misrepresentation;
5. difficulty meeting policy definitions and out of date medical terminology;
financial hardship brought about or exacerbated by delays; and
complaints relating to problematic products.
Whilst a detailed review of each issue is beyond the scope of this paper, it considers them more broadly as examples of procedural or substantive unfairness. Issues 1 to 3 are examples of procedural unfairness, evidencing concerns of unfair conduct in the performance of the contract. Issues 5 to 7 are matters of substantive unfairness, regarding unfair consequences or effects of contractual performance. Arguably, Issue 4 is a mix of procedural and substantive unfairness, relating to performance and with a potentially substantive effect on the outcome. It is thus clear that consumers’ concerns regarding life insurance span both procedural and substantive unfairness.
The community reasonably expects good claims handling practices to be both procedurally and substantively fair. They must be procedurally ‘unbiased, refutable, well-explained’, as well as ‘efficient, fair, reasonable and transparent’. Substantively, claims handling should be based on terms that make sense to consumers, incorporating notions such as ‘getting a fair deal’. Products must be up to date, meet consumer needs and promoted in ways that facilitate consumer understanding of policy inclusions and exclusions. Where claims handling fails to satisfy these criterion, there is a gap between reasonable community expectations and industry standards of conduct, which leads to perceptions of unfairness.
B The Importance of Fairness
Perceptions of fairness are particularly important in contractual dealings where outcome satisfaction and consumer relationships are relevant concerns. The imperative for fairness is compounded in the context of financial services, where evaluations of products ‘cannot be made for many years’. In response to the aforementioned failures to meet the community’s reasonable expectations, ASIC contend that insurers should give greater consideration to fairness to improve consumer confidence in, and engagement with, the industry.
Doing so is important, as life insurance provides individuals and the community with significant benefits. Nonetheless, Australia has an endemic and persevering underinsurance problem which cost the government approximately $1.3 trillion for total and permanent disability cover and $57 million for life insurance in 2015. As policies are ‘generally sold, rather than bought’, retail risk insurance advice was carved out from the prohibition on conflicted remuneration since ‘measures to restrict incentives for the sale of life insurance should ... be considered with caution’. However, the community is buying less life insurance, allowing policies to lapse, and ‘there is much concern about delay and unfairness in processing claims’.
Ultimately, profitability levels are under pressure; direct life insurance offices are reporting profit downgrades and even outright sales of life insurance businesses. The Australian Prudential Regulation Authority is concerned insurers may take a stronger stance when considering claims to reduce claims costs in response. However, insurers must ‘be satisfied that claims are assessed fairly and in accordance with the policy terms’. The question then is whether the overriding, governing principle of utmost good faith requires fairness, and if so whether it is an effective legal vehicle for delivering outcomes that accord with reasonable community expectations.
III UTMOST GOOD FAITH – SCOPE AND BASAL STANDARD
A The Duty’s Scope
In its earliest form, the duty of utmost good faith, or uberimae fides, was ‘very narrow and precise’. As enunciated in Carter v Boehm, its scope was limited to a pre-contractual duty to disclose facts that were particularly within the knowledge of one party, usually the insured. However, as the duty developed through the common law and was subsequently ‘reaffirm[ed] in an expanded form’ in the ICA, it has become much broader and all-encompassing. 
The duty now applies beyond the point of contractual formation. Whilst never clearly established in Australia’s common law, it is abundantly clear that the reformed conception of utmost good faith in the ICA extends to all aspects of the relationship between insurer and insured, including settling claims. The characterisation of a contract for insurance as one based on the utmost good faith reflects this intention, and is bolstered by the implication of a provision requiring each party to ‘act towards the other with the utmost good faith’. This implied term arises in respect of any matter arising under or in relation to the insurance contract, and thus clearly extends to claims handling.
The live issue, with which the life insurance industry is grappling, is the standard of conduct required in the context of claims handling to satisfy the duty. Whilst utmost good faith is considered an ‘extremely significant’ concept, it is also a ‘nebulous’ one. The ICA does not define ‘utmost good faith’, and so its meaning must be determined by reference to the common law. However, the bulk of the common law jurisprudence concerns pre-contractual duty of disclosure. In respect of conduct subsequent to contractual formation, there has not yet been occasion to attempt ‘any comprehensive definition of the duty, or to canvass the ranges of conduct which might fall within, or outside’ of s 13. The result is an absence of clear guidance and ‘a large grey area in the practical implementation of the doctrine from the consumer perspective’. It is, however, possible to compare the enunciated scope of utmost good faith against established legal standards to give some texture to the meaning of ‘commercial standards of decency and fairness’ in claims handling.
B More Than Good Faith
Relational contracts that endure over time, including those for life insurance, may be more readily bound by obligations of good faith. Acting with good faith demands:
• loyalty to the promise itself; and
• compliance with standards that are reasonable, having regard to the interests of the parties.
This sets the basal standard of conduct required by utmost good faith. Whether the inclusion of ‘utmost’ adds anything to the concept of good faith is an important question for the purpose of establishing the conduct the community may reasonably expect in terms of claims handling. Some suggest that utmost may add very little to the obligation, ‘as it is the examination of good faith that goes to the heart of the concept’. However, in CGU v AMP, Kirby J considered that ‘emphasis must be placed on the word utmost’ and that ‘the exhibition of good faith alone is not sufficient’. Indeed, a comparison of the elements of good faith and the jurisprudence in respect of utmost good faith supports a contention that it requires conduct of a higher standard than is required by good faith.
Honesty is an element of utmost good faith. It imputes an obligation similar in nature to the one incumbent upon a repository of contractual discretion to exercise that discretion honestly. However, unless it involves more than acting honestly, no effect is given to the word utmost. Honesty therefore sets the base, but not the limit, of an insurer’s obligation when handling a claim. To that effect, in CGU v AMP, the Court preferred a broader conceptualisation of utmost good faith, rather than one that limited an absence of good faith to circumstances of dishonesty. That finding was approved by the Court of Appeal in TAL Life Ltd v Shuetrim; MetLife Insurance Ltd v Shuetrim.
Arguably, utmost good faith requires an insurer to exhibit ‘more than the measure of honesty in narrow particulars familiar to lawyers’. The term ‘faith’ in s 13 alters the balance away from the insurer’s word or conduct, and suggests ‘an openness, a reliable honesty’. This summation reveals a level of honesty that is closer to community understanding than strict legal principles. Adopting an approach which is overly technical, for example, offends community expectations of honesty. Indeed, ASIC has expressed concern in circumstances where claims are ‘declined on technical or contractual grounds that are not in accordance with the ‘spirit’ or ‘intent’ of the policy’.
Loyalty to the promise and efficiency
Good faith requires the parties to cooperate in achieving the contractual objects, exhibiting a loyalty to the promise itself. When an insurer assesses a claim under a policy, it is ‘in a very real sense acting as a judge in the insurer’s own case’. The insurer must, therefore, ‘do all such things as are necessary’ on its part to enable the insured ‘to have the benefit of the contract’. This means an insurer must act in an unbiased way and must not act unreasonably.
Whilst these obligations only apply in respect of enforceable obligations under the contract, utmost good faith demands that an insurer promptly indicate whether they admit or deny indemnity. Failure to make and communicate within a reasonable time, a decision of acceptance or rejection of a claim for indemnity due to ‘negligence or unjustified and unwarrantable suspicion as to the bona fides of a claim may constitute a failure to act with the utmost good faith. Ultimately, the duty precludes ‘evasion of the spirit of the bargain’. It is axiomatic that a failure to communicate which stems from ‘a desire to achieve some purpose altogether ulterior to the honest rejection’ of the claim’ is certainly a failure to act with utmost good faith.
Regard to the parties’ interests
Finally, good faith requires an insurer’s conduct to be reasonable having regard to the interests of the parties. An insurer is required ‘to exercise the powers conferred upon it by the agreement in good faith and reasonably ... not capriciously or for some extraneous purpose’. However, whilst acting with good faith does not require a party to disregard its own interests, utmost good faith may require an insurer to do so in appropriate cases, as set out in Pt IV below.
IV UTMOST GOOD FAITH AND FAIRNESS
Having established that utmost good faith requires more than ordinary good faith, it is necessary to consider how far the obligation stretches. In particular, it is necessary to establish whether utmost good faith requires the procedural and substantive conceptualisation of fairness that the community reasonably expects in claims handling. Undeniably, ‘social expectations of fairness permeate ... into legal and economic relations’. Financial services providers ‘operate on a social licence from the Australian people...on a foundation of trust’. In contractual dealings, the expected standard is ‘fair dealing’ in contractual performance and ‘anything less is contrary to prevailing community expectations’. Indeed, the duty of utmost good faith is often discussed by reference to fairness, requiring parties ‘to act honestly and fairly toward each other’.
This section argues that, at a conceptual level, utmost good faith equates to and in fact exceeds fairness. However, this is not translated in practice in a way that delivers utmost good faith’s intended purpose as ‘a panacea for unfairness’. Comparing the jurisprudence pertaining to utmost good faith with the core elements of fairness, Pt IV.A contends that the industry is making progress in terms of procedural consistency but falls short of substantive fairness. Pt IV.B argues that the industry is failing to deliver substantive fairness, taking into account notions of reciprocity, flexibility and equality. Further, Pt IV.D contends that utmost good faith in fact demands a higher standard of conduct than fairness, but the industry is not delivering standards of conduct that accord with community expectations in this respect. As a consequence, there is an expectation gap that persists by virtue of structural issues in the life insurance industry.
A Procedural Fairness –Towards Consistency
Consistency ‘leads to perceptions of fairness amongst customers’. Fairness therefore requires consistent standards of conduct in the performance of all stages of life insurance contracts. This is a signal source of fairness and ‘inconsistent management’ of claims leads to ‘poor outcomes for consumers and significant reputational damage for insurers’. Arguably, one of s 13’s great virtues is that ‘it makes it easier to teach lawyers and claims managers the basic principles of insurance law’. However, in practice, it is uncertain what the duty requires and the corollary is an absence of consistency in interpreting the duty and applying it to claims handling.
The life insurance industry has lacked a practical and uniform approach to claims handling, largely due to the fact that for many years it has operated without a code of practice. The direct consequence has been poor consumer outcomes in relational interactions, including claims. The Trowbridge Report considered that an industry code could ‘lead to improved standards of practice and service’ thereby improving trust and confidence in the industry. In response, the Financial Services Council (‘FSC’) has developed the Life Insurance Code of Practice, with which all life insurance companies who are FSC members must comply. Being specific to life insurance, the Life Insurance Code of Practice gives practical meaning to utmost good faith in a claims-handling context.
The Life Insurance Code of Practice’s surveillance provisions, for example, evidence its efficacy as a mechanism to create consistency where the legislative framework fails to do so. Surveillance by insurers has been regulated under non-uniform, state-based privacy laws. These regimes are complex and inconsistent, and thus ‘provide irregular protection and little comfort to parties subject to intrusive... surveillance’. By contrast, the Life Insurance Code of Practice offers consumers an assurance of a consistent, industry-wide procedural standard in a public and accessible forum.
B Addressing Substantive Unfairness
Emerging authority suggests that where financial services providers are required to act fairly, that encompasses both substantive and procedural fairness. For example, as financial services licensees, insurers are obliged to do all things necessary to ensure that they provide financial services efficiently, honestly and fairly. Whilst this necessitates a procedural requirement to act with ‘even-handedness in dealing with clients’, it also mandates, substantively, ‘a less readily defined concept of sound ethical values and judgment in matters relevant to a client’s affairs’. It is not enough to treat clients impartially and to apply fair procedures when dealing with them, and thus the standard is set at a substantive level of fairness. This is an objective standard that assesses reasonable expectations and reasonable standards of performance, reflecting a concern with the end result or outcome of contractual dealings. A licensee will not have acted efficiently, honestly and fairly, for example where they engage in conduct that is morally wrong in a commercial sense.
Whilst claims handling is carved out from the scope of s 912A, and so there is no requirement created by that section for insurers to act honestly, efficiently and fairly when handling claims, arguably a similar standard is expected by the community in respect of claims handling. This section therefore compares key elements of fairness as against current issues in the life insurance industry to demonstrate practical shortcomings, which perpetuate a gap between community expectations and commercial realities.
Reciprocity and policy terms
In CGU v AMP, Kirby J emphasised that ‘parties to insurance contracts in Australia, unlike most other contracts known to the law, owe each other, in equal reciprocity’ a duty of utmost good faith. In financial dealings, fairness is found ‘as reciprocity or mutuality of obligations’. It is morally repugnant, and goes against the core of fairness where ‘one party to the bargain is not getting what it has been represented they will get’, as the fair or agreed value of a transaction.  In those circumstances there is an absence of reciprocity.
A concern with reciprocity is evident in the earliest enunciation of utmost good faith in Carter v Boehm which considered it ‘reasonable that the insurer is informed of any circumstances that may impact upon the decision to accept the risk’, so that pricing and terms in the underwriting process adequately reflected that risk. This was a manifestation of the notion that insurance contracts ought to operate ‘within principles of fair dealing’ and that ‘honesty, candour and fair dealing were to be encouraged and fostered between insurers and the insured’. Arguably, the balance has now swung too far in favour of insurers, such that insured persons are unable to determine at the outset the risk they are assuming under the policy.
Where there is a ‘misalignment between what [the insured] understood the policy to cover and its actual cover’ an expectation gap arises. This results in perceptions of substantive unfairness, particularly where a policy definition is out of date or highly technical, as evidenced in the ‘heart attack’ definitions considered in 276195 and Larwint. In 276195 the insured argued it was fair and reasonable to expect that a financial services provider would accept a claim for indemnity when presented with ‘medical evidence of a heart attack’. However, the financial services provider submitted that, whilst the insured had suffered a ‘cardiac event’, this did not satisfy the strict terms of the policy definition. FOS determined in favour of the financial services provider, relying heavily on the decision in Larwint. In Larwint, the insured’s treating cardiologist gave evidence that the life insured had suffered a heart attack in accordance with the medical understanding of the term. However, this failed to satisfy the policy definition. The Court considered its primary duty was to ‘discern from the language, structure and apparent purpose of the document what it means, and ... should give the words used their ordinary operation. The purpose of the policy was not ‘to give indemnity ... where a person suffers a heart attack in lay or medical parlance, but where a person suffers a heart attack as defined’, and there was ‘no occasion to manipulate the language of the definition or to make it accord with modern day medical practice’. Similarly, 276195 found it ‘fair in all the circumstances’, considering Larwint, ‘to have to satisfy one of [the policy’s] diagnostic bases to be entitled to a benefit under the policy’.
From a contractual interpretation perspective, the findings in 276195 and Larwint are sound. It is irrelevant whether a particular insured has interpreted the words of the policy in a particular way. The ordinary meaning of the words in a policy is to be ascertained having regard to the context in which they appear, the purpose of the policy, the presumed common intention of the parties and in light of all the relevant circumstances, or objective background facts, known to both parties. Whilst the words of the policy in 276195 and Larwint were unambiguous, arguably the outcome is substantively unfair, and is not a fair and reasonable construction which takes into account the variety of persons entering into an insurance contract that is intended to respond to a heart attack.
Generally, substantive unfairness in consumer contracts is considered by reference to the Unfair Contracts Term Law. However, those provisions do not apply to insurance. A contract of insurance is not capable of being made the subject of relief under any Act other than the ICA, including relief on the ground that the contract is harsh, oppressive, unconscionable, unjust, unfair or inequitable. The legislative intention of that provision ‘was to make the [ICA] ... the sole source of power to grant relief in respect of’ such contracts. The exclusion is appropriate having regard to the effect of ss 13 and 14, under which ‘the current protections for insureds ... are stronger than (or at least as strong as) those provided by the unfair contracts provisions’.
However, there is a critical distinction between claims for conditions that could not reasonably be expected to be covered under the policy and those conditions that the policyholder could reasonably expect to be covered. Substantive fairness can only be considered relevant and necessary in the latter case – it is the community’s reasonable expectations that must be met, not an individual’s subjective expectations. The community reasonably expects that an insurer should not, deliberately or unconsciously, take advantage of the consumer’s necessity, indigence, lack of experience, unfamiliarity with the subject matter of the contract. Further, if the prima facie approach to interpreting policy terms ‘runs counter to the reasonable expectations of honest men’, this may require ‘a rigorous re-examination of the problem to ascertain whether the law does indeed compel demonstrable unfairness’. Arguably, this conception ‘reaches further’ than the traditional Lord Bingham criterion in Director General of Fair Trading v First National Bank plc, and provides ‘a necessary ethical standard’ that is closer to the standard of fairness that ought to be exhibited under a duty of utmost good faith.
Section 13 was intended to enshrine a ‘flexible principle’ that would suffice ‘to deal with unexpected difficulties’ arising in the insurance context. An obligation to act with utmost good faith was intended to 'reduce the need for administrative control over the terms and conditions of policies’, creating greater flexibility, on the basis that precluding a party from relying on a contractual provision where it would be a breach of the duty of utmost good faith to do so, would ‘provide sufficient inducement to insurers ... to be careful in drafting their policies and to act fairly in relying on their strict terms’. Clearly, the legislative intention was to create a flexible provision that operated to protect the interests of consumers purchasing life insurance policies.
However, whilst utmost good faith may demand flexibility, there are significant constraints on insurers’ discretion. For example, reinsurance contracts are a major limitation on an insurer’s exercise of discretion in a flexible way. Reinsurers are only contractually obliged to cover the agreed terms and thus play an important role in ‘the administration and payment of claims, particularly large claims, ex-gratia payments and resolving disputes with policyholders’. In light of this, ASIC has recommended that insurers ‘consider the role of reinsurers’ and how they may assist to ‘improve claims handling standards’. Reinsurers can make a positive contribution to claims handling practices through training, assistance with underwriting, and influencing ‘product strategy, including updating policy definitions’. Therefore, insurers need to ensure that their reinsurance arrangements are aligned to their claims philosophy. The challenge, with only three reinsurers in the Australian market, is that it can be difficult at times, given the lack of choice, for an insurer to have a perfectly symbiotic relationship where philosophies are aligned. However, doing so increases the likelihood an insurer will be able to better to meet reasonable community expectations by responding to unusual and deserving conditions that are recognised as needing assistance and are meritorious, which provides a robust conceptualisation of fairness.
Impartiality and equality
Equality pitches ideals of fairness ‘at a very high standard’ and is ‘mostly realised as procedural equality rather than substantive equality’. However, as set out above, reasonable community expectations pitched at a substantive level of fairness would require substantive equality. It is recognised that ‘fair equality of opportunity is an important precondition of distributive fairness’. This means that those insured on the same terms must of course be treated impartially and consistently. However, ‘for those whose initial endowments do not enable them to make anything of equal opportunity, fairness may demand even more’. In a life insurance context, the initial endowments of those insured under old policies do not allow them equal opportunities to those insured on more up to date, robust policies. From an underwriting perspective, those same persons may be unable to be access insurance under a new policy on similar terms, or at all. Thus, particularly in respect of those persons, fairness may demand even more than the core elements set out above.
C Exceeding Fairness
Commercial standards of decency and fairness in the context of utmost good faith require a higher standard of conduct than simply exhibiting the fairness indicia above. Some argue that when the High Court set the ‘high water mark for the doctrine’ of utmost good faith as requiring an insurer to have due regard for the legitimate interests of the insured, this ‘set a lower standard than ... fairness’. However, regard for the interest of another is a core element of fairness. Arguably, utmost good faith requires more than fairness as it demands a greater preference to customers’ interests in appropriate cases, and affirmative action where discretions are exercised by insurers, particularly where insured persons face inequalities of opportunity.
Preferring interests – a ‘fiduciary-like’ obligation
The essence of fairness is the capacity to recognise the circumstances, perceptions or values of another, but here the obligation is greater. Not only is recognition required, but in fact prioritisation of the other parties’ interest is mandated. In the event of conflict between the interests of owners and prospective owners of policies and the interests of shareholders of a life insurance company, a director's duty is to take reasonable care, and use due diligence, to see that the company gives priority to the interests of owners and prospective owners of those policies over the interests of shareholders.
This is not a novel idea in the context of utmost good faith. From its inception, it has been a positive duty on each party to disclose to the other any material information that would influence the other party in respect of its decision to enter the contract on the terms proposed. This is so, even if to take that action is to the detriment of the disclosing party, for example where a disclosed pre-existing medical condition raises the insurance premium to cover that risk. Applying this rationale to the duty an insurer owes to conduct themselves in good faith in the exercise of their powers and performance of their obligations over the life of the contract, for instance when making or considering claims, utmost good faith clearly may require an insurer to prefer the insured’s interests, potentially to its own detriment. It is in this sense that the duty owed by an insurer to act with good faith is ‘something akin to a fiduciary relationship’, and arguably a higher standard than fairness.
In CGU v AMP, Callinan and Heydon JJ found that utmost good faith generally requires ‘something more than passivity’ and ‘will usually require affirmative or positive action’ by the party owing the duty. Similarly, Kirby J characterised it as an ‘affirmative duty of utmost good faith’. This obligation sits with the requirement to have regard to the interests of an insured, and arguably requires affirmative action in respect of the insured’s interests. However, whilst the duty of utmost good faith may demand that an insurer take affirmative action there are practical constraints that must be addressed to allow them to do so.
Accordingly, Pt V below considers appropriate mechanisms and reform which ought to be engaged in order to facilitate affirmative action and preferring the interests of insured persons where appropriate.
Pt V.A of this section argues that utmost good faith has been a useful launching pad for developing the Life Insurance Code of Practice which, whilst imperfect, goes some way to addressing procedural unfairness and is an appropriate regulatory mechanism to continue working towards standards that accord with community expectations. However, Pt V.B contends that in respect of substantive unfairness, significant reform and intervention is required to bring that type of fairness into life insurance contracts.
A Improving Procedural Fairness - Life Insurance Code of Practice
In the financial services context, ‘fairness as a procedural standard is well established’. However, some contend that utmost good faith is ‘a bland injunction’ that ‘does not tell the parties with any certainty what the insurer’s obligations are’. In the abstract such a generally expressed duty does not act as an assurance of precisely how an insurer will act when handling a claim. However, when pulled down from a level of abstraction, to a practical enunciation of industry best practice in an industry code of conduct, utmost good faith can positively influence ‘standards of best practice that contribute to the delivery of effective outcomes for consumers’.
The Life Insurance Code of Practice’s development has served as an important forum for developing industry-wide ‘benchmarks to improve customer experience’. For example, the development of the surveillance provisions set out above evidences an important conversation between key stakeholders to bring the industry’s version of commercial morality into line with the expectations of the broader community. Consumer groups ‘raised serious problems with the drafting’ of the surveillance provisions in early versions of the Code. By the time the FSC released the draft Life Insurance Code of Practice for public consultation in September 2016, a number of those concerns had been addressed. The final version of the Life Insurance Code of Practice again improved upon those standards. The Life Insurance Code of Practice has thus afforded key stakeholders an opportunity to infuse it with reasonable community expectations of fairness.
The Life Insurance Code of Practice is a launching pad for critiques, conversation and further changes. Indeed, ASIC expects the industry to ‘continue to enhance the minimum standards set out’ in the Life Insurance Code of Practice. The Life Insurance Code of Practice is more readily adaptable than legislation in response to changing practices or technology and thus can more readily keep in line with community expectations. It is appropriate, therefore that the Life Insurance Code of Practice be reviewed ‘no less than every three years’ in the interests of maintaining a discourse between industry and stakeholder groups, and responding to emerging consumer issues. However, those standards must be enforceable by consumers if they are to make any contribution to fairness.
In that respect, the Life Insurance Code of Practice has a number of shortcomings, and suffers from a lack of enforceability. Granted, once the Life Insurance Code of Practice takes effect, FOS will have regard to it in disputes. However, the Life Insurance Code of Practice does not require that it be incorporated into relevant life insurance contracts, and there is no authority in the Australian jurisdiction for the proposition that mere subscription to an industry code renders it binding on the subscriber. Indeed, the Life Insurance Code of Practice explicitly provides that it is ‘not intended to create legal or other rights between [an insurer] and any person or entity other than the FSC. Accordingly, the only enforceability mechanism available to consumers in respect of the Life Insurance Code of Practice is the complaint process contained therein. Only one life insurer currently incorporates a separate claims handling assurance as an enforceable part of its policy, upon which the insured can sue if breached, and this seems unlikely to change under the Life Insurance Code of Practice. Whilst the remedy for a breach of utmost good faith is generally damages, given the aforementioned uncertainty about the duty’s content, alleging a breach of utmost good faith is difficult, and few cases have done so. Given the Life Insurance Code of Practice’s lack of enforceability, it accordingly makes little contribution in terms of providing grounds on which consumers may take action. Accordingly, the industry ought to rapidly turn their attention to the Life Insurance Code of Practice’s enforceability shortcomings.
Clearly, the Life Insurance Code of Practice is not a prototype for fairness. In addition to its enforceability issues, it too narrowly defines utmost good faith as a requirement to act ‘honestly and fairly ... and have regard to’ the other parties’ interests. As set out above, utmost good faith in fact demands much more than that, and thus the conceptualisation of the duty in the Life Insurance Code of Practice further perpetuates a gap between reasonable community expectations and the industry’s conduct. This issue supports the proposition that the Life Insurance Code of Practice is not a catch-all answer to unfairness in claims handling. Nonetheless, it is a more appropriate forum for moving towards procedural fairness than legislation. To continue to add piecemeal standards regarding procedural fairness to the ICA would be unhelpful. It would detract from the broad, principles-based enunciation of utmost good faith, as a ‘more conceptual principle’ which is able to ‘adapt and change to the needs of new times and new circumstances’. If it does so, it is envisaged that the Life Insurance Code of Practice will assist to deliver greater interest from consumers in terms of seeking life insurance advice and improved life insurance coverage across the community. However, achieving that outcome will require substantive fairness as well as procedural fairness.
B Substantive Fairness – Addressing Structural issues
Increasing oversight - extending s 912A
As noted above, the scope of ‘providing’ financial services for the purpose of s 912A does not extend to claims handling. This exclusion is understandable in the context of general insurance where contracts are renewed annually and most insured persons can easily change insurer. However, life insurance and related critical illness are policies of an entirely different character. They are long-term contracts, and as a person ages or their health degenerates, it becomes increasingly difficult to obtain illness or other medically-related insurance at the same price, or at all.
Arguably, as the duty of utmost good faith extends to claims handling and encompasses fairness, honesty and efficiency as set out above, it is superfluous to duplicate this obligation. However, ASIC has recommended that the exemption of claims handling from s 912A be removed. Whilst ASIC may take action for a failure to comply with the duty of utmost good faith, they would only typically do so ‘where there is serious and systemic misconduct’. ASIC contend that ‘removing the exemption...would enhance [their] capacity to seek improvements in claims handling practices’. This may assist ASIC to take action for conduct that falls foul of s 912A, and allow ASIC to collect more meaningful data about insurers conduct in furtherance of regulatory monitoring and consumer education. However, as set out above, utmost good faith demands more than acting ‘honestly, efficiently and fairly’, and thus the extension of s 912A is not a prima facie solution to bridging the gap between the community’s reasonable expectations and industry conduct. More is required.
Driving substantive consistency – standardised definitions
Noting the aforementioned importance of consistency for perceptions of fairness, there is a compelling imperative to introduce standardised key policy definitions on ‘fair and easily understood terms’ in Australian life insurance policies. Draft standardised definitions for common medical conditions have been released, with the intention of including them in the Life Insurance Code of Practice. Standardised contracts are recognised as one manifestation of efficiency in mass markets for financial products. Arguably, increasing fairness by mandating the terms on which consumers participate in mass-market financial contracts is one possible response to unfairness.
The insureds’ arguments in both 276195 and Larwint, make abundantly clear the imperative to ensure such standardised definitions are understood by the community. They must not only be consistent, for it is possible to be consistently unfair, but must also be understood by consumers and be suitable for their target market. Otherwise, there will continue to be a significant gap between reasonable community expectations and the standards of the industry.
In respect of consumer understanding, 276195 evidences the need to be aware of the potential for a gap between a medical condition as it is understood in everyday or medical parlance and a policy definition, and ensure that marketing materials accurately reflect the cover being offered. The policy definition in 276195 was challenged as not being transparent or expressed in plain language, and only being meaningful to a medically trained professional. In particular, the insured argued ‘the risk that an individual can suffer a heart attack, be hospitalized ... and yet not meet the policy definition’ was a significant one and that the insured consciously decided not to include a statement highlighting this risk in disclosure documents, to the detriment of consumers.
Whilst the Product Disclosure Statement (‘PDS’) did not specifically state not all medically diagnosed heart attacks would be covered, FOS determined that it made clear ‘that “heart attack” has a particular and special meaning’. It would have been ‘preferable if the PDS more clearly stated that not all heart attack that may be diagnosed by doctors are covered by the policy’, but nonetheless was ‘reasonably clear from the definition of “heart attack” that the ... policy does not cover all heart attacks’. A clear warning that ‘not all heart attacks are covered’ is a preferable course of action to mitigate the gap that arises where a policyholder’s ‘reasonable expectations about policy coverage do not align with the technical wording in the policy’.
276195 evidences an overt concern with issues of procedural fairness, focusing on whether the terms of the policy were adequately disclosed. In a substantive sense, whilst it was ‘unfortunate’ for the insured that his heart attack did not meet the definition, procedurally the financial services providers ‘maintained throughout the management of the ... claim’ that the heart attack did not satisfy the policy definition’. This insistence on the part of the financial services provider could not be said to constitute a failure to act with utmost good faith. Evidently, FOS’ consideration in 276195 does not give adequate regard to the substantive suitability of the policy terms themselves.
In respect of product suitability, the industry ‘must take greater responsibility for ... the fit of their products and services to their customers’ needs’. The Financial Services Inquiry recommended a targeted and principles-based product design and distribution obligation to ‘reduce the number of consumers buying products that do not match their needs’, ‘reduce consequent significant consumer detriment’ and ‘promote fair treatment of customers’. A pre-point-of-sale product design obligation, in conjunction with standardised definitions, represents a form of fairness at an institutional level, ‘equalising capabilities’ by obliging ‘product issuers to design products appropriated to the needs of the target market’. To that end, the Life Insurance Code of Practice introduces some product design principles. However, in light of the Life Insurance Code of Practice’s aforementioned enforceability issues, these principles have a limited practical effect. ASIC must be empowered to intervene in product design or distribution and sales to prevent consumer detriment. This measure of ‘last resort’ should be engaged to ensure any product design obligation has appropriate oversight and enforcement.
Further, consumers must be able to assess product appropriateness. In order to develop individuals’ capacity to address unfairness by becoming self-determining, and able to participate on their own terms, it is necessary to consider, from the perspective of consumers suffering the unfairness ‘what capabilities would help them address inequalities of their position.’ This is essentially a matter of consumer education. For example, consumers must be able to evaluate the likelihood of successfully making a claim when an insured event occurs. To that end, insurers must publicise their claim payout rates on both an industry aggregate and insurer level, as the Association of British Insurers in the United Kingdom do on an annual basis. Standardised, consistent definitions are a necessary prerequisite to facilitate meaningful evaluations of products and insurer conduct.
Delivering flexibility and preferring interests
Fairness requires not only consistency, but also flexibility. Fairness therefore requires more than standardised policy terms and demands that insurers build flexibility into their policy terms. One life insurer has already done so by prefacing trauma definitions for specific conditions with a general statement that:
‘If the method for diagnosing the relevant trauma condition ... is inconclusive, impractical to apply or has been superseded, we will consider other and appropriate and medically recognised methods that conclusively diagnose the specified trauma condition with at least the same severity’.
As is clear from the case study of Larwint and 276195, a flexible overarching policy term of this nature is necessary, because policy terms will be subject to a strict process of construction in dispute resolution. Such clauses facilitate exercises of discretion and allow insurers to prefer the interests of the insured in appropriate cases. However, whilst this is a useful mechanism for future contracts of life insurance, it does not address the large quantum of pre-existing life insurance policies held in Australia.
Empowering affirmative action – legacy products
Out of date medical definitions are a significant issue in legacy products that an insurer no longer offers for sale but is obliged to maintain. Both retail and non-advised life insurance policies are sold as ‘guaranteed renewable’ products, which insurers must maintain for as long as the policy holder pays premiums. This is an ‘important protection for policy holders’ but also contributes to ‘a structural issue within the life insurance industry related to legacy products’.
In view of the clear statement of utmost good faith in the ICA a general power to review the terms of a contract was considered unnecessary. However, as each life insurance policy constitutes a separate contract between the beneficiary and the product provider, insurers’ ability to upgrade policy terms are limited. The current transfer possibilities to upgrade policy terms can only occur between life companies and are subject to Federal Court approval. Outside of that process there is currently no possibility for achieving a product rationalisation transfer other than by obtaining the individual agreement of each policy holder. Even if consent can be obtained, there are complex legal, consumer and tax issues that arise if an insurer seeks to move policy holders from a legacy product to a new product.
The benefits of a simpler mechanism to rationalise legacy products have long been recognised. Such reform would assist in mitigating ‘the increasing operational risk that such products create’ for insurers and, from a consumer perspective, have the ‘potential to improve consumer outcomes by updating definitions, improving efficiency and administration, and lowering costs’. However, as a compulsory transfer mechanism could effectively allow individual contracts to be cancelled, it should only be contemplated under stringent protection of the rights and benefits enjoyed by beneficiaries under the original policy.
The transfer of members from their current product to a receiving product should result in ‘no material disadvantage’ to members taken as a whole. It would be reasonable to expect, and fairness would demand, that adverse impacts on a minority of members or even individual members would be considered and, where practical, mitigated. This aligns with the core fiduciary duty to act in the best interests of beneficiaries which applies expressly to superannuation fund trustees and responsible entities of managed investment schemes and ‘in substance ... rests on the same core principles as the duty of utmost good faith owed by life [insurance] companies to policy holders’. However, none of the options presented in a 2007 Treasury Options Paper left the process of rationalisation purely in the hands of the product issuer. The options proposed place a significantly higher burden on product issuers than the successor fund regime in the superannuation context, requiring that the product be shown to be a legacy product, closed to investors, and also requiring that a review and compensation regime be in place. This is appropriate, given the prevailing mistrust of the life insurance industry set out in Pt II of this paper. An entirely self-developed, self-regulated scheme is likely inappropriate in the circumstances, as consumers need to be confident that insurers are getting the mechanics of rationalisation right, along with the terms of the new policies themselves.
In order for consumers, and the community more generally, to take confidence in the value of life insurance products, it is imperative to remedy the procedural and substantive unfairness which currently manifests in claims handling processes. The community reasonably expects claims handling to be procedurally and substantively fair. Indeed, this paper has argued that utmost good faith, the overarching obligation that governs contracts for life insurance, not only demands procedural and substantive fairness but in fact requires more than fairness.
However, the industry’s failure to deliver a standard of conduct that accords with this perpetuates an expectation gap between reasonable community expectations and industry conduct. In the context of contemporary Australian life insurance, consumers cannot currently be assured that they are offered a level of protection that guards against unfairness in claims handling.
It is clear, therefore, that whilst utmost good faith is making some contribution to fairness, the duty is not reaching its full or intended potential. It has served as a launching pad for industry-driven enunciations of best practice which are moving towards procedural fairness. However, utmost good faith has done little to improve substantive unfairness in policy terms. To a large extent, insurers are constricted in the exercise of their discretion regarding reinsurance, underwriting and out of date policy definitions in legacy products, and reform is needed to enable insurers to act in a way that delivers fair outcomes.
* LLB (UNSW, First Class Honours), BCom (UNSW, With Distinction). This paper was first submitted for course credit in LAWS3423 Research Thesis at the University of New South Wales. Many thanks to Professor Dimity Kingsford Smith BA (Sydney) LLB (Sydney) LLM (LSE, London) for her commercial and technical financial services insights, and to Doctor May Fong Cheong LLB (Hons) (Malaya), LLM (NUS), PhD (Sydney), Diploma in Shariah Law & Practice (IIUM), Advocate & Solicitor of the High Court of Malaya for her close supervision and expertise in contract law, without which this paper would not have been possible.
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 This paper focuses on life insurance generally, and does not address specific issues relating to group life insurance.
 Australian Securities and Investments Commission, ‘Life Insurance Claims: An Industry Report’ (REP 498, 12 October 2016) 6 (‘ASIC Report 498’).
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 Note the Economics References Committee, Scrutiny of Financial Advice (2016) has now lapsed and a separate inquiry was referred to the Joint Parliamentary Committee on Corporations and Financial Services on 14 September 2016.
 See CHOICE, Financial Rights Legal Centre and Consumer Action Law Centre, Submission No 81 to Economics References Committee, Scrutiny of Financial Advice, April 2016 (‘CHOICE Submission’).
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 See, eg, National Australia Bank, ‘NAB completes sale of 80% of life insurance business’ (ASX Announcement, 3 October 2016).
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 Whilst endorsed in Distillers Bio-Chemicals (Australia) Pty Ltd v Ajax Insurance Co. Ltd  HCA 3; (1973) 130 CLR 1, 31 utmost good faith was not applied to claims in any reported decision prior to the ICA.
ALRC Report, above n 34, 202.
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Entwells Pty Ltd v National and General Insurance Co Ltd (1991) 6 WAR 68.
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 Gutteridge (QSC, Ambrose J, unreported, 25 June 1993).
 South Sydney District Rugby League v News  FCA 1541; 177 ALR 611, 703-704.
 Far Horizons Pty Ltd v McDonald's Australia Ltd  VSC 310. An analogous standard to that a trustee owes, see Karger v Paul  VicRp 13;  VR 161.
 Garry Rogers Motors (Aust) Pty Ltd v Subaru (Aust) Pty Ltd  FCA 903; (1999) ATPR 41-703.
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 Enright and Merkin, above n 55, 619.
 Ibid 171. ASIC Report 498, above n 5, 6.
 M D Kirby, ‘Annual Review of Insurance and Re-Insurance Law: Launch of the 2004 Volume’, Sydney, 23 February 2005.
 The Code of Practice for Advising, Selling and Complaints Handling in the Life Insurance Industry was superseded upon the Financial Services Reform Act 2001 (Cth) taking effect.
 John Trowbridge, Review of Retail Life Insurance Advice Final Report (26 March 2015) 64.
 Ibid 60.
 Financial Services Council, above n 13, cl 8.12.
 CHOICE Submission, above n 17, 15 – 16.
 Corporations Act 2001 (Cth) s 912A(1)(a).
 ASIC v Camelot Derivatives Pty Ltd (in liq)  FCA 414; (2012) 88 ACSR 206, 225 (‘ASIC v Camelot’).
 Australian Securities and Investments Commission v Cassimatis (No 8) (26 August 2016)  FCA 1023. Note: this does not include price an assessment of price.
 ASIC v Camelot  FCA 414; (2012) 88 ACSR 206. For example, ‘churning’ to promote trading that is excessive having regard to the client’s objectives.
 The correctness of this exclusion is considered in Pt V.B.
 Noting that ICA s 13 is subject to Acts Interpretation Act 1901 (Cth) s 15 and so the standard is not strictly analogous.
 CGU v AMP (2007) 235 CLR 1, 54.
 Dimity Kingsford Smith, ‘Can There Be A Fair Share? Fairness, Regulation and Financial Markets’ article in Janis Sarra (ed.) Exploration of Fairness: Interdisciplinary Inquiries in Law, Science and Humanities (Carswell Thompson, 2013) 251, 252.
 Ibid 259.
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 276195 (Determination, Financial Ombudsman Service, 12 June 2013, ).
 Larwint  VSCA 21; (2007) 15 VR 371, 382.
 Ibid .
 276195 (Determination, Financial Ombudsman Service, 12 June 2013, ).
 Nosic v Zurich Australian  1 Qd R 67, 77-78.
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 ICA s 15; Swann Insurance (Aust) Pty Ltd v Frallion  VicRp 26;  1 VR 401 (‘Swann’).
 ICA s 15.
 Swann  VicRp 26;  1 VR 401, 
 See, eg, Ryan Nattrass, ‘Extending the unfair terms contract laws to insurance contracts: is the duty of utmost good faith fair enough?’ (2012) 23 Insurance Law Journal 299.
 John Morgan, ‘Some impacts of the Australian Consumer Law on Insurance Contracts’ (2010) 23 Butterworths Corporation Law Bulletin 1, 5.
 ASIC Report 498, above n 5, 6.
 First Energy (UK) Ltd v Hungarian International Bank Ltd  2 Lloyd’s Rep 194, 196 (Steyn LJ).
 Director General of Fair Trading (DGFT) v First National Bank plc  UKHL 52,  (Lord Bingham).
 Dorfmann, above n 68, 95.
 ALRC Report, above n 34, 35.
 ICA s 14.
 ALRC Report, above n 34, 35.
 ASIC Report 498, above n 5, 96.
 Kingsford Smith, above n 88, 252.
 Enright and Merkin, above n 55, 619.
 Kingsford Smith, above n 88, 252.
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 Barclay Holdings (Aust) Pty Ltd v British National Insurance Co Ltd (1987) NSWLR 514, 517  (Kirby J).
 CGU v AMP (2007) 235 CLR 1, 12 (Gleeson CJ and Crennan J).
 Maksimovic v Royal & Sun Alliance Life Assurance Australia Ltd  WASC 46.
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 Ibid 54 (Kirby J).
 Nicola Howell, ‘Revisiting The Australian Code Of Banking Practice: Is Self-Regulation Still Relevant For Improving Consumer Protection Standards?’  UNSWLawJl 19; (2015) 38(2) University of New South Wales Law Journal 544, 567.
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 Ibid 63.
 CHOICE Submission, above n 17, 28.
 Financial Services Council, Life Insurance Code of Conduct (Draft released for public consultation, September 2016) 8.11.
 CHOICE Submission, above n 17, 15.
 Financial Services Council, above n 14, cl 12.2.
 See, eg, Financial Ombudsman Service Banking and Finance Terms of Reference, cl 8.2, 17.1.
 Cf Australian Bankers’ Association, Code of Banking Practice 2013, cl 12.3.
 Financial Services Council, above n 14, cl 2.16.
 ClearView Life Assurance Limited, LifeSolutions Product Disclosure Statement and Policy Document (Issue 3, 21 October 2016) 77 (‘CLAL LifeSolutions PDS’).
 Matton Developments Pty Ltd v CGU Insurance Ltd (No 2)  QSC 72
 Cf Commonwealth Bank of Australia v Wood  VSC 264 which is authority for the proposition that where the Banking Code of Practice is properly incorporated into the contract, a breach of it will be a breach of a contractual warranty and sound in damages, subject to ordinary contractual principles.
 Financial Services Council, above n 14, cl 1.6.
 Ibid 24 – 25.
 Trowbridge, above n 77, 60.
 Corporations Act 2001 (Cth) s 766A; Corporations Regulations 2001 (Cth) r 7.1.33.
 ASIC Report 498, above n 5, 11.
 ICA s 14.
 ASIC Report 498, above n 5, 13.
 Ibid 102.
 CHOICE Submission, above n 17, 20.
 Financial Services Council, Minimum Standard Medical Definitions (Draft for public consultation, 11 October 2016).
 Kingsford Smith, above n 88, 255.
 See Pt IV.B.
 276195 (Determination, Financial Ombudsman Service, 12 June 2013).
 Ibid .
 Ibid .
 Ibid –.
 Ibid . ASIC Report 498, above n 5, 6.
 276195 (Determination, Financial Ombudsman Service, 12 June 2013, ).
 PwC, above n 15, 8.
 David Murray et al, Financial System Inquiry – Final Report (2014) 198.
 Kingsford Smith, above n 88, 275.
 Financial Services Council, above n 14, cl 3.
 Murray et al, above n 164, 206.
 Kingsford Smith, above n 88, 270 citing A Sen, “Equality of What” in S. McMurrin, ed, The Tanner Lectures on Human Values (Salt Lake City, Utah: University of Utah Press, 1980) 185; A. Sen, Commoditites and Capabilities, (Amsterdam: North-Holland, 1985). See Association of British Insurers, ‘Record Amount Paid Out in Vital Protection Insurance Claims’ (Media Release, 29 April 2016).
 CLAL LifeSolutions PDS, above n 141, 89.
 ASIC Report 498, above n 5, 5.
 Commonwealth Treasury, above n 71, 18.
 Life Insurance Act 1995 (Cth) pt 9.
 Commonwealth Treasury, above n 71, 19.
 Australian Prudential Regulation Authority, Submission No 184 to Economics References Committee, Scrutiny of Financial Advice, 27 April 2016, 10.
 See, eg, Productivity Commission, Report of the Taskforce on Reducing Regulatory Burdens on Business (2006) Recommendation 5.19; Murray above n 164, 274.
 Australian Prudential Regulation Authority, above n 177, 11.
 Commonwealth Treasury, above n 71, 19.
Guy Thorburn, Institute of Actuaries of Australia, ‘The Principles and Practice of Product Rationalisation’ (Paper presented at the Institute of Actuaries of Australia, 4th Financial Services Forum, Melbourne, 19-20 May 2008) 5.6.
 Ibid 5.2.
 Commonwealth Treasury, above n 71.