Brothels, bikies and pre-insurance disclosure
The New South Wales Court of Appeal has held that a brothel owner’s failure to disclose an association with a bikie gang before the grant and renewal of insurance policies for the brothel did not entitle the insurer to decline cover.
Stealth Enterprises Pty Ltd v Calliden Insurance Ltd  NSWCA 71
Calliden (Insurer) offered a “Business Pack, Adult Industry Insurance Policy”. Stealth Enterprises (Insured) owned and operated a brothel in the Australian Capital Territory, and wanted to obtain cover under the policy. Relevantly, however, its director was both a member of the Comancheros bikie gang and a “sergeant at arms”. The manager of the insured’s business was also a member of the gang. This was not disclosed to the Insurer when the policy was first issued or subsequently, when it was re-issued.
For contracts of insurance governed by the Insurance Contracts Act 1984 (Cth) (most contracts of insurance other than life insurance), under s 21(1)(b) an insured had a duty to disclose to the insurer, before the relevant contract of insurance was entered into, every matter that was known to the insured that a reasonable person in the circumstances could be expected to know to be a matter relevant to the decision of the insurer whether to accept the risk and, if so, on what terms. In the case of innocent (as distinct from fraudulent) non-disclosures, s 28(3) had the effect of reducing the liability of the insurer for a claim made under the contract for the non-disclosure. If the insurer would not have issued the policy had it known of the matter that was not, but had to be, disclosed, its liability would be reduced to nil.
On New Year’s Day in 2012, the brothel was damaged by fire, and the Insured made a claim for indemnity. The Insurer declined to grant indemnity on the basis that the association with the bikie gang should have been disclosed, and had it been disclosed, the Insurer would not have provided cover.
At first instance in the Supreme Court of New South Wales, the Insurer’s declinature was upheld. The Insured appealed. In the Court of Appeal (Meagher and Ward JJA, Sackville AJA), the Insured succeeded unanimously. Justice Meagher wrote the leading judgment.
Invoking Porthouse, Meagher JA sought to determine whether a “hypothetical reasonable person” would have assessed the information as being material in the s 21(1)(b) sense. In undertaking that exercise, his Honour imputed knowledge of the Insured’s circumstances to the hypothetical person, to put them in the same position as the Insured (but without taking into account the Insured’s subjective state of mind): . His Honour emphasised that it was necessary to consider whether the hypothetical person would have known, as distinct from suspected, that the information might be relevant to the Insurer’s decision: .
Some of the relevant matters included that there was no suggestion that the business was conducted for the bikie gang or that its premises was occupied by its members (putting to one side the possibility that members may also have been patrons), or that any threats had been made to the Insured or its officers. In addition, the questionnaire that was completed prior to the issue of the policy did not contain any question calling for the disclosure of a link between an insured and a bikie gang. The Insurer’s underwriting guidelines prepared for the “Adult Industry Scheme” and its more general underwriting guidelines did not address an insured’s association with a bikie gang.
Justice Meagher concluded that the association did not need to be disclosed (at ):
It may be accepted that such a person could be expected to appreciate that the membership association carried with it the possibility of violence involving members of bikie gangs. However that person is likely to have regarded that as a risk which arose by reason of the nature of the use of the premises and the character of the persons expected to be involved in that use. It was the sort of association the insurer would expect and take into account as part of the general risk of insuring a brothel; and there were no particular circumstances related to the association, such as the making of threats, that took it outside that general risk.
The hypothetical reasonable person inquiry revealed “the absence of any circumstance in the matter relied on that would not have been expected to arise from the nature of the use of the premise as a brothel”: .
Justice Ward agreed with Meagher JA, though not without some “hesitation”. Her Honour was not persuaded that the hypothetical reasonable person would have concluded that the increased risk to the brothel attendant upon the association with the bikie gang had not already been taken into account by the Insurer when it accepted the risk of insuring premises used for that purpose. In doing so, her Honour placed weight on the absence of a question in the questionnaire relating to any such association.
Like Ward JA, Sackville AJA agreed with Meagher JA, describing the conclusion at first blush as a “surprising” one. However, his Honour emphasised that the relevant question under s 21(1)(b) was to be answered in the context of an Insurer actively seeking to write policies for adult industries, including brothels. Despite the Insurer knowing that conducting a brothel was likely to attract people of dubious repute, who might have an association with bikie gangs, any such association was addressed in neither the policy questionnaire nor its internal guidelines. His Honour concluded (at ):
A reasonable person would not necessarily have been aware of all these matters. They suggest, however, that a reasonable person would not be expected to know that an association between a brothel owner and a bikie gang created a risk over and above the inherent risk in insuring a brothel such that the existence of the association would be relevant to the insurer’s decision to accept the risk.
The judgments illustrate that, in undertaking the assessment called for by s 21(1)(b):
- the nature of the activity the subject of the proposed insurance, and the risks naturally inherent in that activity, will assume great importance;
- more controversially, the content of the pre-insurance questionnaire and underwriting manuals may also be relevant.
Although it was unnecessary to assess what the Insurer would have done had it known of the Insured’s association in light of the Court’s conclusion on s 21(1)(b), the case also demonstrates the evidential difficulties that can beset insurers who seek to reduce their liability under s 28:  ff.
 The section has been slightly amended after the events the subject of the litigation.
 CGU Insurance Ltd v Porthouse (2008) 235 CLR 103.
 See further Prepaid Services Pty Ltd v Atradius Credit Insurance  NSWCA 440.