Legal Blog

Dead to Rights

Once a loan has been negotiated, the parties often turn their minds to life insurance. More specifically, the financial institution turns the borrowers’ minds to insurance. In essence, the loans officer becomes an insurance salesperson. The insurance offered is generally declining term insurance. It usually covers the insureds in the event of death for the loan amount at the date of death of a single insured or at the first date of death of one of multiple insureds.

This insurance is a benefit to the institution and to the insureds. The insureds may be able to service the loan under the circumstances existing at the time that they negotiated the loan. However, if either of the insureds dies, the survivor may no longer be able to service the loan. The death can be financially devastating to the survivor and cause the survivor to default on the loan. Since the main goal of a financial institution is for the borrowers to voluntarily pay the loan together with interest, this spectre of financial devastation of gives corporate heart palpations to a financial institution. Life insurance eliminates this scenario. Of course, the profit that the financial institution makes in selling the insurance does not hurt either.

However, once the financial institution becomes an insurance seller, duties arise. The question is whether these duties affect the collection of monies owing if, for whatever reason, the borrowers thought that they were covered under the loan insurance but were not. We have been involved in several of these cases, although none has ever gone to trial. However, this type of dispute did make it to trial in Avco Financial Services Realty Ltd. v. Norman, a 2001 decision of the Ontario Superior Court of Justice.

Subsidiary 

Like many other financial institutions, Avco had its own subsidiary insurance companies. Avco’s loans officers were instructed to try to sell loan insurance – for the reasons stated above. The branch selling the policy received 5% of the premiums.

Loan 

The borrowers were spouses who placed a second mortgage on their property with Avco and purchased mortgage insurance. The insurance application had a clause that stated that the insurance was in place only during the term of the loan. The borrowers decided that their loan was to be for a term of one year, since they expected that interest rates would ultimately decline. The next year, the borrowers renewed their loan for a further one-year term and signed another insurance application. The third year, the borrowers renewed the mortgage but, when they were signing the insurance application, noted on it that the wife had cancer. The insurer declined their insurance.

The wife died from cancer, the husband had financial difficulties, and the husband defaulted on both the first and second mortgages. Avco repaid the first mortgagee, sold the property under power of sale, and sued for the deficiency that, including accrued interest at 15.9% per year for seven years, was $130,374. The original Avco loan was $40,000, the first mortgage was $99,000, and the 1996 net sale proceeds of the property were $120,698. By paying the first mortgagee, Avco transformed a lower interest mortgage into a higher interest mortgage.

Gone Elsewhere 

The husband read the insurance application the first year but he did not understand that the borrowers would have to reapply for insurance once the mortgage term had elapsed. He thought that if he renewed the mortgage, the insurance would automatically be renewed with it, an assumption that, we suggest, was not unreasonable. The husband did not even read the application the second year. By the time they renewed in the third year, it was too late; the wife was already uninsurable.

The husband alleged that he need not pay the loan because he had a claim against Avco for negligence. Not only should he not have to repay the loan, he stated, Avco owed him his loss of equity in the property. If not for the Avco loan and actions, he would have been able, he said, to carry his first mortgage and all other debts and would not have lost the property.

The husband alleged that had the Avco loans officer told them that the insurance only covered them during the term of the loan and not during renewal periods, they would have gone elsewhere and would not have done the deal.

Duty 

The judge noted that an insurance salesperson has a duty to make all information available to the public, in a readily comprehensible manner, regarding the risks that they are bearing so that they can make an intelligent decision. The judge noted that the duty on a loans officers is not as onerous but he held that Avco should have explained to the borrowers all information regarding the loan and mortgage insurance in a reasonably intelligent fashion. Although the judge stated that the duty was not as onerous, actually he applied the same onerous duty to the loans officer.

The judge held that Avco ought to have explained the significance of the insurance clause to the borrowers and, accordingly, was liable for damages for negligence. He accepted the husband’s protestation that had he known, he would have gone elsewhere.

We have some problems with this. First, it is easy enough to say that Avco should have explained the specific point in issue. Once a clause in the insurance policy or application has been relied upon to deny coverage, it is easy to say that a loans officer ought to have explained it. However, there are many aspects to an insurance policy and an application; can a loans officer be expected to explain all of them thoroughly? We do not think so. Second, we do not accept the husband’s facile explanation that they would have gone elsewhere. Avco is not a first tier lender. It lends harder-to-get money at a higher interest rate. There may have been no other equivalent lender in the borrowers’ area, North Bay.

The judge also held that the borrowers were liable for contributory negligence. They should have asked the right questions after reading the application and did not. The judge held that they were 50% at fault. Accordingly, the husband’s damages were to be reduced by 50%.

Damages 

The judge made short shrift of the husband’s claim to damages, outside of the set-off against the Avco’s claim. He held that the husband was in financial difficulty and would have lost his property, regardless of the Avco mortgage. As a result of the decision on the claim and the counterclaim, Avco received judgment for half of its claim. We do not know the outcome of the award of costs. If no offers to settle were made, we would have thought that Avco, under the usual mortgage terms, would have received solicitor-client costs. However, if the husband had made an offer to Avco that was better than the amount that Avco was awarded, Avco might be paying the husband’s party and party costs from the date of the offer.

Upshot 

Insurance cannot be treated as a poor cousin to a loan. Loans officers must understand the policy, explain it fully, and keep notes that they have done so. Each financial institution should have a checklist for the loans officers to use. In the alternative, the financial institution can make a business decision to continue with business as usual and take its chances on adverse court decisions.