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DLA Piper’s Practical Guide for Claims Managers in 2022 – Part 9

Introduction

In this edition of our monthly series of Practical Guides for Claims Managers, we discuss governing law and jurisdiction clauses. We explain what is meant by these two different types of provision in a contract, and why they are important in insurance related contracts. We also consider how to choose the right governing law and jurisdiction for a particular contract, the issue of arbitration versus litigation, what happens when a contract fails to provide expressly for governing law and jurisdiction and, if these clauses are used, the circumstances in which they may not be upheld.

Governing law and jurisdiction is a complex area of contract law, the application of which may have significant repercussions. Whilst we set out some of the key considerations in this Practical Guide, we would always recommend seeking legal advice on these issues. This Practical Guide considers matters from an English law perspective – different approaches and interpretations may apply in other jurisdictions.

What are governing law and jurisdiction clauses?

Governing law clauses and jurisdiction clauses are often considered together, but they relate to different things.

Governing law clauses set out which territory’s laws will govern the interpretation and performance of the contract and will typically apply to any dispute arising under the contract or, depending on the wording of the clause, any dispute relating to or in connection with the contract. You might see governing law clauses alternatively referred to as “choice of law”, “proper law”, or “applicable law” clauses.

Jurisdiction clauses establish the territory in whose courts or tribunals the parties intend any dispute to be heard and determined. For example, the contract might require any disputes to be submitted to the exclusive jurisdiction of “the courts of England and Wales”. This would be an English jurisdiction clause. Alternatively, the parties might choose for disputes to be resolved through arbitration.

These two different components may be contained in one governing law and jurisdiction provision, perhaps accompanied by other dispute resolution clauses such as arbitration or mediation clauses, or they may be separated out into distinct clauses of their own.

Why are governing law and jurisdiction clauses important?

Claims Managers will likely come across governing law and jurisdiction clauses in a variety of commercial contracts including insurance and reinsurance contracts, in confidentiality agreements (otherwise known as non-disclosure agreements), and in release or settlement agreements.

It is usually important to ensure, insofar as practicable, that any commercial contract or policy expressly states an appropriate system of governing law and an appropriate jurisdiction in which disputes should be heard. This will help minimise the scope for uncertainty, and potentially costly disputes, about where and subject to what legal principles any claims should be determined.

In the absence of such express clauses, very complex questions can arise which can be difficult to resolve as to how and where disputes should be handled. Even where the general law steps in to provide guidance, the applicable principles can be difficult to apply to specific fact situations, and there can be preliminary disputes as to which system of law should apply to determine the governing law and jurisdiction of the contract. All this uncertainty can encourage practices such as forum shopping where a party seeks to bring a claim in the jurisdiction of its own choosing, even if this may not be the most appropriate or convenient place for the dispute to be resolved. Such practices can encourage premature, lengthy and costly litigation, before the parties are even able to properly address the substance of the claim.

Such problems can be avoided, or at least mitigated, by including carefully worded governing law and jurisdiction clauses in the relevant contract from the outset. That said, whilst the parties can seek to optimise contractual certainty by expressly specifying the governing law and jurisdiction that they wish to apply, there are circumstances in which the parties’ intentions might not be upheld – we consider this further below. Clear and effective governing law and jurisdiction clauses cannot therefore provide absolute certainty, but they are the best way of documenting the parties’ intentions and reducing uncertainty.

Key questions we are often asked include:

1. How should the governing law and jurisdiction be chosen?

The most appropriate choice of law and jurisdiction will depend on a number of factors. Generally speaking, it will usually make sense for the choice of governing law and jurisdiction to be the same (eg English law and the exclusive jurisdiction of the courts of England and Wales) but they do not have to be the same. The obvious advantage of providing for the same governing law and jurisdiction is that, if a dispute arises, the court hearing the dispute will be applying a system of law with which it is familiar and competent to apply.

Many courts will be prepared to at least consider deciding commercial disputes in accordance with an express choice of law of another country, but this can be a costly option for the parties who will typically need to obtain expert evidence to explain to the court what the relevant law says about the issues in dispute.

When negotiating the terms of an insurance policy it is important to consider whether there are any local laws and regulations that specify what the governing law and/or jurisdiction should be (eg that of the location of the risk or the insured assets). Where this is the case, a clause that stipulates another law or jurisdiction may not be capable of being enforced and a dispute may arise as to whether the local laws of the risk or the policy provision should prevail over the parties’ express choice. This can have particular implications in the reinsurance context if an underlying insurance policy and the reinsurance placed in respect of it end up being interpreted according to different systems of law and jurisdiction contrary to the parties’ express choice. The resulting coverage may be very different to that which the parties (or at least the reinsurers) intended. We will consider reinsurance in more detail in our next Practical Guide.

Where the parties are not constrained by local laws and regulations, they may have their own preferences based on the system of law with which they are most familiar, or the courts that are most practical and convenient for them, for example based on location or language. How and where a successful judgment would be enforced is also a potentially important consideration. Other factors may be relevant, for example how developed the legal system is in a particular jurisdiction, the average speed and cost of litigation, the remedies available to the parties – for example injunctions and interim relief in the English courts, and even the specific rules on procedural issues such as how strict the disclosure rules are.

2. What should be included in governing law and jurisdiction clauses?

The parties’ choice of governing law should be clearly and expressly set out in writing in the contract. Parties should consider whether they want the governing law to apply only to contractual disputes or claims, or non-contractual disputes as well (eg claims for negligence) which might arise out of or in connection with the same facts as any contractual dispute. Parties should also consider whether the governing law should only apply to disputes arising out of the specific contract to which the governing law clause relates, or other, connected agreements as well.

It is important to seek legal advice on governing law clauses because mistakes in drafting can create ambiguity and uncertainty (both in relation to the governing law itself and how, consequently, the wider terms of the contract are to be interpreted). For example, a clause which specifies US law may give rise to uncertainty because it would typically be advisable in a federal state system such as the United States to identify the laws of a particular US state to apply. Similarly, with UK law, it would ordinarily be preferable to specify the law of England and Wales or the law of Scotland instead.

Jurisdiction clauses should make clear whether the chosen jurisdiction is exclusive, non-exclusive or asymmetrical.

  • Exclusive jurisdiction clauses do not allow the parties to bring disputes arising out of the contract in any other jurisdiction than that stated in the contract.
  • Non-exclusive jurisdiction clauses allow the parties to bring proceedings in their chosen courts/county. A non-exclusive jurisdiction clause may allow flexibility for both parties, but correspondingly reduces certainty and may give rise to disagreements as to the appropriate forum for any claim.
  • Asymmetrical jurisdiction clauses provide that one party can only bring disputes in the stated jurisdiction, whereas the other party has the flexibility of other jurisdictions as well.

Whatever the intention of the parties, the language of the clause should be clear.

There may be specific formalities that should be complied with to ensure that a jurisdiction clause is valid, depending on the applicable law. This is not the case under English common law, which allows agreements as to jurisdiction to be made orally or in writing and permits incorporation by reference or a course of dealing (Addax Energy SA v Petro Trade Inc [2022] EWHC 237 (Comm)). However, careful drafting will optimise the prospect of such an agreement being accepted by the court, whether an English or overseas court.

3. What happens if there are no governing law and jurisdiction clauses?

When a dispute is brought before a court and there is no governing law and jurisdiction clause in the relevant contract, the court will generally apply the laws of its own jurisdiction to determine what the applicable law of the contract is, and it will generally apply private international law to determine the correct jurisdiction.

Turning first to the applicable law, if the court hearing the dispute is in the UK, the court will apply one of three instruments depending on when the contract was concluded:

  • Before 17 December 2009: The Rome Convention1
  • On or after 17 December 2009 but on or before 31 December 2020: Rome I2
  • After 31 December 2020: UK Rome I3

The application of these convention principles is complex and is outside the scope of this Practical Guide. For current purposes, we note that, for new contracts entered into post 2020, UK Rome I essentially brought the rules of Rome I into English law following Brexit. Currently, the English courts would therefore continue to assess the applicable law in the same way as the courts in the EU. It is expected, however, that these rules will diverge over time, both in how they are interpreted and through Parliamentary amendments to the language of UK Rome I. The rules vary between these instruments, but the court might consider factors such as which country has the closest connection to the dispute, or in which country the relevant persons have their habitual residence.

Turning now to identifying the correct jurisdiction, an English court will apply different rules depending on whether the European regime (consisting of the Recast Brussels Regulation4, the 2001 Brussels Regulation5 and the 2007 Lugano Convention6), the Hague Convention7, or English common law applies. Again, these rules are complex and are not explored in this Practical Guide. We note only that the applicable instruments of the European regime will depend upon when the proceedings were commenced, and although the rules differ, the overarching principle is that the defendant should be sued in the country of its domicile. In contrast, the English common law rules provide the English courts with a very wide ambit to claim jurisdiction over disputes brought before them, including in respect of defendants not domiciled in England and Wales.

4. Why might governing law and jurisdiction clauses not be upheld?

Most developed legal systems would uphold an express choice of governing law for contractual disputes unless: (i) the chosen law has no relationship with the parties or the substance of the contract; (ii) the choice was made deliberately to avoid a mandatory provision of a national law; and/or (iii) there are public policy reasons for disregarding the choice. For completeness, we note that the validity of a chosen law could also be challenged based on principles of English contract law such as fraud, mistake or non-incorporation.

If a dispute is brought before a court in the UK or an EU member state and the Rome Convention, Rome I or UK Rome I apply, the principle of party autonomy will generally be upheld, ie the contract should be governed by the law chosen by the parties. However, where all the elements of the ‘situation’ at the time the choice of law is made connect to one country (the domestic country), but the parties choose the governing law of another country (the foreign country), the laws of the foreign country will only be upheld if they do not contravene any mandatory laws of the domestic country. A mandatory law is one from which the parties cannot contract out. The purpose of this rule is to prevent parties from contracting out of mandatory domestic laws by choosing a foreign law that has no relevance to the contract.

Turning to jurisdiction clauses, an English court will apply the law of the contract containing the jurisdiction clause to determine whether it is valid. Under English law, exclusive jurisdiction agreements are generally upheld by English courts unless there are strong reasons for departing from them, for example to ensure that proceedings against multiple defendants are heard in one jurisdiction. English courts may also have special jurisdiction, for example over disputes concerning employees or consumers.

5. What happens if there are conflicting law or jurisdiction provisions in the contract?

Complications can arise where contracts contain conflicting or competing law and jurisdictions clauses. This can happen when a contract is made up of more than one set of terms, for example; with separate slips and wordings, in reinsurance contracts which incorporate provisions of the underlying insurance policy, or with global, overarching/umbrella policies and specific policies falling within their scope. Some of these terms might be specifically negotiated, whereas others might be standard terms which may not necessarily be aligned.

Where there is a conflict in provisions, as a matter of English law, the applicable law and jurisdiction will be a question of contractual interpretation. This was demonstrated by the High Court in the recent case of AIG Europe SA and others v John Wood Group Plc and another [2021] EWHC 2567 (Comm), which concerned the applicability of exclusive English jurisdiction clauses in various excess liability policies. Although the Court’s decision turned on the facts and the specific language used, it highlighted the more general importance of ensuring that law and jurisdiction clauses are clear and non-conflicting.

6. Why might arbitration be preferred, over litigation?

One key question when it comes to considering jurisdiction clauses is whether to opt for a dispute to be heard before a court (litigation) or before an arbitral tribunal (arbitration). Other options are, of course, available and it is not uncommon to see multi-layered jurisdiction clauses (eg requiring the parties first to refer any dispute to mediation, before any arbitration or litigation may be commenced).

There are a number of factors to consider when deciding between litigation and arbitration. We consider a number of them below:

  • Procedural Flexibility – Arbitration allows the parties more procedural flexibility than litigation because the rules governing how the arbitral process is run tend to be less strict than court rules.
  • Autonomy – The parties tend to have more autonomy in arbitration because they are usually permitted to nominate and appoint at least some of the arbitrators. The parties can choose arbitrators with the relevant experience or subject matter expertise, which is not a given for all judges when it comes to litigating complex insurance matters in foreign courts. The parties may also be more able to tailor the procedure to suit their dispute. This may not be possible in certain court processes, where there is more likely to be a one-size-fits-all approach to commercial disputes, irrespective of their nature or the amounts in issue.
  • Confidentiality – Under English law there is an implied strict duty of confidentiality which applies to arbitrations, whereas most litigation takes place more or less in public. In an arbitration dispute, the usual approach is that, unless disclosure of an arbitration award is ordered by a court, is in the interests of justice, or is in the public interest, the award must be kept private to the parties and the tribunal. This can be of value to parties who do not want their disputes to be subject to public or media attention. Arbitration awards do not automatically have legal precedent value in the same way that court judgments can. Having said that, there are well-known examples in the insurance context of arbitration awards becoming public knowledge and developing a precedent value of their own. In addition, confidentiality of arbitrations is not the default position in all jurisdictions, and parties should be mindful of this when choosing arbitration.
  • Cost and Time – Whilst arbitration is often considered to be quicker and cheaper than litigation, this depends on where the litigation would be and how complex the claim is. For example, in complex matters, arbitration may not always be quicker and cheaper than litigation in the English (or certain other) courts. There are additional costs involved in arbitration which are not incurred in litigation, including the arbitrators’ fees, the arbitral institution’s fees (where applicable), and often the venue hire for the hearing. The parties also need to schedule around the tribunal’s availability, which can lead to delay if, as is often the case, the tribunal comprises a panel of three arbitrators. Where efficiency is important, litigation may provide a better solution because the courts tend to have greater powers to sanction a party seeking to delay and provide interim relief to the other party.
  • Finality – An arbitrational award can generally only be challenged on very narrow grounds, such as jurisdictional issues or procedural irregularities, whereas there is usually greater scope for appeals against court judgments.

Whether arbitration or litigation is preferable is highly fact-dependent, but it is worth considering arbitration as an alternative to litigation if the applicable laws and regulations allow. If arbitration is chosen, in addition to deciding the governing law of the contract (which applies to the substantive dispute), the parties will also need to agree the law of the arbitration agreement (which can determine its effectiveness and validity) and the law of the seat of the arbitration (which will normally provide the procedural law applicable to the arbitration).

If any of these choices are not made clear it can lead to costly disputes about jurisdiction, before the substantive dispute is heard. In the case of Sulamerica CIA Nacional De Seguros SA and others v Enesa Engenharia SA and others [2012] EWCA Civ 638, the Court of Appeal upheld the principle that the law of the arbitration clause is legally distinct from the law of the contract in which it forms part (as set down by the House of Lords in Fiona Trust and Holding Corporation and Others v Yuri Privalov and Others [2007] UKHL 40). Whilst the implied law of the arbitration clause will often be the same as the law of the contract, this is not always the case. The Court provided a three-stage enquiry for considering what the law of the arbitration clause is, including (i) express choice; (ii) implied choice, and (iii) closest and most real connection. Therefore, if there is no express choice stipulated in the contract, it will be a matter of contractual interpretation taking into account “the wider commercial and legal context in which the arbitration agreement is set”. It is therefore advisable to include express choices to avoid such contractual interpretation being required and the inevitable uncertainty to which this gives rise.

The seat of the arbitration also usually determines where the ultimate award is deemed to have been made, which can be relevant for enforcement purposes.

Finally, parties should decide whether to opt for an established set of procedural rules from an arbitral institution, or to agree an ad hoc set of rules between them. Such rules will usually cover issues such as the number of arbitrators who need to be appointed and the procedure for their appointment and are therefore important. Arbitration clauses should be clearly drafted to reduce uncertainty and ensure the parties’ intentions as to these factors are best protected.

7. Should the dispute resolution clause provide for mediation?

Providing for mediation in the jurisdiction clause (or in a separate but related dispute resolution clause) can be useful if the parties wish to try to reach a resolution of any dispute through commercial negotiation before commencing litigation or arbitration. Mediation is a form of non-binding alternative dispute resolution (ADR) in which a neutral third party (the mediator) helps the parties to seek to reach an agreement. The mediator does not direct the parties or make decisions; instead they provide objective support and advice to the parties about how the dispute can be resolved. As an outcome at mediation is not certain and/or binding, a provision for mediation should not replace a jurisdiction clause. If the mediation is not successful and the parties do not reach an agreement, either of them may be entitled to pursue the dispute to either arbitration or litigation, depending on the terms of the contract.

Prior to engaging in mediation the parties may, in the dispute resolution provisions, provide for some other informal dispute resolution, eg requiring the parties to attempt informal negotiation for no less than a certain period of time, before any mediation and/or formal proceedings are commenced.

Clauses providing for mediation (and/or a broader multi-layered ‘escalation’ clause) can provide parties with valuable options for resolving disputes before commencing costly and time-consuming proceedings. Equally, some parties’ experience is that mediation can simply delay and render more costly the ultimate resolution of a dispute through formal proceedings. The relative advantages and disadvantages will depend upon the specific facts and dynamics of the contract.

Practical takeaways for insurers

  • Ensure that all contracts (including insurance and reinsurance contracts, confidentiality/non-disclosure agreements, releases and settlement agreements) contain appropriate express choice of governing law and jurisdictions clauses insofar as practicable.
  • Seek legal advice on which law and jurisdiction to choose, bearing in mind that local laws and regulations relating to validity and enforceability of the contractual clause may undermine the choices made and require more carefully considered drafting.
  • Take particular care in federal jurisdictions such as the United States or countries such as the UK that comprise different legal systems where it may be necessary for the parties to specify a particular state or legal system.
  • Ensure governing law clauses are clearly drafted to express the parties’ intentions and seek legal advice on adhering to any necessary formalities on jurisdiction clauses.
  • To increase certainty, an exclusive jurisdiction clause should typically be used; if flexibility is more important, a non-exclusive jurisdiction clause may be a better option.
  • Be aware of parties attempting to contract out of mandatory domestic laws.
  • If a dispute arises, seek legal advice on applicable law and jurisdiction in the event there are no relevant clauses, or on how the clauses used would be interpreted by any relevant courts.
  • Consider tactically whether to instigate proceedings in a particular jurisdiction to make it the court first seized.
  • Consider whether to include a provision for arbitration rather than litigation and, if arbitration is preferred, seek advice on the appropriate wording of the clause.
  • Decide whether it would be beneficial to include a mediation clause (or a broader ‘escalation’ clause).