Desai v Wood: Court of Appeal confirms treatment of liability insurance proceeds in liquidation

The Court of Appeal’s decision in Desai v Wood/Re Boscolo Limited (in liquidation) [2025] EWCA Civ 906 provides clarification on the entitlement to insurance proceeds paid out to an insolvent insured under a professional indemnity policy. The decision reaffirmed that, in the absence of express terms, third party claimants have no entitlement to insurance proceeds which form part of the company’s insolvent estate.

Background

The Appellants, Mr Dilip Desai and Mr Paresh Shah, engaged Boscolo Limited (“the Company”) to carry out interior design and project management services in relation to the refurbishment of a property they owned.

The Company was alleged to have negligently advised the Appellants that listed building consent was not required for the refurbishment and, as a result, the Appellants suffered substantial losses.  The contract incorporated the British Institute of Interior Design Conditions which required the Company to obtain professional indemnity insurance. The Company had cover up to an indemnity limit of £250,000 for any one claim.

Following notification of a potential claim, (but prior to a claim being issued and thus liability being determined or agreed) the Company’s insurer, Royal & Sun Alliance Ltd, exercised a clause in its professional indemnity policy allowing it to discharge its liability by paying the full indemnity limit (£250,000) to the insured. Crucially, this payment was made before the Company became a “relevant person” under the Third Parties (Rights Against Insurers) Act 2010, meaning the Appellants had no automatic right to claim the proceeds from the insurers directly.

Upon discovering the payment had been made, the Appellants then issued proceedings against the Company for breach of contract and/or negligence, seeking more than £700,000. Just three weeks after proceedings had been issued, the Company entered a creditors’ voluntary liquidation. The Company owed £34,000 to trade creditors and £250,000 to its former director and owner, however its only significant asset was the remaining proceeds of the insurance policy (£246,000).

The claim was stayed by consent and the Company’s liquidators applied to the High Court for directions as to the entitlement to the insurance policy proceeds under section 112 of the Insolvency Act 1986.

The High Court Decision

The central question at first instance was whether the insurance policy proceeds formed part of the insolvent Company’s assets (and therefore fell to be distributed pari passu among the general body of creditors) or whether they were held on trust for the Appellants (whose claimed has prompted the payout by insurers). The Appellants argued that there were implied terms in both the contract as well as the policy that the policy proceeds would not be dissipated by the Company and that they would be held on trust for the Appellants and effectively ring-fenced.

HJJ Paul Matthews rejected the Appellant’s arguments and held that the insurance proceeds belonged beneficially to the Company. The Court gave directions confirming that the funds formed part of the Company’s general assets and should be distributed to its creditors in accordance with the usual priority rules.

The Court of Appeal Submissions

The Appellants appealed that decision submitting that the design contract implied terms that the Company would not dissipate the insurance proceeds if it found itself in financial difficulties and had reasonable grounds to believe it would not otherwise be able to meet the Appellant’s claim. In other words, there was a constructive trust over the policy proceeds because it would be unconscionable for the Company to retain the insurance proceeds if it had the “Relevant State of Mind”.

They also argued that both the policy and the design contract included an implied term that the proceeds would only be utilised for the so-called ‘Paramount Purpose’ of ensuring, for the benefit of the injured client, the Company’s ability to pay the related claim.

The Court of Appeal Decision

No Constructive Trust

The Court of Appeal rejected the constructive trust argument noting that a remedial constructive trust was not recognised in English Law and furthermore the circumstances did not justify the imposition of a trust based on unconscionability.

Implication of Terms Test

In considering whether the terms had been implied the Court applied the test from Ali v Petroleum Company of Trinidad and Tobago [2017] UKPC 10, assessing whether the terms were necessary for business efficacy or whether the allegedly implied terms were so obvious that they went without saying.

It was determined that it was not obvious that a term restricting the use of the proceeds was implied into the design contract, nor was it necessary for business efficacy. The Court made the point that the Appellants could have included an express term in the contract establishing a proprietary entitlement to any insurance pay out, but they had not done so.

Paramount Purpose

In considering the ‘Paramount Purpose’ argument, the Court held that the primary and direct purpose of professional indemnity insurance was to benefit the insured rather than any third party. It was confirmed that any benefits to third parties were by indirect benefit and that it was not necessary for business efficacy to imply a term to protect that indirect benefit.

No Trust Imposed

The Court went on to say that even if a term had been implied requiring the Company to use the policy proceeds to pay the related claim, this would not have assisted the Appellants unless a trust over the proceeds had been formed. In the absence of a trust, the Appellants would only have a contractual claim to the funds rather than a proprietary entitlement. As such the Appellants would rank among the other unsecured creditors of the Company.

The court noted that the neither the requirement of certainty of intention nor certainty of subject matter had been met to support the imposition of a trust. There was no indication of an intention that the proceeds were to be held on trust, and the funds were not ring-fenced or separated from the Company’s assets in a manner that might indicate certainty of subject matter.

No Statutory Assignment

Furthermore, the Appellants were not assisted by the Third Party (Rights Against Insurers) Act 2010 (“TPRIA 2010”). The timing of the events in this case were key to the decision. The Court confirmed that the TPRIA 2010 can only transfer an insured’s rights against its insurer to a third party upon the occurrence of a qualifying insolvency event. In this case, as the insurance proceeds were received by the insured prior to it entering an insolvency process (thereby discharging the insurer’s liability prior to the requisite qualifying insolvency event), the TPRIA 2010 did not apply and the Appellants accordingly acquired no rights against the insurer.

Implications of the Judgment

The decision reaffirms the general principle set out in the case of Re Harrington Motor Co Ltd, ex p Chaplin [1928] Ch 105, that a claimant does not have a beneficial interest in the proceeds of a company’s insurance claim, even where that claim has already been proved.

In the absence of express contractual provisions or statutory assignment, insurance proceeds paid to an insured belong to the insured and a claimant cannot take the benefits provided under the TPRIA 2020 unless and until formal insolvency proceedings have been commenced.

Moving forward, it is likely that parties contracting with professional service providers will seek to insert a clause into contracts conferring a proprietary right or security interest in the professional service providers’ interest under their insurance policies. This will be particularly important in cases where the financial security of the insured is in doubt.

The case also serves to highlight the fact that insureds who receive payment from insurers who have elected to compromise the claim at the full limit of indemnity, thereby relinquishing all liability for the claim, are not under any obligation to use the payment to meet the claimant’s claim. Arguably this leaves claimants who are intended to be protected by the provision of insurance vulnerable should insurers exercise their rights in this manner.

For insolvency practitioners, the decision provides clarity that insurance proceeds paid prior to a qualifying insolvency event will form part of the insolvent Company’s estate for the benefit of the Company’s creditors as a whole and are to  be distributed in accordance with the statutory waterfall In this context and also of note were the Court’s observations that insurance policies are generally not intended to benefit third parties in asserting claims against the insured – and even less so to confer enforceable proprietary rights upon them in the event of the insured’s insolvency.

In light of the Court of Appeal’s decision and specifically the concluding paragraph of Lord Justice Zacaroli’s judgment – “The conclusion does not, moreover, preclude parties seeking to provide, by express terms, protection against an insured’s insolvency, whether by grant of a proprietary right or security interest” – insolvency practitioners would also be well advised to undertake a careful review of contractual terms that require insurance proceeds received by the insured to be held separately on trust for a claimant and applied solely towards the discharge of that claim. Although the effectiveness of such provisions will be case specific, the Court provided clear guidance that express terms seeking to ring-fence insurance proceeds could indeed support the argument that the funds are to be held separately with the consequence that they will not form part of the insured’s estate upon insolvency.

If you would like assistance or have any queries about this topic, please do not hesitate to get in touch with Nicola Maher of the Insurance Disputes team, or Sophia Bompas of the Restructuring & Insolvency team.