The legal reform body wants to update the 100-year-old law covering insurance claims and restore the confidence of consumers. Its proposals would reduce the refusal of claims when consumers have made innocent errors in disclosure sections of insurance proposal forms.

The Association of British Insurers rejected the changes yesterday, saying: "More law is unlikely to provide a better deal for consumers. We are doing a lot already to improve confidence among customers."

The Law Commission says the law, based on the Marine Insurance Act 1906, is no longer suitable for a world of mass market policies or compulsory cover such as third party motor insurance. It says new laws are needed to restore consumer confidence in personal policies and to underscore London's position in the international insurance market.

At present consumers can lose out when innocent errors on proposal forms are deemed "non-disclosure" of something that affects insurers' risk assessment, or "misrepresentation" where the customer makes an incorrect statement of "a fact that is material". A failure in either area can mean refusal to pay a claim.

"This law dates from a time when private insurance as we know it now was the preserve of the wealthy few. Today the insurance industry is a huge business with new mass market products and an integral part of our personal lives," said David Hertzel, the commission member leading the project.

"Many policyholders do not realise they have a duty to disclose information they have never been asked for, but which could influence an underwriter's judgment of the risk," the commission says. "Policyholders may be denied claims even when they have acted honestly and reasonably. The question may be unclear or outside their knowledge."

Insurers can refuse to pay out even if the errors or omissions would have had no effect on the policy or the premium, if they had been revealed earlier.

Under the proposals, which have been put out for consultation until November 16, dishonest or reckless insurance buyers would have claims turned down - and forfeit premiums. Where the mistakes would not have changed the insurer's decision to grant a policy, claims should be met.

Where the errors would have caused a premium increase or special terms, the commission says claims should be met proportionally rather than being turned down altogether. If an undisclosed fact would have doubled the premium, any resulting claim would be halved.

It also proposes a five-year "cut-off period" as it can be difficult to check statements made long ago by a policy buyer who now may have died or suffered a serious illness.

The ABI said insurers, the Financial Services Authority and the Financial Ombudsman Service had made changes already. "The real challenge for the industry is to make a success of regulation based on principles rather than law. We will scrutinise the proposals to ensure they add real value to the regulatory system. There must be a cost-benefit analysis to ensure people are not priced out. We shall make a full and robust response in the autumn."

The commission accepts insurers and the ombudsman have made progress. "But not all consumers go to the ombudsman who, unlike the courts, cannot look at cases which involve a cross-examination and who is governed by a £100,000 limit," said Hugh Beale QC, a law commissioner until last month. "There are also overlapping layers of regulation - the current system is a nonsense."

Case studies

How insurers avoid payouts

1. Mr A took out contents insurance, saying he had no county court judgments against him. Two years later he renewed but by then had three judgments. The insurer later turned down a claim - a decision reversed by the ombudsman who said it was not fair to expect Mr A to know what would be material.

2. Ms B took out income protection insurance. She was asked a number of medical questions. She later developed multiple sclerosis but the insurer refused to pay as she had not reported a numbness in her leg diagnosed as a virus. The ombudsman reversed this as she had answered questions honestly.

3. Ms C bought illness cover. She failed to disclose back pain suffered after childbirth. A claim for breast cancer was later refused. The ombudsman found the two conditions were unrelated so disclosure of the back pain would have made no difference to the claim.

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