Marine insurance defines loss as either total or partial. For total loss, an important distinction is drawn between actual total loss or constructive total loss. With Indian Ocean piracy and "hot-zone" geopolitical instability adding to the threats facing ships, shipowners and insurers recurringly face the question of what constitutes an actual total loss and a constructive total loss.

While a number of recent cases have grappled with whether the hijacking and holding of a vessel for ransom qualifies as a constructive total loss, there are some notable cases accepted as constructive total loss. When the Costa Concordia sank off the coast of Italy in 2012, she was accepted as a constructive total loss with her salvage being one of the largest and most expensive operations in history. 

The "Bamburi" test case is an example of how the London insurance market had to grapple with the insurance consequences of ships being stuck in the Persian Gulf for lengthy periods during the Iran-Iraq war in the 1980s. In this test case, the English High Court judge, Justice Staughton, determined that the vessel was a constructive total loss, as the owners had been deprived of possession and it was unlikely that they could recover the vessel within a reasonable time.

Actual total loss includes the complete destruction of the ship (or relevant insured property), damage and deprivation of insured property. When a ship is missing for an extended period of time and no news has been received from the vessel, it can be treated as an actual total loss. It is fairly easy to gather evidence to establish an actual total loss, such as inspecting wreckage, reviewing distress communications, and analysing and investigating locations.

A constructive total loss may be declared in a range of different circumstances, defined in section 66 of the Marine Insurance Act 1909 (Cth), which do not necessarily result in the vessel's destruction. These include situations of reasonable abandonment or where the costs of recovery or repair to a damaged ship or damaged goods exceeds their value.

However, shipowners who wish to make a constructive total loss claim must give their insurers notice of unconditional abandonment and give up possession to the insurer or risk having it treated as a partial loss. The notice can be in writing or verbal, but must make it clear that the insured unconditionally abandons its interest in the property to the insurer.

If the insurer accepts abandonment, it takes on the interest of the insured in whatever remains of the insured property and is entitled to exercise salvage rights and is obliged to indemnify the insured for the insured value of the property.

Written by Stuart Hetherington and Julian Peake