Indemnity costs

The article below was first published in March 2011.

Does an award of indemnity costs matter? A Regional Costs Judge remarked to the writer many years ago, that he could not see that the basis of an award of costs did, as he would consider the quantum of costs, irrespective of the burden of proof, and would not allow unreasonable costs on either basis.

In practical terms, an award of costs on the indemnity basis, can be said to matter, for three reasons. The first is that the principle of proportionality does not apply when costs are being assessed on an indemnity basis. Secondly, the burden of proof, or the onus of persuasion lies on the paying party to rebut a presumption of reasonableness. Thirdly, and most significantly, because indemnity costs are so rarely awarded, the very fact of an award, tends to enhance the receiving party’s standing in negotiations over costs. If on a standard basis assessment 70% to 85% of a bill might be recovered, then on the indemnity basis 85% plus represents the basis for negotiations.

This is what psychologists term the normalisation process.

Indemnity costs can be awarded under the provisions of part 36 of the Civil Procedure Rules, or otherwise by the exercise of the Court’s discretion. The leading case as to the principles upon which an award on the indemnity basis may be appropriate is that of Excelsior Commercial and Industrial Holdings.v.Salisbury Hamer Aspden and Johnson [2002] EWCA Civ 879, where the Court of Appeal noted:

31. In the context of that case I see that those paragraphs set out the need for there to be something more than merely a non−acceptance of a payment into court, or an offer of payment, by a defendant before it is appropriate to make an indemnity order for costs. Insofar as that is the intent of those paragraphs, I have no difficulty with them. However, I would point out the obvious fact that the circumstances with which the courts may be concerned where there is a payment into court may vary considerably. An indemnity order may be justified not only because of the conduct of the parties, but also because of other particular circumstances of the litigation. I give as an example a situation where a party is involved in proceedings as a test case although, so far as that party is concerned, he has no other interest than the issue that arises in that case, but is drawn into expensive litigation. If he is successful, a court may well say that an indemnity order was appropriate, although it could not be suggested that anyone’s conduct in the case had been unreasonable. Equally there may be situations where the nature of the litigation means that the parties could not be expected to conduct the litigation in a proportionate manner. Again the conduct would not be unreasonable and it seems to me that the court would be entitled to take into account that sort of situation in deciding that an indemnity order was appropriate.

32. I take those two examples only for the purpose of illustrating the fact that there is an infinite variety of situations which can come before the courts and which justify the making of an indemnity order. It is because of that that I do not respond to Mr Davidson’s submission that this court should give assistance to lower courts as to the circumstances where indemnity orders should be made and circumstances when they should not. In my judgment it is dangerous for the court to try and add to the requirements of the CPR which are not spelt out in the relevant parts of the CPR. This court can do no more than draw attention to the width of the discretion of the trial judge andre−emphasise the point that has already been made that, before an indemnity order can be made, there must be some conduct or some circumstance which takes the case out of the norm. That is the critical requirement.

In later cases, these comments on the requirement for conduct or abnormal circumstances have been the subject of much argument. A spate of recent decisions has illustrated the applications of the principles.

In the case of D Morgan PLC.v.Mace and Jones (A Firm) [2011] EWHC 26, a decision of Coulson J., a professional negligence action against a firm of solicitors failed on grounds of causation, and in circumstances where the firm had offered £1.2 million by way of settlement. Indemnity costs were ordered from the last point that the Defendant’s part 36 offer could have been accepted, both on the grounds that the refusal to accept that offer was unreasonable to a high degree, and where the Claimant’s owner had sought to bolster his case by telling deliberate untruths.

In the case of London Tara Hotel Ltd.v.Kensington Close Hotel Ltd [2011] EWHC 29, a decision of Roth J, an award of indemnity costs was sought on the basis that the claim for damages against the successful defendant had been enormously exaggerated and because an offer to settle by the defendant had been rejected. The court had no difficulty with the concept that the presentation of a grossly inflated claim might constitute conduct which could justify an award of indemnity costs, but went onto hold that a claim which was merely misconceived, did not warrant such a penalty. The same was true of a failure to accept a defendant’s offer. The application for costs on the indemnity basis was accordingly rejected.

Finally, a decision of a tax tribunal is yet another illustration of the application of the Excelsior guidance. In the case of Bowcombe Shoot and Upcerne Shoot.v.Revenue and Customs Commissioners [2011] UKFTT 64, the tribunal refused to award indemnity costs, noting that although there was no requirement for there to be moral condemnation, there had to be such conduct as would justify an order carrying some stigma. Merely being wrong or misguided (with the benefit of hindsight) would not cross the threshold of unreasonableness, to justify such an award.

The Excelsior decision continues to cast a long shadow. The three decisions noted above, show reluctance to award indemnity costs in circumstances where an innocent party triumphed at trial, save in circumstances which overwhelmingly justified such an award.

In a sense, the continuing reluctance of the courts to award indemnity costs remains something of a mystery. Why should a party who has been vindicated in the court system, and often who has been pursued through no fault of their own, have to bear a substantial financial penalty through perhaps 15% to 30% of their bill of costs being irrecoverable? In circumstances where litigation has been heavy, prolonged or simply costly, that can represent a penalty to the innocent party of thousands, or tens of thousands of pounds. Moreover an award of indemnity costs is not in any real sense of the word, a penal order or one that connotes stigma. Rather it simply ensures that a party who has been put to the expense of legal proceedings unnecessarily, recovers a larger element of their overall costs.

The paying party is not forced to pay a penalty, or inflicted with an arbitrary financial fine, simply for having the temerity to bring or resist proceedings. Such an award remains effectively capped, both by the indemnity principle and by an assessment importing a criterion of reasonableness.

But the clear message from the case law noted above is that an award of indemnity costs will remain elusive, save in the grossest of circumstances.


Lord Justice Megarry in John v Rees (1970) remembered

“It may be that there are some who would decry the importance of the rules of natural justice. ……those who take this view do not, I think, do themselves justice. As everybody who has anything to do with the law well knows, the path of the law is strewn with examples of open and shut cases which, somehow, were not: of unanswerable charges which, in the event, were completely answered ; with inexplicable conduct which was fully explained; …….. nor are those with any knowledge of human nature who pause to think for a moment likely to underestimate the feelings of resentment of those who find there is a decision against them as being made without their being afforded any opportunity to influence the course of events…”

Costs budgeting and satellite litigation

On 28th  January 2013, the Court of Appeal handed down judgment in the case of Sylvia Henry v News Group Newspapers Limited [2013] EWCA Civ 19.

A link to the judgment can be found here:

The decision is important as it is the first decision of an appellate court on the pressing issue of costs budgeting, and how the court is meant to unpick the consequences of a receiving party, failing to comply with its obligations in respect of costs budgeting.

The decision at first instance

The underlying litigation arose from a case, brought against The Sun by a social worker who had been defamed in the aftermath of Baby P’s death. Her claim had fallen within the scope of the pilot costs management scheme embodied in Practice Direction 51D. As the Court of Appeal noted, the purpose of costs management under the scheme was as follows:

The Defamation Proceedings Costs Management Scheme provides for costs management based on the submission of detailed estimates of future base costs. The objective is to manage the litigation so that the costs of each party are proportionate to the value of the claim and the reputational issues at stake and so that the parties are on an equal footing.

The various obligations which the scheme provided for were:

  • To prepare a costs budget for consideration an approval by the court at the first CMC and then at various points in the litigation.
  • The court was meant to manage the costs of the litigation and to take account of costs when directing procedural steps.
  • The solicitors were expected to liaise on a monthly basis, with each other, to check that the budgets were not being exceeded.

The scheme also provided a sanction. Paragraph 5.6 of the Practice Direction provided:

When assessing costs on the standard basis, the court-

(1)  Will have regard to the receiving party’s last approved budget; and

(2)  Will not depart from such approved budget unless satisfied that there is  good reason to do so.

The paying party took exception to the receiving party’s bill of costs, on the grounds that it exceeded, quite substantially, the budget that had been approved by the court. The issue that the court at first instance had to resolve was whether there was “good reason” to depart from the approved budget.  The paying party maintained that there was no good reason, due to the receiving party’s failure to keep the other side informed of the costs being incurred and to obtain the court’s prior approval.

At first instance Master Hurst stated:

“67. It is clear that the Claimant did not keep either the Defendant or the Court informed of the fact that its budget was being exceeded. Although Mr Browne does not accept the Defendant’s analysis of the costs budget, saying that the Claimant’s costs lawyer arrived at lower figures in his analysis, the fact is that the budget has been exceeded by a very significant amount, and there has been no attempt by the Claimant to pass this information on.  The fact that both sides exceeded their budgets does not assist the Claimant. The Defendant kept the Claimant informed, but the Claimant gave no indication to the Defendant.

68.   The provisions of the Practice Direction are in mandatory terms. Each party must prepare a costs budget or revised costs budget (paragraph 3.1), each party must update its budget (3.4), solicitors must liaise monthly to check that the budget is not being or is likely to be exceeded (paragraph 5.5). The objective of the Direction is to manage the litigation so that the costs of each party are proportionate to the value of the claim and reputational issues at stake, and so that the parties are on an equal footing (paragraph 1.3) I am forced to the conclusion that if one party is unaware that the other party’s budget has been significantly exceeded, they are no longer on an equal footing, and the purpose of the cost management scheme is lost.

69.   Whilst, as I have said, I have no doubt that the Claimant could make out a very good case on detailed assessment for the costs being claimed, the fact is the Claimant has largely ignored the provisions of the Practice Direction and I therefore reluctantly come to the conclusion that there is no good reason to depart from the budget.”

The Master thereby disallowed £268,832 from the base costs. But was he right to do so ? The receiving party appealed to the Court of Appeal and argued that he was wrong to do so.

The decision in the Court of Appeal

The Court of Appeal began by setting out the background considerations that supported a scheme of costs budgeting:

I can now return to the question raised by the preliminary issue. It is implicit in paragraph 5.6 of the practice direction that the approved costs budget is intended to provide the framework for a detailed assessment and that the court should not normally allow costs in an amount which exceeds what has been budgeted for in each section. That makes good sense if the proper procedure has been followed and the costs have been managed in a way that ensures that they are restricted to an amount that keeps the parties on an equal footing and is proportionate to what is at stake in the proceedings. However, paragraph 5.6 expressly recognises that there may be good reasons for departing from the budget and allowing a greater sum. On the other hand, costs budgeting is not intended to derogate from the principle that the court will allow only such costs as have been reasonably incurred and are proportionate to what is at stake; it is intended to identify the amount within which the proceedings should be capable of being conducted and within which the parties must strive to remain. Thus, if the costs incurred in respect of any stage fall short of the budget, to award no more than has been incurred does not involve a departure from the budget; it simply means that the budget was more generous than was necessary. Budgets are intended to provide a form of control rather than a licence to conduct litigation in an unnecessarily expensive way. Equally, however, it may turn out for one reason or another that the proper conduct of the proceedings is more expensive than originally expected.

So far, so good, but the crucial issue that the Court of Appeal had to grapple with, was what would constitute a “good reason” to permit departure from the budget: what construction should be given to the phrase, and how hard should it be for a receiving party to fulfil the criteria in establishing a good reason ?

This is a question which seems to arise every decade in litigation. What approach should the court take to default and non-compliance to its rules ? Seasoned observers will recall the hard-line approach to extensions of time taken under the old RSC in the case of Savill.v.Southend HA [1995] 1 WLR 1254, where “good reason” had to be shown for an extension of time. And the more nuanced approach taken in Costellow v Somerset County Council [1993] 1 AER 952, where a broad test of consideration of all the circumstances of the case was set out, when considering what approach should be taken to extending time.

The competing approaches of those two authorities, were discussed in the case of Finnegan v Parkside HA [1997] EWCA 2774 where Hirst LJ noted this when seeking to address the competing approaches:

As so often happens, this problem arises at the intersection of two principles, each in itself salutary. The first principle is that the rules of court and the associated rules of practice, devised in the public interest to promote the expeditious dispatch of litigation, must be observed. The prescribed time limits are not targets to be aimed at or expressions of pious hope but requirements to be met. This principle is reflected in a series of rules giving the court a discretion to dismiss on failure to comply with a time limit: Ord 19,r.1, Ord 24, r.16(1), Ord 25, r.1(4) and (5), Ord 28,r.10(1) and Ord 34, r.2(2) are examples. This principle is also reflected in the court’s inherent jurisdiction to dismiss for want of prosecution.

The second principle is that a plaintiff should not in the ordinary way be denied an adjudication of his claim on its merits because of procedural default, unless the default causes prejudice to his opponent for which an award of costs cannot compensate. This principle is reflected in the general discretion to extend time conferred by Ord 3,r.5, a discretion to be exercised in accordance with the requirements of justice in the particular case. It is a principle also reflected in the liberal approach generally adopted in relation to the amendment of pleadings.

In the case of Henry, the Court of Appeal went on to decide that the approach foreshadowed in Hirst LJ’s second principle should govern the approach to be taken to the question of what is a “good reason”:

It follows that when considering whether there is good reason to depart from the approved budget it is necessary to take into account all the circumstances of the case, but with particular regard to the objective of the costs budgeting regime. In the case of the present scheme the objective is set out in paragraph 1.3 of the practice direction, namely, to manage the litigation so that the costs of each party are proportionate to what is at stake and to ensure that the parties are on an equal footing. The emphasis in paragraph 1.3 is on the court’s management of the proceedings and thereby of the costs, a requirement reflected in paragraph 2(1), which for these purposes adds a new paragraph to Practice Direction 29 requiring the court to manage the costs of the litigation as well as the case itself, and paragraph 5.1. These paragraphs make it clear that, just as the court has responsibility for managing the proceedings, so also it has a responsibility for managing the costs and that it is expected to manage the costs by managing the proceedings in a way that will keep them within the bounds of what is proportionate.

I do not think that it would be wise to attempt an exhaustive definition of the circumstances in which there may be good reason for departing from the approved budget. The words themselves are very broad and experience teaches that any attempt by an appellate court to provide assistance in a matter of this kind risks creating a set of rigid rules where flexibility was intended. Circumstances are infinitely variable and it is vital that judges exercise their own judgment in each case. Having said that, the starting point must be that the approved budget is intended to provide the financial limits within which the proceedings are to be conducted and that the court will not allow costs in excess of the budget unless something unusual has occurred. Whether there is good reason to depart from the approved budget in any given case, therefore, is likely to depend on, among other things, how the proceedings have been managed, whether they have developed in a way that was not foreseen when the relevant case management orders were made, whether the costs incurred are proportionate to what is in issue and whether the parties have been on an equal footing.  

It is understandable why the Court of Appeal has taken this approach. It is reflective of the current broad test, governing relief from sanction in rule 3.9. But in setting out this formulation of the approach to be taken, the Court of Appeal has, done a great deal to render nugatory the constraints of costs budgeting.

It has also opened the door to extensive satellite litigation. The reason is simple. It can reasonably be anticipated that in many cases conducted after April 2013, costs budgets will be exceeded. That is the nature of litigation: it is riddled with uncertainty and each case has the potential to create twists and turns along its way. If it was certain, people would settle their disputes without recourse to the courts.

Secondly, human nature being what it is, many lawyers will breach the new provisions on costs budgeting. Consider the current approach to costs estimates, which accompany the allocation and listing questionnaires. They are rarely accurate. And because they are simply “taken into account” if an arbitrary figure of costs claimed in the bill exceed 20% more than the estimate, on any assessment, they are often breached with impunity.

In such circumstances in virtually every case, there will be arguments that can be made that there is a “good reason” as to why the budget should be departed from. In fact, such considerations led to the Court of Appeal finding that the Master was wrong, in that he had taken too narrow an approach to the test of “good reason”: leading to his decision being quashed on appeal.

The Court of Appeal plainly thought it significant in the Henry case, that both parties were in default of the practice direction, that the court had not taken a sufficiently strong lead in the case and that prior to settlement, the paying party had been told that the actual bill was greater than the budget, yet agreed to pay costs anyway when settling the case.

The Court of Appeal then went on to fire two further torpedoes into the hulk of costs budgeting. First it depreciated the binding nature of costs budgets in these terms, making them far close in terms of their constraint on costs, to estimates than to caps:

I would accept that costs estimates fall at one end of a scale that runs through costs budgets to cost caps. Clearly the very fact that the court has responsibility for approving budgets as a means of managing costs is an indication that budgets are intended to provide some constraint. On the other hand, the budget is not intended to act as a cap, since the court may depart from it when there is good reason to do so. The question in the present case is whether there was indeed good reason to depart from the approved budget. In my view it is open to a costs judge when answering that question to take into account all the circumstances of the case. However, it will rarely, if ever, be appropriate to depart from the budget if to do so would undermine the essential object of the scheme. As I have already pointed out, the failure of the appellant’s solicitors to comply with paragraph 5.5 of the practice direction or to apply for a costs management conference with a view to obtaining the court’s approval of a revised budget did not lead to an inequality of arms. Moreover, it is strongly arguable that it did not result in the appellant’s incurring costs that were disproportionate to what was at stake in the proceedings. Accordingly, it was open to the costs judge to find that the essential objects of the scheme had not been frustrated. In those circumstances he was obliged to consider all the circumstances of the case, including the extent to which the parties and the court had exercised their respective responsibilities under the scheme, the way in which the proceedings had developed, the response of the appellant’s solicitors to the demands imposed by the way in which the respondent’s case developed and the respondent’s agreement to pay the appellant’s costs as part of the compromise of the claim.

Secondly, it made it plain that a crucial question, is whether the costs claimed in excess of the budget, are unreasonable and disproportionate.

In the rather unusual circumstances of this case the preliminary issue should in my view be answered in the affirmative for several inter-related reasons. First, because unless the court departs from the budget the appellant will not be able to recover the costs of the action. That alone would not be enough; if it were the scheme would be otiose, but it is an important factor to the extent that on examination the court is persuaded that the costs actually incurred were reasonable and, most importantly, proportionate to what was at stake in the litigation. Allied to that is the fact that the failure of the appellant’s solicitors to observe the requirements of the practice direction did not put the respondent at a significant disadvantage in terms of its ability to defend the claim, nor does it seem likely that it led to the incurring of costs that were unreasonable or disproportionate in amount. In other words, the objects which the practice direction sought to achieve were not undermined. In those circumstances a  refusal to depart from the budget simply because the appellant had not complied with the practice direction would achieve nothing beyond penalising her. That might encourage others to be more assiduous in complying with the practice direction in the future, but to penalise the appellant for that reason alone would be unreasonable and disproportionate. That is all the more so in the context of proceedings which were constantly changing in ways that, in the words of the judge below, could not be passed off as no more than a minor inconvenience. Then there is the fact that the appellant’s solicitors were not alone in failing to comply with the requirements of the practice direction. The respondent’s solicitors also exceeded their budget (admittedly not to so large an extent) and the court itself was less active than it should have been in monitoring the parties’ expenditure when the matter came before it on the procedural applications in April 2011. The failure of the respondent’s solicitors to register any protest when they were finally informed of the amount of costs incurred by the appellant suggests to me some recognition of the extent to which the development of the litigation had affected the appellant’s preparation.

The consequences of placing emphasis on this latter criterion do not seem to have been considered by the court. First, it is logically incoherent in terms of the philosophy of costs budgeting: the notion is that the costs approved in the budget, are the reasonable and proportionate ones, and that costs not so approved, by definition, are unreasonable and disproportionate.

Secondly, it means that in every case, where costs claimed exceed the budget, the Costs Judge must scrutinise those costs and determine whether they are reasonable and proportionate, in order to form a view on a material factor, crucial to the exercise of his discretion.

But this exercise in hindsight, was exactly what costs budgeting was meant to remove. It is much easier to justify costs, once they have been incurred, than it is to justify costs by the needs of the litigation prior to their incurrence. It is this problem, which led to detailed assessment, being recognised, as being inadequate to control costs and prompted the development of costs budgeting in the first place. The arguments on any application for departure from the budget, will thus be quite involved as the costs judge must look at the costs in detail, by reference to the conduct of the litigation.

The future

This was a case under a particular pilot scheme. From the 1st April, costs budgeting is extended to the majority of multi-track cases in the county courts and High Court. Looking to the future, the Court of Appeal noted this:

In the light of the experience gained from those pilots the Rule Committee decided to adopt Sir Rupert Jackson’s recommendation that the management of costs by the court should in future form an integral part of the ordinary procedure governing claims allocated to the multi-track. Those rules, which will become effective from 1st April 2013, differ in some important respects from the practice direction with which this appeal is concerned. In particular, they impose greater responsibility on the court for the management of the costs of proceedings and greater responsibility on the parties for keeping budgets under review as the proceedings progress. Read as a whole they lay greater emphasis on the importance of the approved or agreed budget as providing a prima facie limit on the amount of recoverable costs. In those circumstances, although the court will still have the power to depart from the approved or agreed budget if it is satisfied that there is good reason to do so, and may for that purpose take into consideration all the circumstances of the case, I should expect it to place particular emphasis on the function of the budget as imposing a limit on recoverable costs. The primary function of the budget is to ensure that the costs incurred are not only reasonable but proportionate to what is at stake in the proceedings. If, as is the intention of the rule, budgets are approved by the court and revised at regular intervals, the receiving party is unlikely to persuade the court that costs incurred in excess of the budget are reasonable and proportionate to what is at stake.

But given the fact that budgets are not to be equated with “caps”, the open textured nature of the considerations that the court must take into account when considering departing from a budget, and the emphasis on whether the costs in fact incurred, can be argued to be reasonable and proportionate, despite being unbudgeted, much of the force of the new costs budgeting regime, can be said to have been dissipated before it has been implemented. And the door has been opened to clever lawyers to construct detailed arguments, on various “good reasons” why budgets should be departed from.