I've got no idea what the go is in your situation, but I'd get them to put it in writing, and call up the Insurance Ombudsmen - 1300 780 808 - http://www.insuranceombudsman.com.au/
They'll let you know what the go is and provide a final answer. It's basically a dispute resolution service who'll deal with your insurance company and enforce them to pay out if they are liable to do so.
I wouldn't stuff around doing anything else.