5 - 1 Legal Aspects of Life Insurance Introduction Life insurance is a legally contract Issued by the insurer In consideration for application

5 - 1

Legal Aspects of Life Insurance

Introduction Life insurance is a legally contract

Issued by the insurer

In consideration for application and premium payment

Parties to the contract The insurer

Operates in corporate form

Licensed in each state where it does business

The insured The person whose life is insured

Chapter 5Tools & Techniques of Life

Insurance Planning

5 - 2


Requirements of insurance interest Imposed by law to prevent Gaming or wagering

The applicant must have an insurable interest in the insured

Everyone has an unlimited insurable interest in their own lives

Blood relatives Parent to the child

Child to the parent

Grandparent to the grandchild

Siblings


Insurance Planning

5 - 3


Requirements of insurance interest (cont'd) Marriage

Spouses have insurable interest in each other

Some courts have held that insurable interest holds for those who are engaged

Those related by marriage generally do not In-laws

Step-sons & step daughters

Business Employer-employee

Partners in a partnership


Insurance Planning

5 - 4


Requirements of insurance interest (cont'd) Business (cont'd)

Person, or financial enterprise that would suffer a financial loss at the insured’s death

Creditors

Business associates funding the purchase of the business(Buy-sell agreements)

Insurable interest must exist only at the time of inception(Life and health insurance) Corporations can collect proceeds on the life of a former key employee

Consent of the insured must be present


Insurance Planning

5 - 5


Legal form and contents of the contract (cont'd) Aleatory contract

The insured’s promise to pay the policy proceeds conditions upon the an uncertain event

Unilateral contract The insurance company is the only party to the contract which makes a legally

enforceable promise

Contract of Adhesion The insurance contract is a “take it or leave it” agreement

Insurer selects all wording

No negotiation of the terms

Ambiguities are usually interpreted in the policyowner;s favor and against the insurer


Insurance Planning

5 - 6


Legal form and contents of the contract (cont'd) Grace period

Gives the policyowner an additional period of time(typically 31 days) after due date of premium during which the policy remains inforce

Death during grace period Full death benefit paid less premium that was due and not paid

Incontestable clause After 2 years from the policy date (during the insured’s life)

Company barred from challenging validity of contract


Insurance Planning

5 - 7


Legal form and contents of the contract (cont'd) Incontestable clause (cont'd)

Why? Clause allows a reasonable time for discovery by the insurer

Avoids long, expensive and uncertain litigation for the policyowner Difficult to collect evidence from years, even decades ago

Exceptions Fraudulent impersonations

Lack of insurable interest

Procurement of the policy with intent to murder


Insurance Planning

5 - 8


Legal form and contents of the contract (cont'd) Suicide clause

Proceeds will not be paid if insured commits suicide Within 2 years from the policy date

Whether sane or insane

Insurer will returns premiums paid, less any debt or partial surrenders

Presumption is that the insured did not commit suicide Insurer must demonstrate death did not occur by accident

Accidental death benefits will not be paid as a result of an insured’s suicide Suicide is a deliberate act

Conversions to permanent insurance do not re-start clock


Insurance Planning

5 - 9


Legal form and contents of the contract (cont'd) Misstatement of age adjustments clause

Proof of age not required at time of application

At death, a death certificate is required

Proceeds of the policy will be adjusted To proceeds that would have been purchased at the correct age

Dividend Clause Dividends are influenced by insurers experience with 3 factors

Mortality Excess by which actual morality expenses were greater or less than the

expected


Insurance Planning

5 - 10


Legal form and contents of the contract (cont'd) Dividend Clause (cont'd)

Dividends are influenced by insurers experience with 3 factors (cont'd) Interest

Excess by which actual interest earning were greater or less than the expected

Expenses Excess by which actual business expenses were greater or less than the

expected

Dividends are payable to and legally the property of the policyowner

Dividend options Policyowner chooses how dividends will be applied to policy


Insurance Planning

5 - 11


Legal form and contents of the contract (cont'd) Dividend Clause (cont'd)

Dividend options (cont'd) Take dividends in cash

Have dividends reduce premium

Dividends purchase paid-up additions

Dividends accumulate with interest

Dividends purchase one-year-term insurance equal to the cash value

Insurer’s allowed to specify what will happen if the policyowner does not specify which dividend option they want


Insurance Planning

5 - 12


Legal form and contents of the contract (cont'd) Nonforfeiture provisions

Define options for the policyowner with respect to the cash surrender value

Cash surrender Policyowner surrenders policy for its cash surrender value

Extended Term Insurance Cash value is applied as a single “Premium” to create an extended term policy No additional premiums required Death benefit remains the same

Since the death benefit is the same, only the term for time for which coverage will last will change

If the insured dies after the term ends – no benefits Good choice for some with a shortened life expectancy


Insurance Planning

5 - 13


Legal Form and Contents of The Contract Nonforfeiture provisions (cont'd)

Reduced paid-up insurance Cash used as a single premium to pay-up the contract for the life of the insured

Amount of coverage is reduced to what a net single premium in the amount of the policies cash value would purchase at the attained age of the insured

Policy has both cash values and loan values and is more flexible than extended term insurance

Good choice for insured in good to excellent health, but does not want to continue paying premiums


Insurance Planning

5 - 14


Legal form and contents of the contract (cont'd) Policy lapse and reinstatement clause

Policy “Lapses” when premium are not paid by the end of the grace period

A lapsed policy can be resuscitated to put the insurer back in a position prior to the lapse

Reinstatement conditions Applies for reinstatement

Provides evidence of insurability

Pays all back premiums plus interest


Insurance Planning

5 - 15



Why reinstate? Annuity purchase rates rates in original contract more favorable than what's

currently available

More favorable policy loan rates in original policy than what’s currently available

More favorable interest and mortality assumptions in original policy than what’s currently available

Premiums lower that what’s currently available in new policies

Simpler and quicker than applying for a new contract

On a new contract suicide and incontestable clause start anew


Insurance Planning

5 - 16



Why one might not reinstate? New contract have superior features and benefits

Larger outlay to reinstate than to buy a new contract

Rates for new policy may be lower than for original policy

Naming & changing a beneficiary Beneficiary is the person designated by the policyowner to receive the death

proceeds Revocable – Can be changed anytime by the policyowner Irrevocable – requires consent of the original beneficiary before it can be changed to

another beneficiary


Insurance Planning

5 - 17


Naming & changing a beneficiary (cont'd) Limitations

Beneficiary must have insurable interest if policyowner is someone other than insured

Community property state requires consent of spouse to change beneficiary if policy purchased with community property funds

Insured minor change change beneficiary upon reaching majority

Employer cannot be named as beneficiary for group term insurance

Beneficiaries named as part of a divorce decree cannot be changed without their consent

Legally adjudicated incompetent cannot change beneficiary

Uniform Simultaneous Death Act(USDA) Proceeds distributed as if insured survived beneficiary


Insurance Planning

5 - 18


Naming & changing a beneficiary (cont'd) Primary beneficiary

First in line to receive proceeds

Secondary beneficiary Receive proceeds in the event they outlive the primary beneficiary

Per Capita class of beneficiaries “By the head” distribution

Proceeds split according to the number of beneficiaries in the class

If there are three children, then each gets 1/3rd


Insurance Planning

5 - 19


Naming & changing a beneficiary (cont'd) Per Stirpes Class of beneficiaries

“By the branches” distribution

Proceeds are first divided among the class

If 2 out 3 children survive, the proceeds are split 3 ways with the deceased child’s children splitting the share the deceased child would have had

Trustee should be named as beneficiaries involving minors


Insurance Planning

5 - 20


Modes of settlement (death proceeds) Lump sum payable in cash

Leave proceeds with insurer and receive annual payments

Fixed-years installments

Fixed amount installments

Life Income Options Straight Life Life income with period certain Life refund annuity Joint and survivor annuity


Insurance Planning

5 - 21


Modes of settlement (death proceeds) (cont'd) Issues and considerations (Electing a non lump sum settlement option)

Advantages No separate charge made by the carrier

No other commercial institution can pay a life income

Both principal and minimum interest rate are guaranteed

Disadvantages Alternative investments may product higher returns

A trust may prove more flexible

The trust may be more responsive to the beneficiary needs and circumstances


Insurance Planning

5 - 22


Policy loans Insured can access the cash value for policy loans

Loan does not require re-payment In fact, the interest due can be borrowed as well.

Cash values must be sufficient

At death, loan balance is deducted from the total death proceeds

Automatic policy loan provision Advances the insurer makes under the policy clause to pay premium in the event the

insured does not pay by the end of the grace period If loan value insufficient to pay annual premium, then they will pay a semi-annual,

quarterly or monthly premium


Insurance Planning

5 - 23


Assignments A Life insurance policy can be transferred to another person or entity

It is a piece of property

Lifetime transfers Absolute assignment

Transfers all policyowner's rights irrevocably

Collateral assignment Assigns as much of the death proceeds as necessary to secure a lenders rights

Insurance company must be notified in writing by the policyowner


Insurance Planning

5 - 24


Waiver Intentional voluntary surrender of a known right

Rights that cannot be waived by the insurer Rights that protect a party to the contract as well as the public

Example – Insurer tries to demand that the applicant have an insurable interest in the insured

Rights that would create coverage were none previously existed

Rights to receive a sum of money cannot be waived

Types of Waivers Express – Surrender of a legal right expressly declared by written or orals words of an

insurance agent

Implied – Conduct infers the intention to forego a legal right


Insurance Planning

5 - 25


Waiver (cont'd) Types of Waivers (cont'd)

Waiver by silence – Where insurer has legal duty to speak, but fails to do so

Estoppels Legal way of arriving at a fair and just result Insurer through words or conduct mislead policyowner

Action or inaction results in policyowner loss Example – Agent tells applicant to ignore that one fainting spell because the insurance

company is only concerned with long- term history of fainting The result – Insurer denies death benefit claim on the grounds that the fainting was not

admitted on the application

The insurer is “estopped” from claiming misrepresentation, because the insurance agent’s comments induced the applicant into taking action


Insurance Planning

Documents

5 - 1 Legal Aspects of Life Insurance Introduction Life insurance is a legally contract Issued by the insurer In consideration for application