When Must an Insurable Interests be Present in a Life Insurance Contract?

Most states require that an insurable interest be present only at the time when the life insurance contract is entered into (i.e., at the inception of the policy) and need not be present at the insured’s death. Therefore, a wife who is married at the time the insurance is purchased on her husband’s life but divorced from him at his death is not barred from collecting. Likewise, if a corporation purchases insurance on the life of a key employee, by definition there is an insurable interest at that time. If the employee later leaves the firm, the corporation can still collect the proceeds of the policy on his life.

Even if the insurable interest tests are met by a third-party applicant, state law will void the contract if the insured is not informed and the insured’s consent is not obtained. Even a spouse cannot lawfully purchase a policy on the other spouse’s life in most states without that person’s knowledge and consent. However, there is a practical exception to this general rule: a parent can, without the child’s consent, purchase relatively small amounts of life insurance on the life of a minor child since the child does not have the legal capacity to consent and so such consent would be meaningless.

Passing of the contestable period will not bar an insurer from asserting a lack of insurable interest since the strength and validity of the incontestable clause is predicated on the existence of a valid contract. Absent insurable interest, there never was a valid contract.

An insurer has a legal duty to use reasonable care in ascertaining the existence of insurable interest and in assuring that the insured did in fact consent to the coverage. If the insurer does not use reasonable care in both duties, it may be liable for the harm that occurs to the insured and/or beneficiaries. For this (and sound underwriting economic) reason(s), insurance companies are often more stringent than state law requires.

Reproduced with permission.  Copyright The National Underwriter Co. Division of ALM

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