Insurable Interest

Halvard Bruun applies for a $1,000,000 life insurance policy on the life of a business partner who is essential to their firm. Two years later the partnership dissolves and the two men go separate ways, but Bruun keeps paying the premiums. The partner dies four years after the dissolution. Regarding INSURABLE INTEREST, which statement is correct?

1. A.The claim fails, because insurable interest must exist continuously and it ended when the partnership dissolved.Incorrect. For life insurance, insurable interest is tested at issue only and need not continue for the life of the policy.
2. B.The death benefit is payable, because insurable interest for life insurance must exist when the policy is issued and need not continue afterwards.Correct. Bruun had insurable interest in his key business partner at inception, and the later dissolution does not defeat the contract.
3. C.The claim fails, because a business partner never constitutes an insurable interest; only close family members qualify.Incorrect. Key person and business relationships are recognised bases for insurable interest, alongside family and creditor relationships.
4. D.The insurer must pay only the premiums paid plus interest, since insurable interest lapsed before the date of death.Incorrect. That remedy would follow if the policy were void for want of insurable interest at inception, which was not the case here.

Why: Insurable interest is the requirement that the applicant for a life policy have a genuine, lawful expectation of benefit from the continued life of the insured, or of loss from that person death. It prevents life insurance from being used as a wager on a stranger life. The rule that matters most for examination purposes is one of TIMING: for life insurance, insurable interest must exist when the policy is ISSUED and need not continue afterwards. Here Bruun plainly had insurable interest at inception, since a key business partner economic value to the firm is a recognised basis for it, alongside close family relationships and creditor relationships. The subsequent dissolution of the partnership does not void the contract or defeat the claim, so the death benefit is payable notwithstanding that the business relationship ended years earlier. Property and casualty insurance follows the opposite rule, requiring insurable interest at the time of the LOSS, because indemnity there is measured by the actual loss suffered.

For a life insurance policy, insurable interest must exist:

1. A.NeverOverreads the fact that insurable interest need not survive to the date of death. The requirement is relaxed after issue, not absent at issue; without it at application the contract would be a wager on a stranger's life.
2. B.Every year of the policyApplies a continuing-interest standard that belongs to property insurance. Life insurance tests insurable interest once, at application, which is why a divorced spouse or a former employer may keep an existing policy in force afterward.
3. C.Only at the time of deathReverses the timing. Testing the relationship at the loss is the property-and-casualty rule; in life insurance the relationship on the date of death is not what governs, and requiring it would void policies whose insurable interest ended legitimately years earlier.
4. D.At the time of applicationCorrect - insurable interest is required at inception.

Why: Insurable interest must exist at the time of application (policy inception); it need not exist at the time of the insured's death.

An underwriter reviews an applicant's height, weight and blood pressure readings against the company's tables before assigning a rate class. What is she assessing?

1. A.A morale hazard.Morale hazard is indifference or carelessness produced by having insurance. Height, weight and blood pressure are measurements, not attitudes.
2. B.The financial justification for the amount of coverage applied for.Financial underwriting looks at income, net worth and the economic loss the death would cause. Physical measurements have nothing to do with it.
3. C.PHYSICAL factors bearing on expected mortality; build and blood pressure are objective measurements used to assign a rate class.Correct. Build, meaning height and weight together, and blood pressure are among the most reliable physical predictors of mortality and directly drive rate classification.
4. D.Whether the applicant has an insurable interest in his own life.A person is presumed to have an unlimited insurable interest in his own life. That question is never in issue on an application for coverage on oneself.

Why: Height and weight together make up what underwriters call BUILD, and build and blood pressure are objective physical measurements with a well-documented relationship to mortality. They are physical factors, evaluated alongside medical history, family history, tobacco use, occupation and avocation, to place the applicant into a preferred, standard or substandard class. They say nothing about the applicant's character or about the financial justification for the amount applied for.

A stranger-originated life insurance (STOLI) arrangement is:

1. A.A standard estate-planning toolConfuses the scheme with legitimate planning structures such as an irrevocable life insurance trust, which a family sets up around its own insurable interest. The defect in the arrangement described is that the initiating investor is a stranger to the insured.
2. B.Prohibited, because it lacks insurable interestCorrect - STOLI violates insurable-interest rules.
3. C.Tax-free incomeNames a tax attribute instead of characterizing what the arrangement is, and it assumes a legitimacy the arrangement does not have. A policy void for want of insurable interest at inception cannot be relied on to deliver any tax result.
4. D.Required for group plansGroup life rests on the employer's insurable interest in its own employees, which is exactly the element missing from the arrangement in the stem. Outside investors play no part in group coverage.

Why: STOLI is prohibited because the initial policyholder lacks insurable interest in the insured.