Life Insurance Contestability Period
B.A. Risk Management
Life Insurance Agent
Aren’t life insurance companies supposed to pay the beneficiaries right after the policyholder’s death? Actually, they aren’t, due to a provision called the contestability period.
Picture the following scenario.
A person you know – let us call him Adam – buys a term life insurance policy to provide for his family’s financial needs in his absence. Unfortunately, he passes away a few months after the policy is issued.
Adam’s wife files a claim with the insurer, only to find out that the company is investigating her husband’s death to determine the validity of her claim.
What is a Contestability Period?
The contestability period is a time period during which the insurer has the right to investigate the death of a policyholder and review the claim filed by the beneficiaries in order to rule out the possibility of misrepresentation or fraud.
It can be anywhere from one to two years, depending on the insurance provider you choose and the state you live in. A two-year contestability period is common.
Why Do Insurers Have a Contestability Period?
Insurers have a contestability clause in place to prevent people from buying life insurance coverage under false pretenses – either by misrepresenting themselves or through outright fraudulent means.
For example, if you are an avid skier, you are likely to be charged a slightly higher rate by the insurance provider, as skiing is generally considered a high-risk activity.
If you fail to disclose the information to the insurance company just so you can qualify for the lowest risk class, it is a clear case of misrepresentation.
A more serious case of misrepresentation or fraud is when you lie about your medical history to buy life insurance coverage. For example, if you are diagnosed with cancer and if you decide to hide it from the insurance company, you are committing fraud.
Many policies also have a suicide clause, which protects the insurers from individuals who will buy life insurance with the intention of committing suicide shortly thereafter.
What Happens If You Die During the Contestability Period?
A policyholder’s death during the contestability period does not automatically raise a red flag for the insurance company. If, for instance, you were to die in a car accident, the life insurance claim filed by your beneficiaries is likely to be settled without any issues.
If, on the other hand, your cause of death is a result of factors which you failed to mention on your life insurance application, the company is likely to investigate your death.
Let us say you are someone who enjoys scuba diving, bungee jumping, rock climbing, and other types of high-risk activities and you failed to disclose the information – either deliberately or unintentionally – to the life insurer during the application process.
Now, if you were to die as a result of a scuba diving accident, the life insurance company is likely to investigate your death.
Similarly, if you fail to mention that you are hypertensive and have a family history of heart disease and die of a heart attack later, the insurer is likely to conduct a post-claim investigation.
The Consequences of Material Misrepresentation and Fraud
If the insurance company finds out that you lied on your application, here is what can happen. If you failed to mention a minor detail, the company is not likely to view it as a serious transgression.
For example, if you failed to mention your recreational drug use on the application, the company is not likely to deny your beneficiary’s claim. Instead, it will deduct a certain amount of money from the death benefit and pay the rest to your beneficiary.
If you had mentioned your drug use on the application, you might have been assigned a higher risk class and charged a higher rate by the company.
So, the company will subtract the difference (the premium you should have been charged minus the premium you were charged) from your policy’s death benefit.
On the other hand, if you failed to disclose a serious health problem, and if your death was caused as a result of it, the company is likely to view it as a major transgression and reject the claim filed by your beneficiary.
In which case, your beneficiary is likely to receive a sum of money which is equivalent to the total amount of premiums you paid until your death.
The difference in this case is that if you had disclosed your illness on your application, the company might have denied you coverage. So, the company might feel justified in rejecting your beneficiary’s claim.
The Benefits of the Contestability Provision
Contrary to what some people think, the contestability provision does not benefit the insurer alone. As a policyholder, you too stand to benefit from the provision.
In the absence of such a provision, insurance companies stand to lose a serious deal of money by providing life insurance coverage to high-risk individuals at nominal rates. As a result, the cost of life insurance is likely to increase significantly, affecting millions of policyholders.
With the contestability provision in place, people are unlikely to lie brazenly on their application, as they know that their beneficiaries could be left without any money after their death.
It prevents unscrupulous individuals from taking advantage of the loopholes that exist in the system and benefiting from it.
Key Things to Remember about Life Insurance Contestability Period
- Except in cases where the policyholders make outright false claims to buy life insurance coverage, insurance providers are unlikely to deny a claim. They will, however, reduce the death benefit depending on the nature of the misrepresentation.
- The insurance company’s right to deny a claim does not end with the contestability period.
- If the company finds out that a policyholder has made fraudulent claims on his or her application, it can reduce the death benefit amount, deny the claim, or revoke the policy even if the policyholder died after the contestability period.
- If the insurance company does not find any evidence of misrepresentation or fraud after a post-claim investigation, the death benefit amount will be paid out in its entirety to the beneficiary.
- If there was a delay in conducting the investigation or if the investigation process itself took far too long, the beneficiary will be paid the full death benefit amount along with interest.
- If your life insurance policy lapses due to non-payment of premium and if you get it reinstated, the contestability period starts again from the date your policy gets reinstated.
Accurate Information, Faster Claim Settlements
When it comes to life insurance, honesty is without a doubt the best policy. If you accidentally leave out a few details while applying for a policy or if you deliberately lie on your application, your beneficiaries are likely to pay the price after your death.
So, it is in your best interest to make sure that the information you provide is true and accurate to the best of your knowledge.