Question

Fact Pattern #1:

Pat contracts with an Ajax Insurance Company agent for a $50,000 ordinary life insurance policy. The application form is filled in to show Pat's age as 32. In addition, the application form asks whether Pat has ever had any heart ailments or problems. Pat answers no, forgetting that as a young child he was diagnosed as having a slight heart murmur. A policy is issued. Three years later, Pat becomes seriously ill and dies. A review of the policy discloses that Pat was actually 33 at the time of the application and the issuance of the policy and that he incorrectly answered the question about the history of heart ailments.

Fact Pattern #2:

Best Insurance Company provides Eve Erickson with property insurance that contains an 80% coinsurance clause. The coinsurance clause states that if Eve insures the property up to 80% of its value, she will recover any loss up to the face amount of the policy. Eve purchases an $80,000 property insurance policy for property valued at $200,000. Due to a fire, Eve suffers a loss of $10,000.

1. What are the advantages and disadvantages of an incontestability clause? Explain.

Answer 1

Ans: On the surface, the incontestability clause appears to accept and validate undetected fraudulent applications for life insurance, since the effect of these laws is to prevent contests of life insurance policies (after a one- or two-year period) based on alleged fraud at the inception of the policy. Given more penetrating analysis, however, the laws add a great deal of stability to the life insurance contract. When an insured dies, possibly at a point long after the inception of the policy, the policy matures as a death claim. If the insurer were allowed to contest policy at this point, the best witness (or witnesses) will be unavailable for testimony; memories and facts tend to disappear or become cloudy over time. And, families relying on the speedy settlement of claims in order to continue meeting expenses would be greatly disadvantaged if the insurer contested the policy at this point. Hence, the insurer has a relatively brief period to investigate the application and applicant, and if it fails to find any negative factor during this time period it will be bound to the contract, even if fraud can subsequently be proved beyond a doubt. The reasoning is that far more people will be protected by this law than there will be insurers defrauded. One will also note that this is a statute of limitation from the beginning of the contract, not from the discovery of the injury.