The grace period clause grants the policyowner an additional period of time to pay any premium after it has become due. While the clause is now required by law, it was a common practice among insurers before the existence of laws compelling the inclusion of the provision in the contract. Because of the provision, a policy that would have lapsed for nonpayment of premiums continues in force during the grace period. The premium remains due, however, and if the insured dies during the grace period, the insurer may deduct one month�s premium from the death benefit. A contractual provision granting the insurer that right might read, "If the insured dies during the grace period, we will reduce the proceeds by an amount equal to one month�s premium."

Note that although insurers could charge interest on the unpaid premium for the late period, they do not normally do so. If the insured survives the grace period but the premium remains unpaid, the policy lapses (except for any nonforfeiture options).

As with all renewal premiums, the policyowner has no obligation to pay the premium for the insurance coverage provided under the grace period provision. Thus it might be said that the insured has received "free" insurance during that time. This is an accurate conclusion only if the insured does not die within the grace period.

The standard length of the grace period is 31 days. If the last day of the grace period falls on a nonbusiness day, the period is normally extended to the next business day.

A sample grace period provision reads as follows:

It is important to make a distinction between the grace period rules and a late remittance offer; they are not the same. There is usually no provision in the contract concerning late remittance offers. Such offers are made solely at the insurer�s option. The late remittance offer is not a right of the policyowner or an obligation of the insurer that is included in the insurance contract under the requirements of the law.

Some insurers will make a late remittance offer to a policyowner whose coverage has lapsed after the grace period has expired. This is not an extension of the grace period and coverage is not continued as a result of the offer. Late remittance offers are intended to encourage the policyowner to reinstate the policy; they do not extend coverage. The inducement from the insurer is that coverage can be reinstated without having to provide evidence of insurability. The policyowner accepts the late remittance offer by paying the premiums that are due and meeting any other conditions imposed by the insurer. The most common condition is that the insured must have been alive when the late premium payment was made.

The law requires that the insurance contract permit policy loans if the policy generates a cash value. To understand this requirement it is necessary to make a distinction between loans, policy loans, and advancements.

From the definitions above it can be seen that the term policy loan is a misnomer. A policy loan is actually an advancement against the policy�s cash surrender value or death benefit. It is not technically a loan because the policyowner assumes no obligation to repay the money taken from the policy. Thus it is not technically correct to say that the policyowner borrows from the insurer and the loan is secured by the policy cash values. It is more accurate to say that the policyowner makes an advance withdrawal of cash values otherwise available when the policy is surrendered or when the insured dies. However, this distinction is really only of academic interest because the universal practice is to call it a loan.

One might ask, if it is not a loan, why is the insurer permitted to assess an interest rate against the amount borrowed? The policyowner is expected to pay interest on the "loan" because he or she has withdrawn assets from the insurer that were intended to support the level premium concept. If the policyowner withdraws those assets, it is fair to expect him or her to pay an interest rate that would approximate what the insurer would earn if the money was left with the insurer to invest.

Automatic premium loans are another type of policy loan. These loans are advances the insurer makes from policy cash values to pay any unpaid premiums.

The National Association of Insurance Commissioners Standard Policy Provisions Model Act and the laws based upon it require that the policy contain a provision that makes the life insurance policy incontestable by the insurer after it has been in force for a certain time period. This provision was originally introduced in New York in 1864 by the voluntary action of insurers. By 1906, the clause had become so firmly entrenched and was so obviously beneficial to the public that it was made mandatory by New York law. Other states followed New York�s example, and now the clause is required by statute in all states. The laws of the states differ as to the form of the clause prescribed, but no state permits a clause that would make the policy contestable for more than 2 years.

The following is a sample incontestable clause:

After a policy has been in effect for the period of time prescribed by the incontestable clause (normally 2 years), the insurance company cannot have the policy declared invalid. The courts have generally recognized three exceptions to this rule. If there was no insurable interest at the inception of the policy, if the policy had been purchased with the intent to murder the insured, or if there had been a fraudulent impersonation of the insured by another person (for example, for purposes of taking the medical exam), then the incontestable clause is deemed not to apply because the contract, which includes the incontestable clause, was void from its inception. (See chapter 34 for more details.)

The divisible surplus provision applies only to participating policies. It requires the insurer to determine and apportion any divisible surplus among the insurer�s participating policies at frequent intervals.

A typical divisible surplus provision from an insurance contract reads as follows:

In addition, some contracts provide that payment of a dividend is conditioned upon payment of all premiums then due. The provision in most contracts notes that a dividend is not likely to be paid before the second anniversary of the policy.

Ordinarily we expect that a contract of any type includes all the provisions that are binding on the parties. However, this is not always the case. Sometimes one contract will include the terms of another document without actually including that second document in the contract. This is done by referring to the other document and incorporating it into the contract by that reference. This is known as incorporation by reference. Entire contract statutes grew out of an attempt to prohibit insurers� use of incorporation by reference and to make life insurance contracts more understandable by consumers. One goal was to assure that the policyowner was given a copy of all documents that constitute the contract. Another was to preclude any changes in the contract after it had been issued.

The various state statutes impose different requirements. Some states require a provision disclosing that the contract and the application constitute the entire contract; other states simply provide that the contract and the application are the contract regardless of what the policy may say.

A sample provision is as follows:

Reinstatement provisions allow a policyowner to reacquire coverage under a policy that has lapsed. This right is valuable to both the policyowner and the insurer. The various state laws and the insurance contracts impose certain requirements that the policyowner must meet to reinstate the policy. New York law requires that life insurance policies contain a provision granting the policy- owner the right to reinstate the policy ". . . at any time within three years from the date of default, unless the cash surrender value has been exhausted or the period of extended term insurance has expired, if the policyholder makes application, provides evidence of insurability, including good health, satisfactory to the insurer, pays all overdue premiums with interest at a rate not exceeding six per centum per annum compounded annually, and pays or reinstates any other policy indebtedness with interest at a rate not exceeding the applicable policy loan rate or rates determined in accordance with the policy�s provisions. This provision shall be required only if the policy provides for termination or lapse in the event of a default in making a regularly scheduled premium payment."

A typical reinstatement provision might provide the following:

Normally, insurers do not permit reinstatement of a policy that has been surrendered for its cash value, and this prohibition is often included in the contractual definition of the requirements for reinstatement.

The age and sex of the insured are fundamentally important factors in the evaluation of the risk the life insurance company assumes. Inaccurate statements about the insured�s age or sex are material misrepresentations. Rather than voiding the contract based on such misrepresentations, the practice after discovering the inaccuracy is to adjust the policy�s premium or benefits to reflect the truth. Adjustments in the policy�s premiums or benefits based on misstatements of age or sex are not precluded by the incontestability clause. This is because incontestability clauses preclude contests of the validity of the policy. If a misstatement of age or sex clause appears in the contract, an adjustment based on that clause would be an attempt to enforce the terms of the contract, not invalidate it.

A sample provision might read as follows:

Note that if the insured is still alive when it is discovered that the insured�s age or sex has been misrepresented, it may be that the parties will elect to adjust the premium to the correct amount rather than to adjust the benefits.

The New York insurance code requires insurance contracts to contain a provision stipulating that if the age of the insured has been misstated, any amount payable or benefit accruing under the policy will be what the premium would have purchased at the correct age. A majority of states have a similar provision. A minority of states have a provision requiring a reference to misstatement of sex.

When insurers developed the concept of level premium insurance policies, the goal was to make life insurance more affordable to older policyowners. This was accomplished by charging a lifetime level premium. In the earlier years of the policy this level premium was higher than necessary to cover the mortality costs. The excess portion of the premium in the policy�s early years (and the interest it earned) built up a cash reserve that was used to pay the mortality costs at older ages, which then exceeded the level premium being charged. A question soon arose concerning who was entitled to those reserves when a policy lapsed in the early years. Initially, these reserves were forfeited by the policyowner and kept by the insurer. This was clearly inequitable, and the practice was soon modified. Today that question has been answered by the nonforfeiture laws.

The states require that insurers assure policyowners who voluntarily terminate their contracts a fair return of the value built up inside some policies. These laws are known as the nonforfeiture laws. As late as the middle of the nineteenth century, insurance policies in the United States made no provision for refunds of excess premiums paid on cash value policies upon the policyowner�s termination of the policy before maturity. However, in 1861 Massachusetts recognized that the policyowner had a right to at least a portion of those funds, and the first nonforfeiture law was enacted in that state. By 1948 that idea had evolved into the Standard Nonforfeiture Law, and subsequent versions of the law have become effective in all jurisdictions. Policies issued since that date have provided at least the minimum surrender values prescribed by the version of the law in effect when the policy was put in force. Modifications of the Standard Nonforfeiture Law do not apply retroactively to insurance policies that are already in force when the new law is adopted.

The Standard Nonforfeiture Law does not require specific surrender values. The only requirement is that surrender values are at least as large as those that would be produced by the method the law prescribes. In addition, each policy must contain a statement of the method used to find the surrender values and benefits provided under the policy at durations not specifically shown. This permits life insurance companies to use alternate formulas by describing them in their policies.

These laws require that after a cash value policy has been in effect for a minimum number of years�usually 3�the insurer must use part of the reserved excess premium to create a guaranteed minimum cash value. In addition, the insurer must make that value available to the policyowner in cash as a surrender value and must give the policyowner a choice of two nonforfeiture options:

(1) extended term insurance for the net face amount of the policy or (2) paid-up insurance at a reduced death benefit amount. If the policyowner has not elected between them, the policy must provide that one of these two options will be effective automatically if the policy lapses.

The standard policy provisions of the various states require that a life insurance policy must include certain settlement options tables if the settlement options include installment payments or annuities. These tables must show the amounts of the applicable installment or annuity payments.