chapter 9

RETURN OF UNEARNED PREMIUMS

It can happen that an insurer may be in possession of premium payments that it is not entitled to keep. The general rules are quite clear:

If an insurer has assumed the risk under the contract, the entire annual premium is earned and may be retained.

If the insurer has not assumed the risk, it is not entitled to retain any portion of the premium.

There are no exceptions to the first rule; there are numerous exceptions to the second rule.

The first exception to the general rule is for marketing purposes. Although the insurer is entitled to a full annual premium in advance for assuming the risk, most policyowners do not pay an annual premium. It is far more common for policyowners to pay premiums on a quarterly or monthly basis. When a policyowner is making monthly premium payments and the insured dies early in a policy year, it is sometimes hard for the beneficiary to understand why the insurer is entitled to reduce the death benefit by the remaining amount of that year�s unpaid premiums. Consequently, many insurance companies no longer exercise that right. (This concession is related to the circumstance in which a policy is purchased and two or more annual premiums are paid in advance.)

It is sometimes the case when a life insurance policy is purchased on an infant that as many as 20 annual premiums are paid in advance. Premiums paid in advance of the year in which they are due are unearned by the insurance company. Thus if the insured dies before those premiums have been earned, the insurer must return the premiums. Similarly, when premiums are paid after the insured has died, those premiums are unearned and must be returned.

The remaining exceptions are as follows:

Most life insurance contracts include a free look provision, which gives the policyowner a certain number of days (usually 10, but sometimes 20) to examine the contract. If the policy is returned within that time period, the insurer will refund all premiums paid.

If the insured commits suicide during the exclusion period, the premiums paid by the policyowner will be returned. The insurer will have the right to reduce the refund by the amount of any policy loans plus interest outstanding at the insured�s death.

If the contract is rescinded based on a misrepresentation by the policy- owner/insured, the premiums paid to that time will be refunded. As with the suicide refund, the insurer has the right to reduce the refund by the amount of any outstanding policy loans plus interest.

If the policy was purchased by a minor, the applicable state law may give him or her the right to disaffirm the contract and have the premiums refunded. In some jurisdictions, the insurance company has the right to retain the cost of the coverage provided to the minor prior to the date the contract is disaffirmed.

Note that a revocable beneficiary who pays premiums (based on a promise from the policyowner that he or she will receive the proceeds) may be entitled to a portion of the death benefit equal to the premiums paid, even if the policy- owner names someone else as beneficiary. This is not a refund of premiums in the same sense as the other exceptions discussed in this chapter. It is more accurately described as a redirection of the death benefit.

A collateral assignee is also entitled, under most collateral assignment agreements, to a portion of the death benefit equal to any premiums paid. This should not be confused with a refund of premiums either. It is also better described as a redirection of the death benefit.

NOTES

The effect of premium receipts and the temporary coverage provided under these special agreements is fully discussed in McGill's Life Insurance (Bryn Mawr: The American College, 1994), pp. 763-768.

See McGill's Life Insurance, p. 771, for an explanation of the difference between the two types of conditions.

See McGill's Life Insurance, pp. 771-773, for a discussion of the methods of premium payment as part of the consideration the applicant pays in the formation of the life insurance contract.

Buist M. Anderson, Anderson on Life Insurance (Boston: Little Brown and Company, 1991), pp. 296-297.

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