Why So Many Term Life Insurance Policies Lapse
There’s a wide-spread rumor in the life insurance industry that between 97% and 99% of all term life policies lapse before paying a claim. There’s no data that confirms this but the industry doesn’t do anything to dispute its accuracy either.
Whether it’s 99% or 97% or even 75%, those are big numbers. It’s one thing if those lapses are intentional, but it’s something else entirely if those lapses are unintentional.
There are a lot of reasons why someone intentionally cancels their term life insurance policy but here we explore why term policies lapse unintentionally. In other words, why an insurer cancels coverage that the policy owner wants and is willing to pay for. Then look at what can be done to prevent unintentional lapses.
Policy Date
Every life insurance policy has a Policy Date. This is a very important item to become familiar with. The Policy Date tells you the exact day of each month the insurer will apply your premium to secure the coverage. (It also sets the day of the month from which your premiums are measured by.)
For example, if your Policy Date is March 3rd, 2019, then your premiums will be applied to your policy on the 3rd day of the month. It doesn’t matter if you are paying monthly, quarterly or annually, the premiums are always applied on the 3rd day of the month that matches your premium frequency.
Therefore, someone paying monthly, with a Policy Date of March 3rd, 2019, will have a premium due on the 3rd day of every month. Likewise, if they’re paying quarterly, their premium is due on the 3rd day of every March, June, September, and December.
Due In Advance
An often-misunderstood condition of every life insurance policy is that you are expected to pay in advance for the coverage. Stated in the front of every policy is Premiums Are Due in Advance.
This means your payment must be with the insurance company on the day of the Policy Date.
Using the March 3rd Policy Date example above; your premium payment must be in the account of the insurer on the 3rd day of each month (if paying monthly).
If your premium has not been received by the insurer by this day of the month, then your premium is late.
Grace Period
A Grace Period is the window of time a policy owner has to pay their premium before their policy lapses. For term life insurance the Grace Period is 31 days after the Policy Date.
Using the same example above, if the insurer doesn’t have the premium on the 3rd day of the month it’s due, then the policy owner has 31 days to get the money to the insurer (not the agent) or the policy will be lapsed. Once the policy is lapsed, there is no coverage and no claim will be paid if the insured dies.
When a policy is in the Grace Period the insurer will mail one request for the premium owed. Depending on when the policy owner receives the request can determine if their policy lapses unintentionally or stays in effect. The biggest influence for when the policy owner receives the payment request is what schedule of payment they’re on — monthly, quarterly, semi-annual or annual.
There’s one that leads to the most policy lapses.
Monthly Auto Draft
Automatic monthly drafts from bank accounts to pay premiums are very popular and the most-often associated with unintended policy lapses.
Out of convenience to their client, agents unknowingly offer the policy holder their choice of the day of month they want the money drafted from their bank account. The result is that monthly auto drafts are almost always deducted after the Policy Date. This means that most auto draft policies go into the Grace Period every single month.
By contrast, policies on quarterly, semi-annual and annual payment schedules are billed in advance by the insurer.
Following the Process
If a policy has a March 3, 2019 Policy Date and is being paid by auto draft on the 15th of every month, then this policy is 12 days into the Grace Period before the premium is applied to the policy — every month!
Now let’s assume (for any reason) that there are insufficient funds in the account from which the auto draft is coming. The insurer will draft on the 15th, not receive funds, and then draft again 3 days later. If there are still insufficient funds the insurer will mail the Grace Period letter notifying the policy holder.
Counting the days: the premium is due on the 3rd. The second auto draft is attempted on the 18th. The Grace Notice will be mailed on the 18th but will take 3 to 5 days to arrive via standard mail. Now it’s the 21st. The policy owner has 11 days left to get the money to the insurer and have it applied to the policy before the policy lapses. There’s another 3 to 5 days for mail to the insurer.
At best, there are only 8 days to pay the premium and secure the policy. If weekends or holidays are involved, the window of time gets even shorter.
After Missing an Auto Draft
When there are insufficient funds to pay an auto draft the insurer will automatically change the billing frequency of the policy to quarterly. This creates a lot of confusion and further causes unintended policy lapses.
Many policy holders think that after they miss an auto draft payment, but make-up for it, that the insurer will continue to auto draft as they had done before. They won’t. The auto draft will cease and the policy holder will be mailed a quarterly premium bill. The quarterly premium will be due almost immediately because “Premiums Are Due in Advance” of the Policy Date.
In our example, the policy holder, because they were late on one auto draft, will have to pay 4 months of premium within 8 days in order to keep their term life policy.
How To Protect Term Life Insurance from Unintended Lapses
Even though life insurance agents try to be as accommodating to their clients as possible by offering premium flexibility, they could unknowingly be putting term life policies at a high risk of lapse. The processing of auto draft premiums is fundamentally flawed by the insurers’ practices of drafting payments after they are past due.
When an agent asks, “On what day would you like your automatic draft to happen?” The answer has to be, “A day before the Policy Date”. If the insurer won’t accommodate this, then pay quarterly, semi-annually or annually.
If your insurer hasn’t received your premium by the Policy Date, it’s already late.
Copywrite February 6, 2019. Use of this Article for marketing or other purposes: Feel free to reproduce this article in-house, on your website. But you must credit The Center for Life Insurance Disputes as the publisher with a link to us on your website.