|Q: What does insurable interest mean on a life insurance policy?
If you want to buy a life insurance policy on someone else's life, you must have an interest in that person remaining alive, or expect emotional or financial loss from that person's death. This is called an insurable interest. Without this requirement, it would be very easy to make a living by purchasing life insurance policies on elderly strangers, and then collecting the proceeds when they died. The insurable interest requirement also prevents people from buying a life insurance policy on someone and then causing or hastening that person's death.
When you buy insurance on your own life, you are assumed to have an insurable interest. If you are buying a policy on someone else's life, an insurable interest can typically be established if you have a sufficiently strong relationship with that person based on blood, marriage, or monetary interest. To put it simply, they have to be worth more to you alive than dead!
Husband-wife relationships and parent-child relationships are almost always sufficient to create an insurable interest. In addition, grandparent-grandchild relationships and sibling relationships are frequently considered sufficient for establishing an insurable interest. The ties between cousins, aunts/uncles and nieces/nephews, and other more distant relatives don't automatically give rise to insurable interests because their emotional and financial bonds may be less strong.
Certain relationships founded on monetary interests can also create insurable interests. For example, a creditor is considered to have an insurable interest in a debtor's life. Even though death doesn't extinguish the debtor's obligation to repay a loan, the creditor faces potential harm if the debtor's estate cannot repay the loan. Other examples include the relationship between a business and a key employee, or the relationships among partners in a partnership or stockholders in a closely held corporation. The death of a CEO, general partner, or active stockholder can cause financial disruption to the business and harm the other business owners.
The insurable interest must exist at the time you enter into the life insurance contract, not at the time of the loss or harm. In other words, you must have an insurable interest at the time you take out the policy. However, the insurable interest generally doesn't have to remain at the time of that person's death.