There are usually three parties to a life insurance policy, the insurer, the insured and the life agent. The obligations of the insurer and the agent are set out in legislation. What are the duties of the applicant? And how does this affect the life agent? These questions will be the focus of this column and another to follow in The Insurance and Investment Journal.
Provincial insurance legislation governs the duty of applicants for life insurance. Much like the Golden Rule (Do unto others…), applicants must disclose everything that matters to the insurer. The problem is, what matters? And how do applicants know what matters?
The legislative answer to the question, what matters, is that “material facts” matter. Where there has been a material fact that is not disclosed to the insurer, provincial legislation allows the insurer to void the policy. Typically, this involves the return of premiums to the insured because the insurer will take the position that the policy would never have been written had the truth been disclosed. It therefore becomes a “duty” for the insurance applicant to make full disclosure. Breach of the duty will then lead to reversal of the transactions that followed.
This is what is meant by the legal term “voidable”. The policy is in effect. One party has breached an obligation at the outset. The other party has the option to enforce or to avoid the policy. The option is what makes the obligation “voidable”.
This may sound simple. It is anything but. Let’s start with this simple question: what is meant by the word “material”? From the point of view of the insurer, it is material if the insurer would not have underwritten the policy had the fact been known at the time of the contract. From the point of view of the applicant, it is only material if the insured event is connected to the fact that was not disclosed. For example, a history of severe headache may be a condition that would prevent an insurer from underwriting the policy. If the applicant dies from a heart condition unrelated to the headache, the connection between the nondisclosure and the event is tenuous at best.
Where claims are denied on the basis of nondisclosure, the client often points to the agent as being responsible. How could this be? It is the client signature on the policy application. The nondisclosure, often in the form of a checkmark denying a history of a specific condition, is made or confirmed by the client. How could the agent be responsible?
Insurance legislation specifies two separate times when it becomes important to assess materiality of a fact.
The contract is valid unless there is a material misrepresentation. This refers to the time of the contract is signed and delivered. Materiality at this stage is a question of fact. It is used to distinguish mere inaccuracies that are trivial in nature.
Applicants have a positive duty to disclose “every fact within the person’s knowledge that is material to disclose”. This applies at the time of the application, at the time of medical examinations, in the course of written statements made by the applicant, and with respect to answers to questions given by the applicant to questions raised by the insurer.
Within two years of the contract being delivered, the insurer has the right to void the policy if it learns there was a failure to make disclosure of material facts. This deniability provision in the legislation allows the insurer to terminate the policy even if the material misrepresentation does not amount to “fraud”. Thereafter, the material nondisclosure must be fraudulent for the insurer to avoid liability. “Fraud” suggests an intention to deceive, but case law has made the area quite murky and beyond the confines of this brief article.
Life agents should explain to their clients the duty of good faith and that it works in both directions. Clients have to make proper disclosure so that insurers can make the proper underwriting decision. This involves both accepting and pricing the risk underwritten. If a client deceives the insurer on something that matters, this can undo all the planning that went into arranging the policy in the first place.
In our next article to be published in early 2015, we will discuss the role of the life agent. When it comes to disclosure, life agents can demonstrate their professionalism and can give clients the peace of mind that their financial planning will accomplish the result intended.
The authors of this article are members of the Ontario Bar only. This article should not be construed as legal advice.