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To buy a life insurance policy on someone else, you must have an insurable interest in that person, along with their consent.
In simple terms, an insurable interest exists if you have financial stake in someone or something and you will suffer financially should that person pass away. Continue reading to find out why an insurable interest is important when buying insurance, how it works, and more.
Key Takeaways:
- An insurable interest must exist between the policy owner and the thing being insured.
- In the context of life insurance, insurable interest usually automatically extends to your dependents and those with a direct relationship
- Insurable interest helps minimize insurance fraud and uphold the principle of indemnity
What is an insurable interest?
An insurable interest in an individual or object (e.g. a house) means that you will suffer a financial loss should that thing be harmed. For an insurance policy to be valid and legal, an insurable interest must exist between the policy owner (who pays the premiums) and what is being insured.
In the context of buying life insurance in Canada, you can purchase insurance for someone else only if you are financially dependent on that individual or will suffer a financial loss if the person insured dies. Note that even with an insurable interest, you will need consent from the person being insured.
So, why is an insurable interest important?
The reason is simple: it prevents an individual from profiting by insuring a property or person in whom they do not have any financial stake.
Life insurance is a smart way to protect your family's finances. Without insurable interest, anyone could buy insurance on others. For example, a doctor could insure a sick patient and care less about treating them well, aiming for a big payout from insurance proceeds when they die.
With regards to life insurance, your immediate family members are likely to suffer financially in the event of your death. Generally speaking, your immediate family and employer are considered to have insurable interest in your life.
If you are buying life insurance for a person other than your immediate family, you will have to submit proof of financial dependence. For example, the insurer will ask you to prove an insurable interest if you are taking out a policy on the life of an aunt, uncle, cousin, stepchild, stepparent, niece or nephew.
For other types of insurance, like homeowner’s insurance, you are considered to have an insurable interest in an object you own. For example, you have an insurable interest in your house, but not in your neighbour’s property.
How does insurable interest work?
Insurable interest determines if you can get life insurance on someone or something. You can buy insurance if you have a financial stake in them; if not, you can't.
For example, Rachel can insure her husband's life because his death could financially affect her. But she can't insure a neighbor because their death wouldn't harm her financially.
This concept also upholds the indemnity principle. This rule says insurance proceeds shouldn't be more than your actual loss.
In Rachel's case, she can only buy enough coverage to match her financial needs. If her family earns $50,000 yearly, she can't get a $5 million policy, even if she can pay for it. That's because insurance is meant to cover your losses, not make you rich if something bad happens.
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There are two types of insurable interests: contractual and statutory interest.
Contractual interest is an insurable interest that exists because of your relationship with the insured person or object. In contrast, statutory interest is an insurable interest that may not exist at present but may arise in the future if a certain event occurs. A common example of statutory interest with an insurance company is liability insurance, which protects from unintended and unexpected damages.
Examples of an Insurable Interest
Here are two examples in which insurable interest is very clear.
- You own a home with your spouse and have minor children. If either of you were to pass, the surviving spouse could encounter financial hardship maintaining the family’s living standards. Since you two have a financial stake in each other, you can buy a life insurance policy for the other person.
- You run a small business with a partner. Each owner can buy a life insurance policy for the other to ensure that business continues to run smoothly in the absence of the other partner.
Conclusion
All insurance policies require an insurable interest between the policyholder and the object or person being insured. With life insurance, that means you are financially dependent or would suffer a monetary loss should the insured die. You can buy life insurance for someone only if insurable interest exists between you two.
If you want to buy a life insurance policy for another person but are not sure how to prove insurable interest or need help with any other aspect of the life insurance application process, let Dundas Life help you. We will also help you find the right coverage at an affordable price.
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