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How bankruptcy affects life insurance premiums

By Jim Sloan on July 30th, 2010
Life Insurance

With more Americans being forced to file for bankruptcy--the American Bankruptcy Institute estimates 1.5 million Americans will declare bankruptcy in 2010--consumers may wonder exactly how bankruptcy may affect life insurance premiums.

While bankruptcy is a factor that can increase your life insurance quotes, the Society of Actuaries says life insurance rates are determined more by your health and habits than by whether there is a bankruptcy in your past.

Bankruptcy may indicate an early life insurance lapse

Rick Bergstrom, an actuary and member of the Society of Actuaries, says insurance companies spend a lot of money--on commissions and administrative costs, for instance--getting a policy issued. Consequently, the life insurance company loses a lot of money if someone stops paying premiums in the early stages of a policy.

"I don't think bankruptcy impacts rates, but it can impact how much insurance will be approved, and also which kind of policy type would be approved, e.g. whole life or term," Bergstrom said.

It's also likely that a life insurance underwriter may reject an application from someone who has had a recent bankruptcy and wants to purchase an amount of life insurance that is not in line with what the family would need to replace that person's income.

"An alternative could be to offer a smaller sized policy," says Bergstrom.

Effect on key-man policies

Bankruptcy could also play a role in a key man policy, Bergstrom said. A key man policy is a type of life insurance used when a company's financial stability hinges on the skills and knowledge of one employee or a few employees. If the company were to lose that employee, its profits or business could drop precipitously. In order to avoid such a scenario, companies sometimes take out a term life insurance policy on the key employee.

According to Bergstrom, bankruptcy for a key man life insurance policy "could be important in whether the insurance company wants to take the risk of a possible suicide" by the key man if that individual or his company has had any financial trouble or if the insured has been diagnosed with depression.

"Bankruptcy, particularly of a company, would be a marker to do more investigation, for example, to see if [the key-man] is on depression [medication] and/or has a history of depression," Bergstrom explained. "The other option is to postpone the case for some period of time, like a couple of years, and then revisit to review his financial picture. It also depends on how far back in time the bankruptcy was, and what is the applicant's current financial picture."

Not all life insurance companies treat bankruptcies the same way when reviewing applications, so it is worthwhile to compare life insurance quotes.

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