This article was written by Will Kaplan, principal at Halcyon Financial Planning. Will and I became friends through the XY Planning Network (a group of
like-minded, fee-only planners who work with Generation X and Y clients) and I asked him to write some thoughts on life insurance as a guest topic for this site.
Buying life insurance on someone else may sound like the beginnings of a murder mystery plot, but it’s actually done quite often. Here are the rules.
You may certainly purchase life insurance on someone else. That’s the short answer. Of course, with anything involving money, there are rules. But first, why would anyone want to take out a life insurance policy and pay the premiums for someone else?
A Rare, Yet Dramatic Example
If the only reason you can think of to purchase a policy on another person is to hope for (or cause) their death and collect, then maybe you’ve been reading too many murder mystery novels.
Of course history is full of dramatic examples of people doing just that. There was a famous California case back in 2008, where two women were accused in a murder-for-life-insurance scheme worth $3 million. The two women were accused of befriending two homeless men, purchasing life insurance policies on them, then murdering the men to collect.
Known as the Black Widow Murders, the killings are a grim, yet rare example of how life insurance policies can be abused illegally.
Why do People Really Take Out Life Insurance on Someone Else?
Aside from tremendous and murderous greed like that, what other reasons do people have for insuring someone else’s life?
For starters, sometimes another person’s loss of life will affect you financially. It could be your caretaker or a relative. It could even be a business partner.
In fact, if you find yourself in financial extremis as the result of another person’s death, that may be reason enough to purchase life insurance on that person.
Businesses do it all the time, when the death of a key employee would leave the business in financial hardship. Fro that reason, it’s called “key person insurance”. Very typically you’ll see business partners holding policies on one another. It’s just business!
Also, elderly people may sometimes purchase policies on family members who take care of them. On the flip side, sometimes adult children will take over payments for their elderly parents to lessen their financial burden.
What are the Rules?
Whatever the reason for purchasing life insurance on someone else, there are a few rules that must be followed.
- You must be able to prove financial hardship for yourself, should the insured person die. This is called “insurable interest”.
- The insured person must know about and agree to being insured by you! That requires his or her signature on the policy.
- The insured person must be reasonably healthy, so as to pass medical requirements. Either a medical exam or a release of his or her medical records to the underwriters will be required.
- The amount you’re insuring for must be reasonable within the context of your life and the life of the insured.
The insurance industry is regulated by State laws, so your state might have different rules for insuring the life of someone else. In general, however, you’ll find those four basic protections in place, no matter what state you call home.
About the Author: Will Kaplan, CFP® is the principal at Halcyon Financial Planning, a fee-only wealth management firm located in Portland, Oregon. Halcyon specializes in a goals-based approach that combines your aspirations and resources with a forward focused, proactive style of planning.