Lapsation in Life Insurance
Lapsation, or “lapsing” in life insurance occurs when a life insurance policy is no longer active, meaning the insurance company is no longer legally obligated to pay the beneficiaries of a policy the death benefit upon the passing of the insured.
In the U.S. all life insurance policies are legally required to honor a grace period, typically 30 days from the payment due date, during which time your life insurance company must pay the the death benefit, despite lack of premium payments. During a grace period the policyholder may also make a late payment to resume insurance coverage. It’s worth noting that grace period payments are almost always higher than standard premium payments, and the rules and amounts differ for whole, universal and variable life policy. After the grace period, a policy is officially considered lapsed.
Reinstating a Lapsed Policy
If a policy’s premiums aren’t resumed during the grace period, the insurance is considered lapsed – but the insured may still have the option to reinstate their policy for up to 6 months after the first missed payment. Unlike a grace period, a reinstatement period is not legally required, though it is commonly offered by most insurance companies. The rules will be different with every company, but time is of the essence and you always want to reinstate a policy as soon as as possible.
Reinstating one’s lapsed policy can typically be done without underwriting within the first 30 days after lapse (this is 2 months since your last premium payment). However, after that 30 day period, reinstating a policy requires limited underwriting that involves answering questions to confirm there are no significant changes in the health of the insured relative to when the policy was initially taken out. This underwriting is legally binding, and lying on it will lead to a void contract should it be discovered. Fortunately, the underwriting is much easier than the initial insurance application and should not be too time consuming.
If the policyholder’s health has significantly changed, they may be rejected and need a new policy. The circumstances that would lead to this are rare, and would be something severe like a heart attack or a terminal illness like cancer.
It should be noted that reinstating a lapsed life insurance policy will always present an additional cost to the insured. When done in the first 30 days of lapse, the fee is usually at least one month’s premium. The upside here is that this not a fee assessed by the insurance company, and the additional money goes into the cash value of the policy. After the 30 day lapse, reinstatement will carry both a fee and typically increased premiums as well.
The key takeaway is it’s almost always cheaper to reinstate an existing policy than to get a new one, and it’s always cheaper to keep a policy active the sooner you make payments.
How to Avoid Lapsed Payments
It’s pretty standard for a life insurance company to offer automatic checking account withdrawals for monthly premiums, which make it much easier to stay on top of payments. Many lapsed policies occur when the policyholder is experiencing serious health conditions, and is both financially compromised and potentially unaware of their situation.
As such, it is important for policy holders to communicate with their beneficiaries or other responsible individuals, who may be able to step into resume premium payments should the insured be unable to.
If you are in a tight situation financially and are considering letting your insurance coverage lapse to avoid paying premiums, it is very important to note you can sell a life insurance policy for cash rather than let it lapse. If you don’t plan on resuming your life insurance payments, it’s better to cash out than to let all those months of premium go to waste. However, it’s important to note you will not be able to take out another policy on yourself once you sell your existing life insurance policy.
If this is the case and you want to learn how best to maximize the value of your life insurance policy, we encourage you to check out our Life Settlement Guide, Viatical Settlements, and The Best Life Settlement Companies.