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Watch out insurers: life insurance policies can remain on foot even if the premium is unpaid.

How is this even possible?

Most people assume that if they don’t pay the premium, their insurance policy will lapse. In a curious twist caused by a change to the Insurance Contracts Act 1984 (Cth), this is not the case for life insurance.

Before then, life insurance contracts with unpaid premiums could be cancelled under the common law. But amendments to the Insurance Contracts Act (s63(2)) meant that life policies could only be cancelled for fraud.

Cancellation due to non-payment was supposed to be possible under the Life Insurance Act 1995 (s210), but the wording of that Act has made that near impossible, i.e. a policy can only be “forfeited” if its surrender value exceeds a certain amount - and life risk has no surrender value.

The end result? If the Insurance Contracts Act only permits cancellation of life insurance for fraudulent claims, the cancellation provisions of the Life Insurance Act don’t apply to life policies without surrender values and a life insurance policy can only be cancelled in accordance with one of those two Acts; then there is no right to cancel a life insurance policy on the basis of non-payment of a premium. Go figure!

Other than a speech by former High Court judge Michael Kirby in 2014 where he noted that there no longer appears to be a right to cancel life risk insurance, the Courts haven’t looked at these changes.

What’s the solution?

To ensure they can cancel a life insurance policy, insurers would need to ensure the cover automatically ends if the insured doesn’t pay their premium. Because this is technically not a cancellation, it doesn’t fall under the Insurance Contract Act.

Automatic cessation clauses need to be very carefully drafted though, and the whole policy must be reviewed thoroughly, to ensure the clause has the effect that the cover is “void” rather than “voidable”. This is critical, because “voidable” would mean the insurer has the option to cancel the policy, and exercising such an option amounts to a cancellation which brings the insurer back within the ambit of the Insurance Contracts Act. Go figure!

Here are some handy tips to help you work out whether an automatic cessation clause makes a policy void - as opposed to voidable. Does it:

  • State that the payment of the premium is a condition precedent of the policy in both the insuring clause and the automatic cessation clause? This would reinforce the interpretation that payment of premiums by the due date is intended to be a condition precedent to the availability of cover after that date;
  • State that the cover is deemed to cease at midnight of the due date? This would;
    • Allow no time for any election to be made, and therefore strongly favour the view that automatic cessation was intended as opposed to an option to cancel the policy, and
    • Indicate that the cessation of cover is not the result of the election of any party, but something which is deemed to occur,
  • Speak of cessation of cover, rather than the termination of the policy? This would mean that the policy as a whole would not be brought to an end, but that cover would cease when the premium is not paid (at least until it is belatedly paid). Rather than providing for automatic avoidance of the policy on non-payment (which may still be a “cancellation”), this provision makes punctual payment of the premium a condition precedent to cover.

Automatic cessation of cover for non-payment is very complex. It’s wise to seek legal advice when drafting automatic cessation clauses or seeking payment of a claim when the policy contains such a clause.

If you have any concerns about any of these issues, please contact us.

Authors: Jaime Lumsden and Peter Vrljic

July 2017

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