Can you buy a life insurance policy covering anyone? Not really. The answer depends on your relationship to them — familial, working, or otherwise.
Simply put, you can only buy life insurance on someone if their passing would cause you financial hardship or loss. This is called having an “insurable interest” in that person. While that would seem to limit life insurance to direct relations — family members, for example — there can be circumstances where the application can be a little more broad.
“There can be some pretty obscure situations, but many times it’s pretty direct — someone depends on another adult and needs protection against their sudden absence,” said J. Todd Gentry, a financial professional with Synergy Wealth Solutions in Chesterfield, Missouri.
Three life insurance policy players
It helps to keep in mind that every life insurance policy involves three entities, and it’s the interplay between those entities where insurable interest comes into play. Those roles are:
- Owner. This is the person initially buying and paying for the policy.
- Insured. This is the person covered by the policy.
- Beneficiary. This is the person (or persons) who will receive the death benefit when the insured passes.
Two of the three roles can be filled by the same person, and often are. Typically, the owner is either the insured or the beneficiary.
When the owner is also the insured, insurable interest is rarely a concern. A parent often buys a life insurance policy covering himself or herself to benefit their children should he or she pass unexpectedly. Or someone could buy a life insurance policy on themselves to benefit a charity or school upon their passing. (Calculator: How much life insurance do I need?)
But if the owner isn’t the insured, and particularly if the owner is the beneficiary, then insurable interest has to be demonstrated and the insured has to give their consent. There are obvious moral and societal reasons for this requirement. (Related: Top 5 mistakes when purchasing life insurance)
As a practical matter, this requirement also makes it impossible to insure someone without their knowledge and consent, since the insurance company would contact them about the relationship as well as for medical information to underwrite the policy.
But there are many situations where someone has a need to get a life insurance policy covering another person. Five of the more common involve:
Additionally, it is important to note that insurable interest is only a requirement when the life insurance policy is first secured. Beneficiaries can be changed and ownership can be passed on once the policy is established. For instance, some policyowners transfer unneeded or unwanted policies to charities. (Related: How to help a charity with life insurance)
Spouses and partners
If you are married or otherwise committed to another person, you likely depend on one another, not only emotionally but also financially. This is an insurable interest that goes both ways. Indeed, spouses are always considered to have an insurable interest in one another, since one would likely have to settle final expenses for the other.
Obviously, if one is a major breadwinner, then their passing would be a particularly hard financial blow. Buying life insurance to cover such a contribution is a natural protective step.
Not so obvious, perhaps, is the contribution of a partner who may not be in the workforce, like a stay-at-home parent. Or, in these sandwich generation times, the value of a partner staying at home to help care for an aging loved one. The loss of their contributions is often an underappreciated financial blow.
Adding up the exact value of all the caregiving — plus various housework, cooking, errands, and other associated chores — a stay-at-home partner provides will differ from household to household. But, as a comparative point of reference, a 2019 survey found that stay-at-home parents would earn nearly $178,200 per year in the workplace.1 And home health aides cost an average of $5,148 monthly.2 (Related: Why stay-at-home parents need life insurance)
And the insurable interest in one another can continue even if the union is gone. Divorce decrees often involve life insurance to cover alimony obligations should one of the parties pass away. (Related: Divorce and life insurance)
As noted earlier, parents often buy life insurance covering themselves to protect their children should there be an untimely passing.
But in these times of increasing longevity, more and more adult children are having to take care of their aging parents. This often means commitments of time and money. Life insurance proceeds could help recoup the costs involved in such situations.
To that end, the child would have to demonstrate that they would suffer a financial loss — such as final expenses and debt settlements — should the parent die. (Related: Buying life insurance to cover your parent)
Also, the amount of insurance would have to be commensurate with the costs. For example, if your parent owes $180,000 on their mortgage and you want to take out a $200,000 policy to cover the mortgage debt and funeral expenses, then your insurable interest should be easy to prove. But you’d be hard pressed to secure a $5 million policy on your parent in this situation.
Insuring a child can be a sensitive subject. After all, no one likes to think about the possibility of the death of a child.
Nevertheless, parents would suffer financial hardship should tragedy happen, in the form of possible medical bills and final expenses, and so they have an insurable interest in their offspring. Beyond the notion of loss, there are other reasons to insure a child. The cost of life insurance is lower for younger people, and ownership can be transferred to them once they become adults. Securing a life insurance policy for a child, then, could provide benefits at a relatively low cost. Such benefits would include a guarantee of insurability in their adult years and some financial wherewithal for them in the future. (Related: The logic of life insurance for children)
In the case of aging parents who rely on an adult child for support, there is an obvious argument that an untimely death of the child would have a negative financial consequence. And that doesn’t just apply to parents. Any aging relation — grandparent, aunt, uncle, cousin, sibling — that relies on a younger family member for support could make the same argument to secure a life insurance policy on them.
Business ventures and enterprises form every day, often on the basis of a partnership. But, if something unfortunate happens to one of the partners, the business is, more often or not, in jeopardy. So, there is an obvious need for business partners to have life insurance covering one another. (Related: Why an entrepreneur needs life and disability insurance)
“It’s common for business owners to get life insurance protection,” said Gentry. “It’s often used to support a buy-sell agreement.”
A buy-sell agreement is basically an ownership succession plan in case one of the partners passes away or otherwise withdraws from the business.
There are other instances of insurable interest in the business world as well. Banks will sometimes take out insurance on business borrowers to cover the risk of losing the loan money should the borrower pass away. Businesses will also sometimes secure life insurance to cover a key executive vital to the business.
“One case that sticks out in my mind was when a 72-year-old attorney called me insisting he needed life insurance right away,” said Buck Jones, a financial professional with MassMutual Commonwealth in Virginia Beach. “It turned out his junior partner was threatening to leave unless this gentleman, the managing partner, secured a policy with the firm as the beneficiary. That way, in the junior partner’s words, ‘if something happens to you, we can hire a replacement and staff to do whatever it is you do.’”
Partners and family members often go in on debt together. This can range from a parent co-signing a car loan or college aid package for their child to a cohabitating couple getting a mortgage to friends pooling resources for a mutual vacation home.
But if one of the co-signers dies, the remaining co-signer or co-signers are still in most cases responsible for paying back the debt. And in some cases, the entire balance of the loan is immediately due. (Related: What happens to your debts when you die?)
Co-signers, therefore, have an obvious insurable interest in one another.
These are just a few of the more common instances where someone may have an insurable interest in another particular person because of the negative consequences they would suffer should that person pass away.
Whether the relationship is straightforward, like spouses, or more complicated, such as a dear friend of the family with special needs, a financial professional can help navigate insurable interest questions and recommend courses of action.
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This article was originally published May, 2021. It has been updated.