In the very rare case that your life insurance company goes bust before your death (the odds of this happening is near zero), there is reason to panic because of the numerous regulatory backups that exist to take care of insolvency claims of the insurer. According to Michael Barry, spokesperson for the Insurance Information Institute, the chances of an insurer becoming insolvent is next to nil as they are companies that are well capitalized.
If figures are to be quoted, in the past forty years only 80 multistate and 326 regional insurers have failed. The years between 2008 and 2012, the years of recession, have seen only 8 insolvencies. The total liability in the case of the insurers was just $900 million in comparison with the mammoth loss of $639 billion attributable to Lehman Brothers. In the former case, a majority of the policyholders recovered many of the benefits that were promised to them. However, it is always recommended that some steps be taken to safeguard the policy and the investment.
Guaranty Association – A Safety Net
The federal bankruptcy code prevents insurance companies that are doing badly from declaring insolvency. The home state’s guaranty association (GA) instead enters a structured resolution that provides safety for all consumers of life, health, and annuity policies. There exist separate GA offices that offer protection for auto and homeowners insurance policyholders.
The National Organization of Life and Health Guarantee Associations (NOLHGA) is an institution that helps to manage failures across different states where the laws for health and life insurers vary widely. This organization was created in the year 1983.
Insurers are required to pay as much as $300,000 as guaranty funds for life policies. The amounts may vary by state. As life benefits are different from bank deposits in that they are not payable on demand, there is less cause for worry on that account for policyholders. Peter Gallanis, president of NOLHGA, said that the liabilities take a long period to build up for an insurance company. For this reason, their modes of investment are conservative and long term to honor those commitments.
In the case of a financially troubled insurer, there are three levels of receivership that may be imposed by the state.
Conservation is the least severe of the three levels. In this case, the state works with the insurer to analyze the problem and find a solution. In case of finding a solution that works, the company is released. If not, the state may impose one of the remaining two options.
Rehabilitation closely resembles Chapter 11 bankruptcy and the state tries to steer it out of insolvency after taking control of insurance company and its assets.
Liquidation works in much the same way as Chapter 7 bankruptcy. The state finds an alternate insurer who is capable of taking over the bankrupt company’s policies. In case the state is unable to find one, it develops a plan to distribute the assets of the company (along with guaranty funds, if the situation demands it) to honor the claims of the policyholders.
Tips For the Policyholders
It is in the best interest of the policyholder to keep quiet and not overreact in the event of the insurer enters a receivership. It is also recommended that he/she continues to pay the premium as required. The cash value of a whole life policy may be impacted otherwise. It is not wise to cash out a whole life policy as it may not be possible to afford another one. Moreover, the beneficiaries are denied of all the accrued benefits of the policy.
To minimize exposure to insurance companies that may go insolvent, it is recommended to do some research and rate the financial strength of the companies before taking out a policy. It is better to insure with an ‘admitted’ company or one that has paid into a state guaranty fund. Another suggestion is to insure with different companies and not place all the eggs in one basket.