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Reinstatement, policy loans, and nonforfeiture options

Lesson 14 of 92 · All lessons · Up next: Dividends, incontestability, assignment, suicide, and accelerated death benefits →

The value in the policy belongs to the policyowner

A permanent life policy charges more than the cost of insurance in its early years, and the excess builds cash value. Florida's Standard Nonforfeiture Law for Life Insurance settles what happens to that value when the premiums stop: it cannot simply be forfeited. Every life policy delivered or issued for delivery in Florida must contain the law's provisions in substance, or provisions the Office considers at least as favorable to the defaulting or surrendering policyholder.

Two conditions gate the guarantee. Premiums must have been paid for at least 1 full year on ordinary insurance, or 3 full years on industrial insurance. And the policyowner must make a proper request no later than 60 days after the due date of the premium in default — the benefit then takes effect as of that due date, not as of the date of the request.

A flow chart showing what happens to a life insurance policy's value when a premium goes unpaid. At the top, a box reads premium due, not paid. An arrow leads down to the grace period, where coverage is still in force. An arrow leads down again to a red box: the policy lapses, and nonforfeiture value vests only if premiums were paid for at least one full year, or three years for industrial life. Below that, an amber box says the owner must elect a benefit within sixty days, measured from the unpaid premium's due date. From that box, three arrows fan out to the three nonforfeiture options. On the left, cash surrender: take the cash value in money, coverage ends for good, and a surrendered policy can never be reinstated. In the middle, reduced paid-up: a smaller face amount of the same permanent coverage, fully paid up, required in policy forms filed on or after October first, nineteen ninety. On the right, extended term: the full original face amount, but only for a limited period, with no further cash value building. Feeding into the left side of the chart is a separate blue box for the policy loan, which notes that the loan plus accrued interest is subtracted from every amount shown below it and from the death benefit. Finally, arrows run from the reduced paid-up and extended term boxes down to a reinstatement box at the bottom: all overdue premiums with interest, evidence of insurability, and any loan repaid or reinstated, after which the original issue age and premium return and the contestable and suicide periods generally start over. No arrow runs from cash surrender to reinstatement; that path is labelled no way back.
A missed premium: grace period, lapse, the three nonforfeiture options, and the route back through reinstatement.

The three nonforfeiture options

The policy stipulates the plan of paid-up nonforfeiture benefit, and the insurer may substitute an actuarially equivalent alternative that gives a greater amount or a longer period of death benefit. In practice the choice is among three:

  • Cash surrender. The owner takes the cash value in money and coverage ends. It is the only

one of the three that is final: a policy surrendered for cash cannot be reinstated.

  • Reduced paid-up insurance. The policy continues as a smaller amount of fully paid-up

permanent insurance, with no further premiums ever due. The amount is whatever the surrender value will buy at the date of default, treating that surrender value as a net single premium at the insured's then-current age. Any policy form filed on or after October 1, 1990 must include this option.

  • Extended term insurance. The full original face amount continues, but only for a limited

term that the cash value will buy. The death benefit is unchanged; the clock is what runs out.

Whichever is chosen, its present value must be at least equal to the cash surrender value the policy then provides. Cash surrender value itself is the present value of the future guaranteed benefits, including existing paid-up additions, decreased by any indebtedness to the insurer on account of or secured by the policy — which is where loans re-enter the picture. If default falls between anniversaries, values are calculated with allowance for the lapse of time and for fractional premiums paid past the last anniversary.

One frequently tested detail: supplementary benefits are ignored in the arithmetic. Accidental death or dismemberment benefits, total and permanent disability benefits, reversionary annuity benefits, and children's term insurance expiring before age 26 — and the premiums charged for them — are all disregarded in computing cash surrender values and paid-up nonforfeiture benefits.

Policy loans

A policy with cash value can be borrowed against, with the cash value serving as collateral. The insurer charges interest at the rate the contract specifies, there is no repayment schedule, and the loan is not a taxable event while the policy stays in force. The cost is in what the debt subtracts: an outstanding loan plus accrued interest reduces the death benefit paid to the beneficiary, and reduces the cash surrender value or the nonforfeiture benefit available at default. If loan and interest ever grow to exceed the cash value, the policy itself lapses. Many contracts include an automatic premium loan provision, which quietly pays an unpaid premium out of the cash value to prevent that lapse in the first place.

Reinstatement

Reinstatement restores the original contract rather than issuing a new one, which is why it is usually worth more than replacement: the original issue age and the original premium come back with it. The price is proof. The owner must furnish evidence of insurability, pay all overdue premiums with interest, and repay or reinstate any outstanding loan. The contestable period and the suicide exclusion generally begin again from the reinstatement date. Reinstatement is available only while the policy is in a lapsed or nonforfeiture status — once the contract has been surrendered for its cash value, there is nothing left to restore.

Where these rules stop applying

Group life is treated separately: the standard provisions required of individual policies do not apply to group policies, though a group policy written on a plan other than term must contain a nonforfeiture provision the Office finds equitable to the insured persons and the policyholder. Variable life is carved out of the Standard Nonforfeiture Law, but an individual variable life contract must still contain appropriate grace, reinstatement, and nonforfeiture provisions; a group variable life contract needs only a grace provision. Industrial life is covered by this part, though insurers may not write new industrial policies as of July 1, 2021.

Key terms

Sample questions

Under Florida's Standard Nonforfeiture Law, for how long must premiums have been paid on an ordinary life policy before a defaulting policyowner is entitled to a paid-up nonforfeiture benefit?

  • For at least 60 days.
  • For at least 1 full year.
  • For at least 3 full years.
  • For at least 5 full years.
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