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The Right to Deny When Clients Lie

Reading from the application, the insurance agent asked the young military wife if she had “ever smoked cigarettes.” She answered “no” and then, understandably, left no responses for the follow-up questions asking her how many cigarettes a day she smoked and, if she was a former smoker, when she had quit.

If later testimony given by the agent is accurate, he had no reason to doubt her responses. He knew the client socially. He had visited her and her husband in their home and was the only one who smoked on those occasions after both had “run around the house looking for an ashtray.” The application was submitted and the coverage in the amount of $50,000 went into effect in March 1989. Less than one year later, gall bladder disease would result in cardiovascular collapse that would take the life of this insured 25-year-old woman.

Because the claim was submitted within the policy’s two-year contestable period, the carrier conducted a routine investigation to verify the accuracy of the information given on the application. What the carrier found gave reason for pause down in the claims department. Records from the military base clinic and hospital included statements by the insured that she smoked anywhere from 10 cigarettes to a full pack of cigarettes a day and had done so for seven years. The doctor’s records included the instructions he had given to her to “stop smoking!” Medical records also allowed the carrier to determine that the insured woman had misrepresented no fewer than nine other assertions regarding her health on the application. However, her smoking was the only issue for the purpose of the subsequent trial, and this article.

To no one’s surprise, the carrier denied liability for payment of the death benefit. However, the carrier did send a check to the insured woman’s husband, who was the beneficiary under the policy, for the amount of premiums that had been paid. He refused the check and took the carrier to court, claiming the right to the full death benefit. The carrier moved for a summary judgment. In layperson’s terms, this means that the judge finds there is no real issue of fact or law and rules in favor of the carrier without the case ever going before a jury.

The husband first argued that there was an issue of material fact whether or not his wife smoked. His second argument was that, if she did smoke, then that fact was not sufficient to constitute a misrepresentation significant enough to deny the claim. Despite testimony from the husband and the agent, the court ruled that the medical records established beyond a doubt that the insured woman had smoked and had misrepresented the fact on the application.

Regarding the second issue pertaining to the significance of the misrepresentation, the court ruled that the actions of the insured woman fulfilled the definition of “misrepresentation in insurance contracts” under state law in that “the insurer in good faith would not have issued the policy … if the true facts had been known to the insurer as required by either the application for the policy … or otherwise.” Based on what it viewed as the significance of the misrepresentation, the court granted the request for summary judgment and ruled the policy void and that the carrier was under no liability for the death benefit.

It did not matter to the court that if the insured woman had told the truth, the carrier would have issued a policy for higher premiums at smoker rates, or that a judgment could be made that simply adjusted the premium or the amount of coverage accordingly. Unwilling to accept some form of a “no harm, no foul” philosophy the court said:


Most risks are insurable at some price. The purpose of the materiality inquiry is not to permit the jury to rewrite the terms of the insurance agreement to conform to the newly disclosed facts but to make certain that the risk insured was the risk covered by the policy agreed upon. If a fact is material to the risk, the insurer may avoid liability … whether or not the parties might have agreed to some other contractual arrangement had the critical fact been disclosed.

Beyond the legal issue of the effect that material misrepresentation might have on enforcement of the contract, the court spoke to a more practical concern that should discourage any consideration by a court to allow simple adjustment of a policy’s term when material misrepresentation is proven. Quoting language from an earlier landmark case – New York Life Insurance Company v. Lawrence T. Johnson, 923 F.2d 279 (3rd Circ. 1991):

There are strong reasons of public policy that support the rule that an insured’s misrepresentations concerning his or her smoking history relieves an insurer of liability for the policy. Otherwise, there would be a disincentive for applicants who pose greater risk, and therefore are required to pay higher premiums, to answer application questions truthfully: the victims will be the honest applicants who tell the truth and whose premiums will rise over the long run to pay for the excessive insurance proceeds paid out as a result of undetected misrepresentations and fraudulent applications.

Before we go further, we must mention at least three issues. The first addresses the advice often given to clients regarding their behavior in the time period shortly before a medical exam for coverage. Few agents at one time or another haven’t warned clients not to load up on custard pie the night before a blood test. The difference here is that the application doesn’t ask whether or not the applicant has a habit of eating custard pie and, if so, how much do they eat and how often. Nor does it ask how long ago the applicant quit eating custard pie, if they did eat custard pie at one time. In fact, unless the client makes a steady practice of such excess, the advice may result in a better representation of health for the carrier.

The second issue involves the time in which the carrier detected the misrepresentations of smoking in particular and all matters in general. In the case cited in this article, evidence of smoking turned up after the insured woman’s death, when the carrier investigated the responses she made on her application. Today, carriers are much more aggressive in pursuing the accuracy of an applicant’s answers before even making an offer of coverage. And the fact is, if you smoke, you’ve probably left a second-hand trail of evidence somewhere, whether in an admission to a doctor that is now memorialized in your medical records, or in a party picture posted by a “friend” on their Facebook page. Discovering misrepresentations early in the game could result in a decline that may make it difficult to attempt another, more truthful, application for coverage with another carrier.

A third issue involves the time period within which a denial of claim is made. It seems that most cases dealing with the issue involve discovery of misrepresentation during the contestable period. But a less-than-truthful applicant should keep in mind that when courts start declaring contracts void, or they evaluate misrepresentations so material that they might constitute fraud, state law may allow for a denial of claim beyond the contestable period. Misrepresentation is not something to put to the test.

Untruthfulness doesn’t seem very discoverable when comments are made to an agent in the remote privacy of a sales call. But few things focus a bright light of exposure on the lack of veracity in transactional behavior more quickly than a judicial hearing. Sometimes clients need to be reminded.

Keep in mind that despite the fact that the Savage case has limited authority because its forum was a U.S. District Court, its reasoning should not be discounted in that the courts have found for lack of coverage based on material representation by the applicant and/insured in various Federal Circuits: e.g. the U.S. 3rd Circuit Court of Appeals (having authority in PA, NJ, and DE), the 6th Circuit (MI, OH, KY, TN), the 9th Circuit (WA, OR, CA, AZ, NV, ID, MT), and the 10th Circuit (WY, UT, CO, NM, KS, OK).

Tom Virkler, JD, CLU, is director of CPS Advanced Markets, where he assists brokers, as well as other professional advisors involved in work with clients, concerning matters of estate and business planning and issues of income and transfer taxation that attend the sale, implementation and administration of products and plans. Contact him at [email protected].

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