9.2 Life Insurable Interest and Contractual Exclusions

Study Focus

Schedule 8 specifies deemed life-insurance relationships. Valid life interest at inception need not continue until the death claim.

Insurable Interest in Life Insurance: Schedule 8 of the FSA 2013

In insurance jurisprudence, insurable interest is the legal or financial relationship recognized by law between the person taking out the insurance policy (the policyholder) and the subject matter of insurance (the life insured). Without insurable interest, an insurance policy degenerates into a speculative wager, violating public policy and encouraging criminal acts.

Statutory Framework: Financial Services Act 2013

In Malaysia, insurable interest in life policies is governed by Section 128 and Schedule 8 of the Financial Services Act 2013 (FSA 2013), which replaced the corresponding provisions of the repealed Insurance Act 1996.

Under Paragraph 3(1) of Schedule 8:

"A life policy insuring the life of anyone other than the person effecting the insurance or a person mentioned in subparagraph (3) shall be void unless the person effecting the insurance has an insurable interest in that life at the time the insurance is effected."

Two consequences follow. First, a person may always insure their own life. Second, the relationships listed in paragraph 3(3) are deemed to give an insurable interest, so no financial loss needs to be proved for them. Any other life policy is void unless the person effecting it can show a real insurable interest when the policy is effected.

The Deemed Relationships in Paragraph 3(3)

A person is deemed to have an insurable interest in the life of another person who is:

1. Their Spouse or Child

A husband may insure his wife, and a wife her husband, without proving any financial loss. The same applies to a child of any age: unlike a ward, a child is not limited to minors, so a parent may insure an adult son or daughter. Section 2 of the FSA defines "child" to include an illegitimate child, a step-child and an adopted child.

2. Their Ward Under the Age of Majority

A legal guardian is deemed to have an insurable interest in a ward who is under the age of majority (18 years) at the time the insurance is effected. A policy taken out while the ward is a minor remains valid after the ward turns 18, but a guardian cannot rely on this category to start a new policy on a former ward who is now an adult.

3. Their Employee

An employer is deemed to have an insurable interest in the life of its employee. This supports key-person and group arrangements, although insurers still limit sums insured through financial underwriting.

4. A Person on Whom They Depend for Maintenance or Education

A person is deemed to have an insurable interest in someone on whom they are wholly or partly dependent for maintenance or education at the time the insurance is effected. The interest belongs to the dependant, who would suffer financially if the supporter died. Examples:

• A university student whose fees are paid by an uncle may insure the uncle's life.
• Elderly parents who rely on an adult child's monthly support may insure that child's life.
• An adult sibling who depends on a brother for maintenance may insure the brother's life.

Paragraph 3(2) adds that a group life policy is not void merely because the group policy owner had no insurable interest in the lives insured.

Insurable Interest Outside the Statutory List

Other commercial relationships are not listed in paragraph 3(3). They can support a policy only if a real financial interest is shown under general legal principles, and the amount is limited to that interest:

• Creditor in Debtor's Life: A creditor may insure a debtor, generally up to the outstanding debt plus reasonable interest and costs.
• Business Partners in Each Other's Lives: Under the Partnership Act 1961, the death of a partner dissolves the partnership unless the partnership agreement provides otherwise. Partnership buy-and-sell assurance gives the surviving partners the funds to buy the deceased partner's share from the heirs.
• Key Persons Who Are Not Employees: A company may insure a director or consultant whose death would cause a measurable loss, limited to that loss.

Paragraph 4 of Schedule 8 separately allows minors to buy life insurance: from age 10 to below 16 with a parent's or guardian's written consent, and from 16 without consent (although a minor aged 16 or 17 still needs written consent to assign a policy on their own life).

Timing of Insurable Interest: Life vs. General Insurance

A critical legal rule tested extensively in the PCEIA examination is the timing of insurable interest.

The Landmark Case: Dalby v The India and London Life Assurance Company (1854)

Under English common law, which forms part of Malaysian insurance jurisprudence pursuant to Section 5 of the Civil Law Act 1956 (and reaffirmed by Schedule 8 of the FSA 2013):

• In the landmark English case of Dalby v The India and London Life Assurance Company (1854), it was established that in life insurance, insurable interest is required ONLY at the inception (commencement) of the contract.
• It is NOT required at the time of the death or claim, nor does it need to continue throughout the policy term.

Practical Applications of the Inception Rule

1. Divorced Spouses: If a wife takes out a life insurance policy on her husband during their marriage, valid insurable interest exists at inception. If the couple subsequently divorces 10 years later, the policy remains 100% legally valid and enforceable. Upon the ex-husband's eventual death, the ex-wife is legally entitled to collect the full sum insured, provided premiums have been maintained, even though no legal or marital relationship existed at death.
2. Former Business Partners and Employees: If a company takes out a key-person policy on an executive who subsequently resigns, the company may maintain the policy and collect the death proceeds upon the former executive's death.
3. Paid-Off Debtors: If a creditor insures a debtor's life, and the loan is fully repaid before the debtor dies, the policy remains valid if maintained, though commercial banking practice usually reassigns or cancels such policies.

Direct Contrast with General Insurance

• In general insurance (such as fire, motor, or burglary insurance), insurable interest must exist at the time of the loss. If an individual sells their car or residential house and a fire occurs afterward, they cannot claim under the policy because they suffered no financial loss at the time of the peril.
• In marine cargo insurance, insurable interest must exist at the time of loss, even if it did not exist when the contract was made ("lost or not lost" clause).

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Key Policy Exclusions and the Suicide Clause

While life insurance contracts are designed to pay benefits upon death from almost any cause, insurers incorporate specific contractual exclusions to prevent moral hazard, deter crime, and safeguard the common insurance fund.

The Suicide Clause

Under early common law, paying life insurance proceeds upon suicide was considered contrary to public policy (Beresford v Royal Insurance Co Ltd [1938] AC 586), as suicide was then treated as a crime. In modern Malaysian life insurance practice, the legal approach balances moral hazard deterrence with compassionate protection for surviving dependents.

• The Standard 1-Year Suicide Clause: Standard Malaysian life insurance policies contain a suicide clause providing that if the life insured commits suicide—whether sane or insane—within one (1) year (12 months) from the date of policy issue or the date of any subsequent reinstatement, the insurer is NOT liable to pay the sum insured.
• Insurer's Limited Liability Within 1 Year: If suicide occurs within the initial 1-year window, the insurer's liability is typically limited to refunding the premiums paid, less any outstanding policy indebtedness, as stated in the policy.
• Suicide After 1 Year: If the insured commits suicide after the 1-year exclusion period has elapsed, the insurer must pay the full sum insured to the beneficiaries. The law presumes that an individual does not formulate a premeditated plan to commit suicide more than 12 months in advance solely to enrich their estate.
• Reinstatement Resets the Clock: If a lapsed life policy is reinstated, the 1-year suicide exclusion begins anew from the effective date of reinstatement for the reinstated portion of coverage.

Other Standard Life Insurance Exclusions

1. Death Due to Capital Punishment: Death resulting from judicial execution following criminal conviction is generally excluded under public policy doctrines.
2. Participation in Criminal or Unlawful Acts: If death results directly from the insured's active participation in a felony, violent riot, or illegal enterprise, claims are denied under the common law maxim ex turpi causa non oritur actio (no action arises from an illegal cause).
3. War and Military Perils: Death resulting from active participation in war, hostilities, civil rebellion, or acts of foreign enemies (unless specifically covered under an additional war risk rider).
4. Aviation Exclusion: Death occurring while traveling in aircraft other than as a fare-paying passenger on a licensed commercial passenger airline operating on a regular scheduled route (e.g., private piloting, stunt flying, or non-commercial military flights are typically excluded).