Value of Term Life Insurance in Divorce Actions

The Appellate Court vacated the divorce court’s holding that the term life insurance policy was a community asset of the parties and remanded for further evidentiary proceedings where the divorce court failed to make required findings.

During the marriage of Becky and Gary, a term life insurance policy was purchased.  Gary was the insured and Becky was the named beneficiary.  Becky’s divorce attorney petitioned for divorce.  A status-only judgment of divorce was entered and the divorce court retained jurisdiction over all other issues.  Subsequently, Gary changed the beneficiary on the term life insurance policy from Becky to Cynthia.  He also did not list the policy in his preliminary or final declaration of disclosure in the divorce action.  After the divorce trial had commenced, but before the divorce court had issued its ruling, Gary committed suicide.  The divorce court ruled that the term life insurance policy was a community asset, but did not provide any analysis of the characterization issue.  The Appellate Court, consequently, held that the policy proceeds could not be characterized on the factual record before the court and remanded to the divorce court for determination in accordance with this opinion.

The court first noted a split of authority in California regarding the characterization of term life insurance proceeds.  In Logan, the court held that term life insurance policies only remain community property after separation for so long as community funds are used to pay the premium.  Conversely, in Biltoft v. Wootten, the court held that in a divorce, the proceeds from term life insurance must be apportioned between community and separate property in the same ratio that the amount of premiums paid from community earnings bears to the amount of premiums paid from separate property.

With a few exceptions, this court agreed with Logan.  The characterization of the proceeds will depend on the premium paid for the final term of the policy.  Thus, when the final premium is paid solely with community property, the proceeds of the policy are community property; when the separate estate pays for the final premium with no help from the community, the proceeds are separate property.

An insurance policy is a contract between an insurer and an insured.  The insurer makes promises, and the insured pays premiums, the one in consideration for the other.  One of the insurer’s promises in a term life policy is the agreement to pay the policy proceeds if the insured dies between dates X and Y.  The payment of the subsequent premium is consideration for another promise from the insurer: to pay the proceeds if the insured dies between dates Y and Z.  In short, the premium is the amount paid for a certain period of coverage.

While each premium payment does not create a new contract, it does give rise to a new enforceable contractual right and thus a distinct property interest.  When separate funds are used to pay a subsequent premium, the payment of that premium does not convert the community’s proceeds – they were never the community’s proceeds to begin with.  The proceeds belong to whomever the insurance company is contractually obligated to pay.  The valuable property interest is the enforceable right to compel payment of the proceeds.  In this context, the contractual right is the coverage during which the insured dies.  The community did not acquire this right; instead, the community paid for, and received in full, a different contractual right: the right to be paid upon a contingency that ultimately failed.  The reason the community is not entitled to the proceeds is not because contractual rights have changed in character.  The separate and community estates have different contractual rights; one valuable and the other not.

Thus, it is clear that characterization of the proceeds as separate or community will depend upon who made the premium for the final term of the policy, however, the community must be reimbursed to the extent that it owns or has an interest in the contractual rights used by the separate estate to obtain the final coverage term.

Sometimes, people who become medically uninsurable may nonetheless continue existing coverage by virtue of a contractual right to renew his/her policy (i.e. “right of renewal”).  The right of renewal is an enforceable contractual right and a property interest.  The community initially purchased this right, and maintained it for a period of time through subsequent premiums.  Therefore, the right of renewal is, at least in part, community property.  When the insured spouse becomes medically uninsurable during the community’s term of coverage, his/her separate estate can only acquire subsequent terms of coverage by appropriating the community’s contractual right to renew.  Thus, the acquisition of the final coverage term is dependent on both the separate estate’s payment of premiums and the community’s renewal right, and given the joint effort in acquiring the relevant asset, the proceeds obtained therewith must be apportioned.

Another scenario wherein the separate estate could appropriate the community’s contractual right is when, over time, a spouse remains insurable but it becomes more expensive to insure because of advancing age or declining health.  Some term life insurance policies provide for a cap on premiums during a particular period of time.  With a cap provision, the premium for a particular term may not solely reflect actuarial considerations relative to the insured’s likelihood of dying during that term.  The price may be artificially low in accordance with the cap.  The cap has value when the premiums would otherwise exceed the maximum it allows.  Thus, if the insured spouse renews the policy post-separation, and the premiums would have been higher without the premium cap, the insured spouse has necessarily appropriated property which the community acquired and helped maintain.  In this situation, the community should receive a fraction of the proceeds based on two factors: (1) the community’s role in maintaining the contractual right to a premium cap and (2) the premium cap’s role in the separate estate’s acquisition of the final term of coverage.  The fraction would be computed as follows:

(% of total premiums paid by community) x (effective premium discount for final term)
(actual premium paid for final term) + (effective premium discount for final term)

Example:
Community pays 50% of premiums for life of policy.  Without premium cap, premium would be $1,000 for final term of coverage; but because of cap, insured is only required to pay $400 for the final term of coverage.

50% x $600
$400 + $600
$300
$1,000
3
10

In this scenario, the community would be entitled to 3/10 or 30% of the proceeds.

Therefore, the proper characterization of term life insurance proceeds in a divorce depends on a number of factors, including whether the final premium was paid with community or separate property, whether the insured became uninsurable during a term for which the premium was paid by the community, and whether the policy contained a premium cap when the separate estate began making payments.

SUMMARY

In a divorce, the proceeds are entirely community property when the final premium is paid solely with community property.

In a divorce, the proceeds are entirely separate property when:

  1. separate estate has paid the final premium;
  2. the insured spouse was insurable at the end of the last term paid for by the community; and
  3. either
    1. the insured spouse’s health was such that he/she could have purchased a comparable policy at a comparable price when the separate estate began making premium payments, or
    2. the policy did not contain a premium cap when the separate estate began making premium payments.

In a divorce, the proceeds are part community and part separate where:

  1. the separate estate has paid the final premium with funds that are part community and part separate; or
  2. the insured spouse has become medically uninsurable before he/she began paying the premiums with separate property; or
  3. the insured spouse could not have purchased a comparable policy at a comparable price when he/she began paying the premiums with separate property.

In re Marriage of Burwell (2013) 221 Cal.App.4th 1