Phl Variable Ins. Co. v. Price Dawe 2006 Ins. Trust

• Decision Date: 20 September 2011
• Docket Number: 2011.,No. 174,174
• Citation: 28 A.3d 1059
• Parties: PHL VARIABLE INSURANCE COMPANY, Plaintiff Appellant,v.PRICE DAWE 2006 INSURANCE TRUST, by and through its trustee, CHRISTIANA BANK AND TRUST COMPANY, et al., Defendant Appellees.
• Court: Supreme Court of Delaware

28 A.3d 1059

PHL VARIABLE INSURANCE COMPANY, Plaintiff Appellant,

v.PRICE DAWE 2006 INSURANCE TRUST, by and through its trustee, CHRISTIANA BANK AND TRUST COMPANY, et al., Defendant Appellees.

No. 174

2011.

Supreme Court of Delaware.

Submitted: Aug. 17, 2011.Decided: Sept. 20, 2011.

Certification of Questions of Law from the United States District Court for the District of Delaware, C.A. No. 10–964.Questions Answered: Question One AFFIRMATIVE; Question Two NEGATIVE and, Question Three AFFIRMATIVE.Richard D. Heins and Tiffany Geyer Lydon of Ashby & Geddes, Wilmington, Delaware. Of Counsel: Thomas F.A. Hetherington (argued) and Jarrett E. Ganer of Edison McDowell & Hetherington, LLP, Houston, Texas for appellant.John E. James, David E. Moore, Michael B. Rush of Potter Anderson & Corroon LLP, Wilmington, Delaware. Of Counsel: John E. Failla (argued), Elise A. Yablonski and Nathan Lander of Proskauer Rose LLP, New York, New York and Lary Alan Rappaport of Proskauer Rose LLP, Los Angeles, California for appellee.Benjamin A. Schwartz of Schwartz & Schwartz, Dover, Delaware. Of Counsel: Neil Merkl and James V. O'Gara of Kelly Drye & Warren, LLP, New York, New York for Amicus Curiae American Council of Life Insurance.STEELE, Chief Justice:

This is a proceeding, under Article IV, Section 11(8) of the Delaware Constitution and Supreme Court Rule 41, on a question of law certified to, and accepted by us, from the United States District Court for the District of Delaware. The certified questions arise from two similar cases— PHL Variable Insurance Co. v. Price Dawe 2006 Insurance Trust (Dawe) and Lincoln National Life Insurance Co. v. Joseph Schlanger 2006 Insurance Trust ( Schlanger ). ¹ In both cases, an insurer sought a judicial declaration that a life insurance policy that lacked an insurable interest was void as an illegal contract wagering on human life. The district court denied both motions to dismiss and certified three questions to the Supreme Court of Delaware concerning the incontestability provision required under 18 Del. C. § 2908 and the insurable interest requirement under 18 Del. C. § 2704.

FACTUAL AND PROCEDURAL BACKGROUND

The Price Dawe 2006 Insurance Trust is a Delaware statutory trust that Price Dawe formed in December 2006 with a family trust as the beneficiary. Dawe was the beneficiary of the family trust. PHL Variable Insurance Co. (Phoenix) issued a $9 million Delaware life insurance policy on Dawe's life with an issue date of March 8, 2007. The Dawe Trust was the owner and beneficiary of the policy. The policy contains an incontestability provision stating that “[t]his policy shall be Incontestable after it has been in force for two years from the Issue Date, except for fraud, or any provision for reinstatement or policy change requiring evidence of insurability.” Dawe died on March 3, 2010. On June 9, 2010, the Dawe Trust made a claim to Phoenix for the death benefit. Phoenix first contested the policy by filing this lawsuit on November 10, 2010, approximately 3 1/2 years after the policy issue date. These facts are undisputed and constitute the official record for our purposes.²

In its original complaint, Phoenix contended that Dawe did not qualify, and had no legitimate need, for a $9 million life insurance policy. The insurance company claims Dawe misrepresented his income and assets in his application and that he was financially induced into participating in the transaction as part of a stranger originated life insurance (“STOLI”) scheme. Phoenix further alleges that Dawe never intended to retain the policy, and always intended that the policy would be immediately transferred to an unrelated third party investor, GIII, a private investing entity. Phoenix claims that the defendant Trust and Dawe were used as straw men to allow GIII, which had no insurable interest, to conceal a wager on Dawe's life. Phoenix more specifically contends that on or about May 14, 2007, less than two months after the policy went into force, GIII formally purchased the beneficial interest of the Dawe Trust from the Family Trust for $376,111, and did not file a change of ownership or change of beneficiary form with the company. After Dawe died, Phoenix received two competing claims for the death benefit, leading to an investigation that allegedly revealed the true nature of Dawe's life insurance transaction. Phoenix then filed suit in the United States District Court for the District of Delaware in order to obtain a declaration that the policy is void. After denying the defendant Trust's motion to dismiss, the district court certified three questions of Delaware law to this Court, which we accepted.

THE CERTIFIED QUESTIONS

The questions presented are issues of law which this Court decides de novo.³

1) Does Delaware law permit an insurer to challenge the validity of a life insurance policy based on a lack of insurable interest after the expiration of the two-year contestability period required by 18 Del. C. § 2908? ⁴

2) Does 18 Del. C. § 2704(a) and (c)(5) prohibit an insured from procuring or effecting a policy on his or her own life and immediately transferring the policy, or a beneficial interest in a trust that owns and is the beneficiary of the policy, to a person without an insurable interest in the insured's life, if the insured did not ever intend to provide insurance protection for a person with an insurable interest in his or her life?

3) Does 18 Del. C. § 2704(a) and (c)(5) confer upon the trustee of a Delaware trust established by an individual insured an insurable interest in the life of that individual when, at the time of the application for life insurance, the insured intends that the beneficial interest in the Delaware trust would be transferred to a third-party investor with no insurable interest in that individual's life following the issuance of the life insurance policy?

ANALYSIS

I. CERTIFIED QUESTION ONE: CONTESTABILITY

The first certified question, shared by both Dawe and Schlanger, concerns whether an insurer may claim that a life insurance policy never came into existence, on the basis of a lack of insurable interest, where the challenge occurs after the insurance contract's mandatory contestability period expires. As certified by the district court in Dawe:

Does Delaware law permit an insurer to challenge the validity of a life insurance policy based on a lack of insurable interest after the expiration of the two-year contestability period required by 18 Del. C. § 2908? ⁵

Our answer to question one is “YES.” That answer is consistent with that reached by the majority of courts; namely, that a life insurance policy lacking an insurable interest is void as against public policy and thus never comes into force, making the incontestability provision inapplicable.

Phoenix and amicus curiae American Council of Life Insurers argue that we should side with the majority of courts and hold that the expiration of a contractual contestability period mandated by the Delaware Insurance Code does not bar an insurer from contesting the validity of a life insurance policy based on a lack of insurable interest. They contend that under Delaware law, a life insurance policy without an insurable interest is nothing more than a wager on human life that is void as against public policy. As a result, the insurers assert, the incontestability provision does not bar their suits because the provision, which is only one component of the entire life insurance contract, never legally came into effect at all.

The defendant Dawe Trusts argue that we should side with the courts of New York and Michigan and hold that plaintiffs' suits are barred by the incontestability provision of each life insurance contract. They contend that the plain meaning of the pertinent provisions of the Insurance Code makes clear that these provisions bar all types of challenges to a life insurance policy's validity after the required contestability period expires. The defendants argue that the distinction between contracts void at the outset and those voidable at the option of the innocent party is irrelevant, and that life insurance policies in violation of Delaware's insurable interest requirement are not automatically void.

A. Historical Background

An incontestability clause is a contractual provision wherein the insurer agrees that, after a policy has been in force for a given period of time, that it will not contest the policy based on misrepresentations in the insurance application.⁶ The insurance industry has used incontestability clauses for more than 100 years to encourage customers to purchase insurance.⁷ Originating in England in the mid-nineteenth century, incontestability clauses were created as a marketing device to increase public trust in insurance companies.⁸ Before incontestability clauses were introduced, insureds sometimes paid premiums for a long period of time only to have the insurer declare the contract void because of misrepresentations in the application.⁹ These misrepresentations were often innocent, but by that point the insured was deceased and unable to address the basis of the challenge.¹⁰ Insurance companies therefore created the incontestability clause in order to address consumer uncertainty.

Incontestability clauses provide security in financial planning for the insured, while also providing an insurer a reasonable opportunity to investigate any misrepresentations in the application. These provisions essentially serve the same function as statutes of limitation and repose. ¹¹ By the early twentieth century, life insurance policies included incontestability clauses as a matter of industry practice.¹² Forty three states have adopted mandatory contestable clauses relating to life insurance policies, while four states also have incontestability clauses relating to other types of insurance.¹³ Consequently, over the years, the clause has become a standard provision in most, if not all, life...