Final answer:
When a misrepresentation is discovered on a life insurance application, the insurance company can void the policy and refund the premiums. Actuarially fair premium rates are set to reflect the risk, which may vary if the company does not know about specific risk factors like family cancer histories. The cash value of a life insurance policy can be borrowed against, with the understanding it must be repaid with interest.
Step-by-step explanation:
When a misrepresentation on a life insurance policy application is discovered, an insurance company may take various actions. The most common action is to void the policy and refund the premiums paid. This is because the misrepresentation could have affected the risk assessment process that determines policy acceptance and premium rates. Additionally, if the misrepresentation is discovered after a claim is submitted, the insurance company has the right to deny the claim based on the false information provided, which would have led to a different decision regarding coverage.
The concept of actuarially fair premium refers to a premium that reflects the true risk of insuring an individual or group. In the context of life insurance, if an insurance company assesses risk and sets premiums for separate groups, each group would have a different actuarially fair premium based on their specific risk factors, such as family cancer histories. However, for a mixed group without knowledge of these risk factors, the actuarially fair premium would be averaged over the entire group, potentially causing issues for the company if high-risk individuals are not adequately accounted for in the premium calculation.
Life insurance companies often accumulate cash from the premiums collected, leading to a reserve that can be lent or borrowed against through a policy's cash value. The cash value in a whole life insurance policy grows over time and can be used by the policyholder for various purposes, with the understanding that any borrowed money must be repaid with interest.