Life insurers may consider factors beyond those listed in policy when calculating rates, court rules

by John Chapman

In a pair of recent decisions, the Seventh Circuit Court of Appeals considered whether language in a life insurance policy providing that the cost-of-insurance rate would be calculated “based on” specifically enumerated factors (such as the insured’s sex, issue age, policy year, and payment class) should be construed to mean the insurer was prohibited from considering any other factors. In both cases, the court of appeals answered that the insurance company was free to consider additional factors as long as “the named factors … have a significant, foundational role in determining the rate.”

The court first took up the issue under Illinois law in Norem v. Lincoln Benefit Life Co., No. 12–1816 (7th Cir. Dec. 13, 2013). Dennis Norem is the current owner of a variable life insurance policy issued by Lincoln Benefit Life Company. Norem filed a putative class action on behalf of himself and other similarly situated policyholders. Specifically, Dr. Norem claimed that Lincoln Benefit breached the terms of its insurance policies with him and other policyholders in its method of calculating what is known as the cost of insurance (“COI”) rate on its policies. Before deciding the issue of class certification, the district court granted summary judgment to Lincoln Benefit after concluding that its calculation of COI rates did not breach Dr. Norem’s contract. Dr. Norem appealed and the Seventh Circuit has now affirmed.

In 1994, Norem purchased a “Flexible Premium Variable Life Insurance Policy” from Lincoln Benefit. Unlike a term life insurance policy, which provides benefits only for a finite period while premiums are being paid, a universal life policy is a form of permanent insurance intended to provide protection for the life of the insured. Variable universal life insurance policies combine the premium flexibility of universal life insurance with the investment flexibility of variable life insurance. With variable life insurance, a portion of the premium is allocated to the insurer’s investment funds, called subaccounts. Policyholders may move their investments within the subaccounts and the policy’s death benefit, which is guaranteed not to fall below a certain amount.

With variable universal life, the policyholder may easily invest and alter insurance coverage. The policy is comprised of the policy value, which represents the investment component, and its net amount at risk, which represents the insurance component. In his lawsuit, Norem alleged that he purchased his variable universal life policy because he wanted both life insurance and an investment vehicle for the proceeds from the sale of his ownership interest in a medical business.

Norem’s policy specifies several periodic charges owed by a policyholder, including the COI charge, which is deducted monthly from the policy. A section of the policy contains an explanation of how the COI rate is calculated. The COI rate is calculated first by the insurer and then multiplied by the policy’s “net amount at risk” to arrive at the ultimate COI charge. The policy states that: “The cost of insurance rate is based on the insured’s sex, issue age, policy year, and payment class. The rates will be determined by us, but they will never be more than the guaranteed rates shown on Page 5.”

Norem’s putative class action alleged breach of contract based on the express terms of this COI rate clause. He alleged that Lincoln Benefit contravened the terms of the policy because it considered factors beyond the insured’s sex, issue age, policy year, and payment class when it calculated the COI rates.

Lincoln Benefit conceded that it considers a number of factors beyond those listed when setting its COI rates. Among other things, Lincoln Benefit considers expected policy lapse rates, agent commissions, and anticipated death benefit costs. However, Lincoln Benefit maintained that the COI rate was “based on” the enumerated factors so long as those factors taken together made up a significant portion of the COI rate calculation. In other words, Lincoln Benefit argued that Norem was reading into the contract a nonexistent guarantee that the COI rates would be based exclusively on sex, issue age, policy year, and payment class. The district court agreed and granted summary judgment to Lincoln Benefit.

The sole issue before the Seventh Circuit was whether the policy allows Lincoln Benefit to include factors beyond an insured’s sex, issue age, policy year, and payment class when it calculates COI rates. Because the policy failed to explicitly define the phrase “based on” as used in the COI rate clause, the court of appeals begin with the “plain and ordinary meaning of the phrase”— the dictionary defines the word ‘base’ as (1) ‘a main ingredient;’ (2) ‘a supporting or carrying ingredient;’ or (3) ‘the fundamental part of something.’” Id.

Most notably for our purposes, none of the definitions lends itself to Dr. Norem’s proposed interpretation: that “base” or “based on” implies exclusivity. In other words, no one would suppose that a cake recipe “based on” flour, sugar, and eggs must be limited only to those ingredients. Thus, neither the dictionary definitions nor the common understanding of the phrase “based on” suggest that Lincoln Benefit is prohibited from considering factors beyond sex, issue age, policy year, and payment class when calculating its COI rates.


The court of appeals agreed with cases holding that “absent a promise to use a specific formula when calculating a COI rate, an insurer is not bound to consider only those factors listed in a COI provision.” Id. Accordingly, when the policy says that the monthly cost of insurance rate will be “based on” specified factors, it does not mean that the rate will be based exclusively on those factors; rather, it signifies that the named factors will have a significant, foundational role in determining the rate. Because “[t]his interpretation comports with the common understanding of the phrase ‘based on’ and is also the most reasonable way to construe the language of the COI provision as a whole,” the court of appeals concluded that “Lincoln Benefit is entitled to summary judgment on Norem’s claim that its method of calculating COI rates is in breach of the insurance policy.”

Following the decision in Norem, the Seventh Circuit then reached the same result under Wisconsin law in Mai Nhia Thao v. Midland Nat. Life Ins. Co., No. 13–1272 (7th Cir. Dec. 13, 2013). Thao purchased a universal life insurance policy from Midland National Life Insurance Company. She sued for breach of contract alleging that Midland breached the terms of the policy in calculating the monthly cost of insurance charge she is assessed: The policy states that the cost of insurance rate used to calculate that charge will be “based on” five specified factors, but in practice Midland considers other unnamed factors in arriving at that rate. The district court granted summary judgment to Midland, concluding that the policy’s “based on” language did not limit the insurer to the five named factors in calculating the cost of insurance rate.

The court of appeals found the policy language at issue to materially identical to the policy in Norem and “there is no material difference between Wisconsin law and Illinois law as to the basic rules of contract interpretation.” Id.

[W]hen the policy says that the monthly cost of insurance rate will be “based on” specified factors, it does not mean that the rate will be based exclusively on those factors. … Rather, it signifies that the named factors will have a significant, foundational role in determining the rate. And, in fact, they do. As mentioned, it is these factors around which the rate tables that Midland prepares are organized and it is these factors which identify the particular rate in a table that will apply to an individual insured. Put another way, it is these named factors which serve to both differentiate one insured from another and insure that similarly situated insureds will be treated alike in the amounts they are charged for the cost of insurance. By contrast, the other, unidentified factors that Midland considers in setting the cost of insurance rate have less to do with the characteristics of the individual insured and much more to do with the broader financial risks, performance, and goals of Midland’s business as a for-profit life insurance company and with the type of policy the insured has chosen. When the policy states that the rate used to calculate the cost of insurance charge that will be assessed to the insured will be based on the five specified factors, it therefore accurately describes the way in which these named factors are essential in determining a particular insured’s cost of insurance rate.

Id. Accordingly, the Seventh Circuit affirmed the judgment in favor of the insurer.

Commercial Litigation at Heygood, Orr & Pearson

At Heygood, Orr & Pearson, our attorneys have handled hundreds of commercial litigation cases ranging in value from tens of thousands of dollars to tens of millions. We have successfully represented businesses of all sizes, from small “mom and pop” businesses to some of the largest corporations in the world.

Whether we are representing a huge, multi-national corporation or a small local business, we understand that clients want their legal representation to be not only excellent but cost-effective and efficient. For that reason, we will often offer our clients flexible fee structures such as contingent fees, flat fees, reduced hourly fees with a bonus payment contingent on success and reverse contingent fees.

At Heygood, Orr & Pearson, our success stems from the fact that our attorneys are trial attorneys in the truest sense and have tried hundreds of cases to verdict. Among our team are several attorneys who are board certified* and who have been voted by their peers as Super Lawyers in the state of Texas for several years in a row.** Our firm is AV-rated, the highest legal and ethical rating available from the leading law firm rating service.

As a result of their experience, expertise and trial ability, our attorneys have obtained dozens of significant commercial verdicts and settlements for our commercial clients. Among the more notable are the following:

  • Obtained an $18 million verdict in favor of a European entrepreneur in a lawsuit against a subsidiary of a Fortune 500 company involving the sale and distribution of computer products in Europe.
  • Successfully defended an international businessman in a $200 million fraud and breach of contract case arising out of the discovery of the world’s largest nickel deposit in Labrador.
  • Obtained a $16 million settlement on behalf of a Fortune 500 company involved in a construction dispute relating to a parking garage.

In the context of life insurance policies and life settlements in particular, Heygood, Orr & Pearson has filed lawsuits on behalf of life settlement companies who did not receive the death benefits on policies when life insurers wrongfully claimed that they were STOLI policies or carried no insurable interest. We have also filed lawsuits on behalf of investors in life settlements who were allegedly misled about the value of life settlements investments that they purchased from Life Partners.

Regardless of the type of claim, the size of the client or the complexity of the dispute, Heygood, Orr & Pearson has the legal ability, financial wherewithal and level of commitment necessary to successfully represent the interests of any commercial client. If you or your company is in need of representation in a commercial dispute, contact us for a free consultation by calling toll-free at 1-877-446-9001, or by following the link to our free case evaluation form on this page.


Michael Heygood, James Craig Orr, Jr. and Eric Pearson are all Board Certified in Personal Injury Trial Law — Texas Board of Legal Specialization.

** Michael Heygood, James Craig Orr, Jr. and Eric Pearson were selected to the Super Lawyers List, a Thomson Reuters publication, for the years 2003 through 2014.