What happens when your insurance company becomes insolvent

You're reading a newspaper, scanning through the headlines, when one story grabs your attention: Your insurance company is insolvent and is going out of business. Great. Now what does this mean for you?

Try not to lose too much sleep. Almost every state has a "guaranty association" or "guaranty fund" that handles insurance bankruptcies much like the FDIC handles bank failures. Guaranty funds pay your claims up to a certain limit if your insurer becomes insolvent. In most states, the maximum aggregate benefit for all claims is $300,000 for home, auto and life insurance policies. That level of coverage will generally cover the average consumer's insurance claim. In most cases, you are not burdened with paperwork if your insurer has gone bust.

"The consumer doesn't have to do anything to be protected," says Peter Gallanis, president of the National Organization of Life and Health Insurance Guaranty Associations (NOLHGA). "They don't have to apply for protection. They will get it automatically."

A defunct insurance company will send you a letter soon after it has been placed under regulatory control. You might also be contacted by the insurance company's rehabilitator and your state's guaranty association. If your insurance company does not notify you of its insolvency, you can always call your state guaranty association or your state's department of insurance for instructions on what to do.

Most states have two guaranty associations. One association handles life, health and annuities; the other, a property casualty guaranty association, usually oversees auto and home insurance. In some cases, you will receive forms and documents in the mail that you should fill out and return according to the instructions. These documents may include forms to help move your policy to another insurance company. In any case, unless you are instructed otherwise, continue making premium payments as you would normally in order to keep your policy in force.

"If you don't, there is some risk that your contract could be cancelled for nonpayment," Gallanis says.

While state guaranty funds try to pay claims as quickly as possible, payments might be made more slowly than usual if the court system gets involved in the administration of the liquidated company. If you filed a claim prior to your company becoming insolvent, your claim will be paid. After the insolvency, you'll need to find a new insurer.

The chart below shows life insurance and annuity coverage that may be available in your state if your insurance company goes bankrupt. It is based on information gathered by the National Organization of Life and Health Insurance Guaranty Associations (NOLHGA) as well as information from some individual state guaranty associations. Since statues and laws change often, contact your state insurance guaranty association to confirm numbers and to get answers to specific questions about your policy coverage.