Fraud Claims Over Stranger-Originated Life Insurance Hit the Courts

November 5, 2010 | Appeals | Insurance Coverage

Stranger-originated life insurance (“STOLI”) policies have emerged in large numbers over the last decade and now comprise a growing segment of the insurance market. In a typical STOLI arrangement, speculators collaborate with an individual to obtain a life insurance policy in the name of that individual, and then sell some or all of the death benefit payable upon the death of the insured to stranger investors. To maximize the expected rate of return, STOLI speculators often target individuals who are elderly, and material information concerning the proposed insured often is inflated or otherwise misrepresented to qualify for the most valuable policies with the highest death benefits at the lowest premiums.

The speculators usually will pay for the insured’s related costs, such as application fees and premiums, and may even pay the insured some compensation upon issuance of the policy. To conceal the nature of such policies, the insured individual often will designate either the policyholder or beneficiary of the proceeds, or both, to be a shell third party entity such as a trust, and then transfer the beneficiary interest to a STOLI entity after obtaining the policy.

In recent months, a number of court decisions have been issued in cases involving allegations by insurance companies of STOLI fraud on the part of investors and beneficiaries. Most of these opinions, on a wide variety of STOLI issues, have been rendered by federal district judges, sitting in diversity, across the country: from Minnesota, Delaware, Pennsylvania and Maryland to New Jersey, Illinois, Indiana and Florida.[1]

New York courts, of course, also have been active in lawsuits alleging STOLI fraud,[2] with a decision in late September by U.S. District Court Judge Harold Baer of the Southern District of New York, in Settlement Funding, LLC v. AXA Equitable Life Ins. Co.,[3] illustrating many of the most significant issues raised by these kinds of lawsuits.


As Judge Baer explained, the case arose on May 11, 2007, when AXA Equitable Life Insurance Company issued a $5 million life insurance policy to the “Esther Adler Trust” that insured the life of Mrs. Adler. Eli A. Rubenstein, the trustee of the trust, had applied for the policy; the trust beneficiaries included Mrs. Adler’s two daughters, Judith Abrams and Zeva Citronenbaum, as well as Chaim Citronenbaum, Mrs. Adler’s son-in-law.

According to AXA, the policy was obtained through fraud. For instance, AXA asserted that although the policy application claimed that Mrs. Adler had a net worth in excess of $12 million, she in fact lived in an apartment in Ohio and had assets of less than $100,000. Moreover, AXA submitted evidence suggesting that an unidentified individual had assumed a false identity, represented himself as Mrs. Adler’s accountant, and confirmed as true the misstatements made on the policy application during AXA’s underwriting process prior to AXA’s issuance of the policy.

In addition to this, AXA presented evidence that Mrs. Adler’s signature was forged on the trust agreement, contending that she was in Ohio at the time the trust agreement was signed in New York, and that the notary who allegedly took her signature had never met her, had not notarized her signature, and had not notarized the trust (suggesting that his signature, too, had been forged).[4]

Contradicting a statement on the application to the effect that the policy would not be transferred for settlement or on a secondary market, Mr. Rubenstein on behalf of the trust transferred the policy to Life Settlement Corporation (“LSC”) for $750,000. The policy subsequently was transferred to Settlement Funding, LLC, a sister company of LSC.

After Mrs. Adler’s death, Settlement Funding brought suit against AXA, seeking payment of the policy proceeds. Settlement Funding argued that the incontestability clause in the policy precluded all challenges and AXA had to pay the death benefit. AXA responded that the policy was subject to challenge despite the incontestability clause, arguing that it had been created as part of an unlawful STOLI scheme and that its true owner at the time of issuance was a stranger to Mrs. Adler who therefore lacked any insurable interest in her life, defined in New York Insurance Law § 3205 as either a substantial interest engendered by love and affection or a substantial economic interest in the continued life of the insured. As a result, AXA argued that the policy was void ab initio. Settlement Funding disputed many of the alleged facts supporting these claims, but asserted in any event that such facts were immaterial because AXA was legally barred from contesting the validity of the policy. Settlement Funding moved for summary judgment.

The Incontestability Clause

As the court explained, New York requires that any policy for life insurance contain an incontestability clause. Pursuant to Insurance Law § 3203(a)(3), the typical life insurance policy “shall be incontestable after being in force during the life of the insured for a period of two years from its date of issue.” Judge Baer explained that the incontestability clause served the important function of encouraging buyers to purchase insurance with confidence that after the contestable period had passed they were assured of receiving benefits for which they paid premiums, and strict adherence to such clauses served the public policy interest in allowing parties to contract as they saw fit.

Indeed, the court noted that the New York Court of Appeals has suggested in dicta in New England Mut. Life. Ins. Co. v. Caruso[5] that the incontestability clause even barred challenges to policies issued on the basis of fraudulent misrepresentations, and that other New York courts have held that once the incontestability clause had been met the issuer was precluded from challenging the validity of the policy even where the insured had failed to disclose material facts on the insurance application.[6]

Judge Baer added, however, that the incontestability clause was “not sacrosanct.” It observed that the New York State Insurance Department had opined that although all policies must contain an incontestability provision, “whether or not an individual life insurance policy is incontestable after being in force during the life of the insured for a period of two years from its date of issue depends on the facts.”[7] In addition, the court pointed out that the New York Court of Appeals in Caruso had suggested that policies outside the contestability period may be subject to attack for reasons other than lack of insurable interest.

Judge Baer also noted that a number of decisions have held in limited instances that if the facts surrounding the creation and issuance of an insurance policy failed to demonstrate that a proper contract was entered into, then the incontestability clause would not preclude a challenge by the insurer.[8] Moreover, the court said, the concern over abuses involving life insurance policies lacking an insurable interest had occasioned two opinions from the New York State Insurance Department in the last 10 years alone.[9] In the court’s view, this indicated that the need to monitor and quell an “expanding market” for STOLI policies tipped the scales “in favor of reviewing otherwise incontestable life insurance policies where, as here, a substantial factual record points to the existence of an improperly procured policy.”

The court then declared that, to determine whether a trust holding an insurance policy was a sham designed to evade the insurable interest rule or a genuine, good faith assignment, it had to consider factors such as whether the insured paid premiums, the length of time the insured held the policy before assigning it, whether the trust was executed contemporaneously to the policy application, and whether a subsequent purchaser of the policy was involved in the trust agreement.

The facts here were at a minimum “suggestive of a STOLI scheme,” the court held. Accordingly, it concluded that although an incontestability provision may not yield to challenges based solely on a lack of insurable interest or material misrepresentations, “the aggregate allegations brought here involving both lack of insurable interest and fraud, and arising from a context of allegedly widespread, systematic fraud involving careful planning, multiple policies, imposters, forgeries, and misstatements, all in pursuit of an improper STOLI scheme, raise additional material issues of fact.” As a consequence, it denied Settlement Funding’s summary judgment motion.


The New York legislature recently weighed in on the issue of STOLI fraud, and the New York Court of Appeals is going to do so soon, as well. Last fall, the Legislature enacted S66009, which included a provision that prohibits life settlement providers (who purchase life insurance policies from the original policy owners), life settlement brokers (who broker life settlement transactions between the original owner of the policy and the life settlement provider) or their representatives from engaging “in any activity” that would facilitate the issuance of a policy for the intended benefit of a person who has no insurable interest in the life of the person insured under the policy. The legislative history states that “[i]f it can be shown that there was a prior plan or arrangement for the individual to purchase the policy for the purpose of selling it to the third party, it may be determined that there was no insurable interest at the inception of the policy.”[10]

This provision may influence the Court of Appeals, which heard argument on Oct. 12, 2010, in Kramer v. Phoenix Life Ins. Co.,[11] an alleged STOLI case certified to it by the U.S. Court of Appeals for the Second Circuit on the following question: “Does New York Insurance Law §§ 3205(b)(1) or (b)(2) prohibit an insured from procuring a policy on his own life and immediately transferring 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 the insured’s life?”

Oral argument focused on a variety of issues, including the nature of insurable interest, the meaning of the phrase “on his own initiative” in the portion of § 3205(b)(1) that declares that a “person of lawful age may on his own initiative procure or effect a contract of insurance upon his own person for the benefit of any person, firm, association or corporation,” whether the transaction was an unlawful “wagering” or “gambling” transaction, the applicability of the incontestability clause, the ongoing viability and interpretation of the Court’s decision in Caruso, the significance, if any, of having an undisclosed third party involved in the transaction, and whether the policy was enforceable, and if so, to whom the insurance carrier should make a payment. Much is likely to be settled in New York when the Court issues its decision in this case.


[1] See, e.g., PHL Variable Ins. Co. v. U.S. Bank N.A., 2010 U.S. Dist. LEXIS 105576 (D. Minn. Oct. 4, 2010); American General Life Ins. v. Goldstein, 2010 U.S. Dist. LEXIS 104379 (D. Del. Sept. 30, 2010); Penn Mutual Life Ins. Co. v. BNC National Bank, 2010 U.S. Dist. LEXIS 91362 (E.D. Pa. Sept. 2, 2010); Penn Mutual Life Ins. Co. v. Berck, 2010 U.S. Dist. LEXIS 86021 (D. Md. Aug. 20, 2010); Lincoln National Life Ins. Co. v. Schwarz, 2010 U.S. Dist. LEXIS 85044 (D.N.J. Aug. 18, 2010); Penn Mutual Life Ins. Co. v. GreatBanc Trust Co., 2010 U.S. Dist. LEXIS 74878 (N.D. Ill. Jul. 21, 2010); American General Life Ins. Co. v. Germaine Tomlinson Ins. Trust, 2010 U.S. Dist. LEXIS 57049 (S.D. Ind. June 8, 2010); Principal Life Ins. Co. v. Mosberg, 2010 U.S. Dist. LEXIS 10271 (S.D. Fla. Feb. 5, 2010); see, also, Western Reserve Life Assurance Co. of Ohio v. Conreal LLC, 2010 U.S. Dist. LEXIS 56340 (D.R.I. June 2, 2010) (alleged stranger-initiated annuity fraud).

[2] See, e.g., Penn Mutual Life Ins. Co. v. Wolk, 2010 U.S. Dist. LEXIS 59507 (S.D.N.Y. June 15, 2010).

[3] 2010 U.S. Dist. LEXIS 104451 (S.D.N.Y. Sep. 30, 2010).

[4] According to AXA, two additional $5 million policies insuring Mrs. Adler’s life also were taken out, one with John Hancock Life Insurance Company, naming Mr. Citronenbaum as trustee, and one with Principal Life Insurance Company, naming Mr. Rubenstein as Trustee.

 [5] 73 N.Y.2d 74, 76 (1989).

[6] See, e.g., Ilyaich v. Bankers Life Ins. Co. of New York, 47 A.D.3d 614 (2d Dept. 2008) (granting summary judgment to defendant insurer despite misrepresentations made in the policy application). See also Kramer v. Lockwood Pension Servs., Inc., 653 F.Supp.2d 354 (S.D.N.Y. 2009) (“Courts applying New York law have held insurance carriers to the language of their incontestability clauses.”).

[7] Opinion of Office of General Counsel No. 02-02-04 (February 6, 2002).

[8] See American Mayflower Life Ins. Co. of New York v. Moskowitz, 17 A.D.3d 289 (1st Dept. 2005) (holding that if there is a forged signature to transfer ownership of a life insurance policy to a stranger, “the incontestability clause could not apply, since the provisions for incontestability inure to the benefit of the insured and his beneficiary, or to the benefit of a bona fide assignee, but not a stranger”); Provident Life and Casualty Insurance Co. v. Ginther, 1997 U.S. Dist. LEXIS 89 (W.D.N.Y. March 4, 2002); accord, Fioretti v. Massachusetts General Life Ins. Co., 53 F.3d 1228 (11th Cir. 1995); Protective Life Ins. v. Sullivan, 892 F. Supp. 299 (D. Mass. 1995); Paul Revere Life Ins. Co. v. Haas, 644 A.2d 1098 (N.J. 1994).

[9] See Opinion of Office of General Counsel No. 08-11-08 (November 26, 2008) (procurement of insurance solely as a speculative investment for the ultimate benefit of a disinterested third party is “contrary to the long established public policy against ‘gaming’ through life insurance purchase”); Opinion of Office of General Counsel No. 05-12-15 (December 19, 2005) (same).

[10] See

[11] 14 N.Y.3d 833 (2010).

This article is reprinted with permission from the November 5, 2010 issue of the New York Law Journal. Copyright ALM Properties, Inc. Further duplication without permission is prohibited. All rights reserved.

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