New Life Settlement Law Protects Policyholders and Regulates IndustryApril 22, 2010 | |
Until relatively recently, individuals who had taken out life insurance policies to protect their families in the event they died while their children were young or before they had finished college often would allow those policies to lapse or would surrender them to their insurance companies in exchange for the stated surrender value when they decided they did not need the policies any longer, perhaps because their children had grown up, their finances had improved, or the premiums had become too difficult to meet.
Today, however, there is a growing industry that in many instances provides life insurance policyholders with another alternative: the ability to transfer ownership of a policy to a third party for an immediate cash benefit, with the transferee becoming the owner of the policy, paying the premiums, and obtaining the death benefit upon the insured’s death. Indeed, a variety of entities even have begun the process of securitizing such “life settlements,” much as has been done with credit card receivables and home mortgages, with the aggregate life settlement market estimated, on a national basis, to be as large as $500 billion.1
Recent legislation enacted in New York2 and signed into law by Governor David Paterson this past Nov. 19 regulates the life settlement industry in the state for the first time. Most of the provisions of the law, known as the Life Settlements Act, are effective May 18, which is 180 days after the date the governor signed the bill into law, although provisions relating to privacy, disclosure, and stranger originated life insurance (STOLI) took effect immediately.
This is not the first time that the New York Legislature has sought to regulate the sale of life insurance policies by policyholders to third parties. In 1994, the Legislature enacted Article 78 of the Insurance Law to address the viatical settlement market, where an insured with a catastrophic or life-threatening illness or condition, and a life expectancy of two years or less, sells his or her life insurance policy to pay for medical care, experimental medical treatments, or other essential needs. The viatical settlement market has many similarities to the life settlement industry, but the life settlement business involves policyholders who typically have a life expectancy of more than two years at the time of the policy transfer. The new legislation establishes a comprehensive statutory framework that regulates all such transactions,3 whether or not the insured has a catastrophic or life-threatening illness or condition, while at the same time offering significant protections to consumers.
License, Privacy Provisions
The text of the new law runs 36 pages, and contains 21 distinct and lengthy sections that cover a great deal of ground. Sections 3 and 4 requires that every life settlement broker4 obtain a license, which license is subject to revocation or suspension, and to not being renewed, by the Superintendent of Insurance upon a finding that the broker has violated the law or used fraudulent, coercive, or dishonest practices, among other things. Section 5 provides that life settlement brokers may receive compensation only pursuant to a written contract, and prohibits excess charges.
Section 11 of the law repeals existing Article 78 of the Insurance Law and adds a new Article 78. The new Article 78 contains a wide range of provisions, including privacy protections for individual policyholders. For example, new Article 78 prohibits life settlement licensees and registrants from disclosing the identity of the insured or policy owner in connection with a proposed or actual life settlement unless the disclosure is necessary for specifically identified purposes, and it prohibits any person who obtains or may obtain a settled policy from disclosing the identity of the insured under, or owner of, the policy.
New Article 78 also:
- requires life settlement providers to obtain approval from the Superintendent of Insurance of life settlement contract forms prior to use;
- requires that each licensee file an annual statement with the Superintendent, and authorizes the Superintendent to examine or investigate the affairs of any licensee, registrant or applicant;
- requires specific disclosure to be provided by the life settlement provider and the life settlement broker including the amount of compensation to be paid to the broker; and
- permits a life settlement provider to transfer ownership of a settled policy only to another licensed life settlement provider, accredited investor, qualified institutional buyer, financing entity, special purpose entity or related provider trust, but provides an exception to that requirement by allowing a transfer of ownership of a settled policy to persons other than the listed persons if no personally identifying information of the policy owner or insured is provided to such persons.
The new Article 78 also contains a provision entitled “Stranger-Originated Life Insurance,” or STOLI, which prohibits life settlement providers, life settlement brokers, or their representatives from engaging in any act, practice, or arrangement at or prior to issuance of an insurance policy to facilitate issuance of the policy for the intended benefit of a person who has no “insurable interest”5 in the life of the insured. Among the specific acts that are prohibited are the purchase of life insurance with resources or guarantees from or through a person that, at the time of the policy initiation, could not lawfully initiate the policy.
Sections 12, 13, and 14 of the law amend Insurance Law §403 to make the commission of a fraudulent life settlement act a violation of the Insurance Law, define a fraudulent life settlement act by reference to Penal Law §176.40, and add “fraudulent life settlement act” as one of the actions for which the Superintendent is empowered to impose a civil penalty.
The Legislature seemed intent on prohibiting fraudulent life settlement acts-Section 17 amends Insurance Law 406 to provide immunity from civil liability for any person who, in good faith, provides information relating to suspected fraudulent life settlement acts to law enforcement officials, the insurance frauds bureau, or other specified persons.
Moreover, Section 18 adds a new Insurance Law §411 detailing the required parameters of life settlements fraud prevention plans that every life settlement provider must implement and report annually to the Superintendent. Finally, Section 19 adds seven new sections to the Penal Law to create new crimes of life settlement fraud and aggravated life settlement fraud.
Standards of Conduct
The new law provides for a transparent marketplace by requiring disclosure to a policyholder of a full and complete description of all offers, counter-offers, acceptances and rejections related to a proposed life settlement, a complete reconciliation of the amount of each life settlement provider’s gross offer to the net amount of proceeds to be received by the policyholder, the identity of the life settlement broker receiving any compensation with respect to the life settlement contract and the amount and terms of any compensation paid to the life settlement broker and any other person.
The new law also establishes standards of conduct and prohibits anti-competitive behavior. It also mandates significant consumer protections, requiring, for example, disclosures advising consumers of the life settlement broker’s fiduciary duty to the owner of the policy;6 certain tax consequences that may result from receipt of the life settlement proceeds; the owner’s right to rescind the life settlement contract; the possible adverse impact on the insured’s insurable capacity; certain medical, financial or personal information that may be disclosed; and the fact that, the insured may be contacted at certain delineated times to determine health status.
With the licensing and reporting requirements contained in the law, criminal and civil penalties for statutory violations, and privacy and disclosure mandates, policyholders in New York will have greater protection and transparency in their interactions with the life settlement industry.
Norman L. Tolle is a partner in Rivkin Radler’s insurance and coverage litigation, and litigation and appeals practice groups. He can be reached at [email protected].
1. See, e.g., Jenny Anderson, “Wall Street Pursues Profit in Bundles of Life Insurance,” N.Y. Times (Sept. 6, 2009), available at http://www.nytimes.com/2009/09/06/business/06insurance.html.
2. See S66009.
3. “Life settlement contract” is defined in the new law as an agreement, subject to certain exclusions, “establishing the terms under which compensation is provided to an owner, which compensation is less than the expected death benefit of the policy, in return for the assignment, transfer, sale, release, devise or bequest of any portion of: (A) the death benefit; (B) the ownership of the policy; or (C) any beneficial interest in the policy, or in a trust or any other entity that owns the policy, where a primary purpose of the transaction is to acquire the policy.”
4. The statute defines a life settlement broker as: “a person who, for compensation, solicits, negotiates or offers to negotiate a life settlement contract; except that such term shall not include a licensed life settlement provider, or representative thereof, licensed attorney at law, certified public accountant, or financial planner that is accredited by a nationally recognized accreditation agency acceptable to the superintendent, who is retained in his or her professional capacity, does not advertise as being in the business of life settlements and is compensated without regard to whether a life settlement contract is effectuated.”
5. An insurable interest may arise by reason of blood or legal relationship or a lawful and substantial economic interest in the continued life or health of the insured. It is distinguished from an interest that arises or is enhanced in value by the insured’s death or disablement. See, e.g., New England Mutual Life Ins. Co. v. Caruso, 73 N.Y.2d 74 (1989).
6. Life settlement brokers are deemed to represent owners of life insurance policies and to owe a fiduciary duty to them, including a duty to act according to the owner’s instructions and in the best interest of the owner.
Reprinted with permission from the April 22, 2010 issue of the New York Law Journal. Copyright ALM Properties, Inc. All rights reserved. Further duplication without permission is prohibited.