Everybody seems to agree that life settlements themselves have a valid function. After all, if you've got a sizeable policy but no longer need the death benefit, and the policy's cash value won't cover your current needs, is there really a problem with finding someone willing to pay your premiums in order to have your death benefit assigned to them, in exchange for a hefty sum now?
Probably not. But when securitization enters the picture--insurance policies purchased and bundled together, then sold as an investment--that changes everything. Or does it?
The insurance industry has issues with the underlying principle and its potential for abuse, as well as long-term concerns for pricing and profitability. Jack Dolan at the American Council of Life Insurers says, "We don't get into the pros and cons of securitization. But we do make clear that STOLI [stranger-owned life insurance] is taking place and that if any investment package contains these fraudulent arrangements, there is a potential for real problems with that investment."
The STOLI he's talking about is, of course, the arrangement between total strangers for one to purchase life insurance, often on borrowed money, expressly for the purpose of turning that policy over to the other, and for the other to lend that money and then take over premiums on the policy after the contestable period is over, then to benefit when the insured dies. Forty-five states currently have guidelines regarding viatical or life settlements, according to Susan Voss, VP of the National Association of Insurance Commissioners and insurance commissioner of Iowa.
Selling a life insurance policy for a life settlement is not, in and of itself, illegal. But there is a real concern about STOLI and its rise as securitization grows. Dolan reiterates: "Our complaint resides with manufactured life insurance settlements." The data, he says, indicate a "relatively limited universe of life settlements out there." So how, he asks, could there be a robust market with only a finite number of settlements available? This is where STOLI would come in, he adds, inflating the market and increasing the capacity to securitize. "We don't have the smoking gun that shows you've got investment packages out there riddled with STOLI," he acknowledges. And although there haven't been many securitizations, "our understanding is that there's a whole batch pending."
Another concern of the insurance industry is the reputational risk. "Our industry represents safety, soundness, security," Dolan points out, "and any time you have ill-intentioned people hovering around your business, it introduces some of the wrong elements." For life insurance policies to be tied in the press to "Wall Street shenanigans" is a "headline risk." How people control their assets, life insurance among them, is not within the ability of the insurance industry to police, but "[in the context of] a STOLI policy...you've got investors cheering on the sidelines for your early demise."
Add to that the fact that the insurance industry is concerned about premiums rising if the lapse rate, which is figured into policy pricing, changes, and it's not a pretty picture.
This is the second in a three part series on securitizing life insurance. In January, what you and your clients should know.
Marlene Y. Satter, a freelance business writer who can be reached at firstname.lastname@example.org.