Congress moved Tuesday to crack down on financial strategies that combine the use of life insurance contracts and charities.[@@]

The leaders of the Senate Finance Committee said they would introduce legislation when the Senate reconvenes that will be designed to shut down the sale of so-called “stranger-owned life insurance” through “life insurance and life annuities-based certificates,” or LILACs. The legislation also will be designed to discourage states from broadening their definition of “insurable interest.”

Both Sen. Charles Grassley, R-Iowa, chairman of the Senate Finance Committee, and Sen. Max Baucus, D-Mont., the ranking minority member, are backing the legislation.

The actual legislation was not made available, but the committee says one provision will require taxpayers to report LILAC arrangements to the Internal Revenue Service. The reporting requirement will allow the agency to examine previous deals to “determine their compliance with even current law,” the committee says. Moreover, when the legislation is enacted, it will be effective as of May 3, the panel says.

The legislation will build on an earlier Bush administration proposal for dealing with LILACs that was included in the fiscal year 2006 budget, the committee says.

LILAC programs let investors get the benefit of inside buildup if they agree to give a small part of the benefits to charities, such as colleges or affiliates of colleges.

“I’m very concerned about snake oil salesmen taking advantage of tax-exempt organizations to line their own pockets with life insurance schemes,” Grassley says in a statement about the proposed LILAC legislation. “Many states are now considering legislation that would allow this kind of exploitation. The bill we’re announcing today will toll the bell on this scam.”

In the past, several life insurance trade groups have formed a coalition to lobby against state efforts to expand use of LILACs by broadening the definition of insurable interest. LILAC critics in the insurance industry have argued that the arrangements could lead to new taxes on ordinary life insurance policyholders’ inside buildup.

Groups working with individual insurers to attack state insurable interest bills have included the American Council of Life Insurers, Washington; the Association for Advanced Life Underwriting, Falls Church, Va.; and the National Association of Insurance and Financial Advisers, Falls Church, Va.

Life industry groups were not immediately available to comment on the new Senate LILAC proposal, but Ken Cohen, an associate general counsel at Massachusetts Mutual Life Insurance Company, says he believes the industry “appreciates the idea” of shutting down LILACs.

“Commoditizing the insurance business, under the guise of a charitable purpose, needs to be closed down,” Cohen says.

But Cohen says life insurers “do not like the particulars” of the specific language included in the Bush administration’s 2006 budget.

The industry has been working with Congress to come up with an alternative, Cohen says.

So far this year, MassMutual and other insurers have persuaded Maryland not to expand its definition of insurable interest, and they have persuaded the Virginia Legislature to narrow a recent expansion of its definition.

Several years ago, a major investment bank asked MassMutual itself to underwrite LILACs, Cohen says.

MassMutual declined because the company did not want to participate “in a scheme that involves commoditizing the value of someone’s life,” Cohen says.