What regulations are appropriate for the life settlement market and which bodies should do the regulating? Should transaction costs and fees be disclosed to consumers? Are life settlements a good deal for clients?
These questions, among others, were debated by 3 experts brought together by the Society of Financial Services Professionals at its annual conference, Financial Service Forum. The panel discussion kicked off 3 days of educational sessions held here, Oct.15-17.
Regulatory controls appropriate to the industry garnered a significant part of the debate. Brian Smith, co-founder, president and CEO of Life Equity, Hudson, Ohio, said that draft legislation to restrict the use of settlements, including a proposed excise tax on the transfer of ownership of a policy within 5 years of issuance as well as extending a prohibition on policy sales from the current 2 years to 5 years, undermine “consumer choice and property rights.”
Gregory Serio, a managing director of Park Strategies, Albany, N.Y, and the former superintendent of insurance for New York, echoed Smith’s view.
“People are still operating under the notion that [life settlements] are something that we need to protect the public against,” he said. “The fact of the matter is that we may actually be restricting consumers’ rights to dispose of policies as they choose.
“[This debate] is not about consumers but about a high-stakes game of poker between the insurance community and Wall Street,” he added. “There is going to be a showdown between all of the big players.”
Whether more or less restrictive, Serio said the rules governing life settlements ultimately will be more uniform than they are today. That is because the investment banks, hedge funds and other financial institutions that fund settlements favor federal oversight over the current state regulatory process. The shift to a national regime, he observed, will parallel the evolution of the annuities market.
John Skar, a senior vice president at MassMutual Financial, said that future legislation should mandate full disclosure of transactions costs and fees, which he noted can be substantial–and ultimately detrimental to estate planning objectives. Skar illustrated his point with a hypothetical example involving a $1.5 million universal life insurance contract issued to an individual at age 55, but who is now 65 and is expected to live to 72.
Assuming the life settlement company offers $280,000 for the policy and continues to pay premiums on the contract for 7 years (until life expectancy), the annual internal rate of return to the client is 10%. This compares to an IRR of 20% if the client’s estate purchases the policy, pays the premiums and collects the death benefit.
The difference in rates, Skar said, can be attributed to $490,000 in costs that are loaded into the settlement transaction. According to a Deloitte/UCONN 2005 study that Skar cited, the loss in economic value to the client includes risk profit (29% of costs), taxes (25%), selling commission (15%), brokerage fee (12%), servicing and provider costs (7% each) and expense profit (6%).