WASHINGTON — A lawmaker is calling for federal oversight over the life settlement industry, and for a look at life settlement taxation rules.

Sen. Herbert Kohl, D-Wis., chairman of the Senate Special Committee on Aging, said at a hearing on the life settlement market that the market can be helpful to older Americans.

“Life settlements can be a worthy alternative for seniors who are considering the sale of their life insurance policies,” Kohl said today at the hearing, which had the title, “Betting on Death in the Life Settlement Market: What’s at Stake for Seniors?”

Life settlement payments often are higher than policy cash surrender values, and members of the committee staff have interviewed many honest, competent players in the industry, Kohl said.

“But selling one’s life insurance policy is a complex transaction, fraught with possible hidden pitfalls,” Kohl said.

Concerns include the state of consumer disclosures and the rise of stranger-originated life insurance, Kohl said.

“It is crucial that the federal role be made clear,” Kohl said. “We may be introducing legislation to address this issue.”

The Aging Committee has asked the U.S. Government Accountability Office to review the life settlement market, and it has asked the Internal Revenue Service and the U.S. Securities and Exchange Commission to clarify their positions on life settlements, Kohl said.

In the area of taxation, “the current lack of guidance may be creating loopholes,” Kohl said.

Kohl reported that Treasury Secretary Timothy Geithner, who is head of the agency that overses the IRS, has written to say that the IRS soon will address the life settlement issue.

SEC Chairman Mary Schapiro said the SEC will be taking a look at life settlement brokers, and she clarified the SEC’s views on SEC jurisdiction over many aspects of the life settlement market, Kohl said.

Schapiro said the SEC believes that a life settlement comes under its authority if the policy innvolved is a variable life insurance policy or some other product that is treated as a security. A life settlement transaction also would come under SEC authority, “regardless of whether the policy is a security (and many life insurance policies are not) if the owner sold the policy in order to purchase securities with the proceeds,” Schapiro told the Aging Committee.

During testimony at the hearing, Kohl and Sen. Melqu?ades Martinez, R-Fla., the highest-ranking Republican on the Committee on Aging, grilled a panel of witnesses that included two representatives from the life settlement industry; a life insurance executive who appeared on behalf of the American Council of Life Insurers, Washington; two insurance regulators; a state securities regulator; and Stephan Leimberg, a Havertown, Pa., financial services expert who has written Tools and Techniques of Life Settlement Planning,
a book published by The National Underwriter Company.

Michael Freedman, a senior vice president at Coventry First L.L.C., Fort Washington, Pa., talked about the value that life settlement companies offer consumers.

“Life settlements provide a valuable alternative to the lapse or surrender of a policy,” Freedman said. “Life settlements pay policy owners fair market value for their policies.”

According to an actuarial firm, about 88% of life insurance policies are surrendered or lapse without paying a death benefit, Freedman said.

“A policy’s surrender value is typically a small fraction of its market value,” the value paid by an insurer for a lapsed policy is zero, and life settlement payments “typically exceed the surrender value by many multiples,” Freedman said. Coventry First has paid “approximately $2 billion to policy holders in excess of the surrender value of [consumers'] policies,” he added.

James Avery Jr., president of individual life at Prudential Financial Inc., Newark, N.J., who represented the ACLI, testified that, even though consumers get far less for surrendered policies, that is appropriate.

The industry prices its policies based on the assumption that some insureds will benefit, while others will not, Avery said.

The product pricing decisions, which usually do not take possible policy purchases by life settlement companies into account, help ensure the solvency of the underwriters, he said.

“The beneficiaries of those who unfortunately die early receive a benefit much larger than the premiums that were paid in,” Avery testified. “The source of much of that benefit is the premiums paid by those fortunate enough to live. The premiums collected from those who choose to discontinue their coverage or let it lapse before death are also part of the funding of the benefits paid on behalf of those who die while insured. And insurers, whose block of business performs in the expected manner, also benefit.”

Leimberg said life settlement transactions are often difficult to understand, even for professionals.

Leimberg gave the following recommendations for improving the situation:

- Require life settlement companies to disclose more information.

- Strengthen licensing and education requirements for life settlement brokers, and giving all life agents and brokers more information about the life settlement process.

- Enact rules that are uniform from state to state, to keep predators from avoiding regulatory action by moving to new jurisdictions.

- Require that insureds get the names of the new actual policy owners as well as of the life settlement providers.

- Give seniors at least 15 days to back out of life settlement transactions.

- Establish guidelines for sales, marketing and promotional materials.

Links to a video recording of the hearing and written versions of the witnesses testimony are available here.