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How Does Regulation BI Impact Life Settlements?

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What You Need to Know

  • Insurers would prefer policyholders to surrender unwanted life insurance.
  • A life settlement generates several times more cash for the policyholder than a surrender does.
  • A life settlement also upholds the insurer's obligation to pay the death benefit.

The SEC approved Regulation Best Interest (Reg BI) as a consumer protection measure in 2019. Depending on your advisory role, the rule may have fundamentally changed the way you do business — or it may be business as usual, just with extra paperwork.

To recap, Reg BI:

  1. Raises the legal standard of care brokers provide
  2. Requires brokers to explain recommendations and their associated risks in writing
  3. Defines new obligations for broker-dealer organizations
  4. Specifies that only RIAs can call themselves advisors
  5. Requires general disclosure of advisory roles and fees in a Form CRS

Most of these Reg BI changes target brokers specifically, though the Form CRS disclosure applies to RIAs and brokers.

From Suitability to Best Interest

Before the SEC passed Reg BI, your recommendations as a broker only had to be suitable to your client’s strategy. Recommending securities that generated higher commissions was legally acceptable if the recommendation fit with the client’s needs and strategy. Reg BI changes that, mandating a stricter standard of working in your client’s best interest. Under Reg BI, you also must disclose the commissions you earn and other conflicts of interest.

Although the Reg BI standard is higher than the suitability standard, it is still considered by many to be less strict than the fiduciary responsibility RIAs must follow. Fiduciary responsibility means you are working primarily for the benefit of the client. Not only are you working in the client’s best interest, but you are also prioritizing the client’s needs above your own.

Standards of Care and Life Settlements

So how does Reg BI impact life settlements?

To be clear, the SEC focuses on securities, and life settlements are not securities. But the passing for Reg BI points to a larger dynamic: The U.S. government wants to protect consumers from the conflicts of interest that inherently exist in financial services. After the SEC passed Reg BI, the National Association of Insurance Commissioners (NAIC) adopted its own best interest standard specifically for annuity recommendations. Some states have subsequently taken up the NAIC rule. Others, like New York, have mandated even stricter and broader standards for insurance agents.

Life settlements are part of this conversation because they have a history of conflict. Insurers would prefer policyholders to surrender unwanted life insurance. A surrendered policy is profitable for the insurer because it cancels the insurer’s obligation to pay the death benefit. But a life settlement generates several times more cash for the policyholder vs. a surrender. It also upholds the insurer’s obligation to pay the death benefit.

Policyholders who want to maximize their cash proceeds will likely choose a life settlement over a surrender — but only if they know they have the choice. Some insurance companies have tried to keep clients in the dark by prohibiting their agents from talking about life settlements.

Holding back that information violates fiduciary responsibility and the best interest standard. Insurers have largely avoided consequences for the practice, mostly because state law hasn’t clearly established higher standards of care for insurance agents. The 2014 lawsuit, Larry Grill, et al. v. Lincoln National Life Insurance Co, is a noteworthy exception.

Given the increasing regulatory focus on standards of care, avoiding life settlement conversations is an outdated, potentially illegal practice.

Life Insurance Assets and the Client’s Best Interest

Whether you’re an agent, broker, or RIA, there are strategies you can adopt to ensure you’re acting in clients’ best interests with respect to their life insurance assets. For example:

  1. Explore a life settlement for senior clients who have unwanted life insurance. If the client is considering surrendering all or part of a life insurance policy, have the insurance appraised by a life settlement company first. A surrender and a life settlement have similar outcomes: The policyholder gets some cash and no longer pays the premiums. Comparing the cash proceeds available between the two strategies is a key step in understanding which approach is better.
  2. Remember life insurance’s value as a liquid asset. Don’t overlook the value in a life insurance policy for the client who needs to (or wants to) raise cash quickly. A life settlement won’t always be the best approach, but it is a strategy to evaluate. A client may prefer to give up the life insurance rather than tap home equity or liquidate securities.
  3. Use the market value of life insurance in net worth calculations for clients 75 or older. You might be including the accumulated cash value or surrender value of the client’s life insurance in net worth calculations. That makes sense with younger policyholders who don’t qualify for life settlements. But cash and surrender values are inadequate if the policy is worth more on the secondary market. For your senior clients 75 and older, have life insurance appraised annually by a life settlement company. That way, you can value the life insurance appropriately in your net worth calculations.

You can protect yourself from changing regulatory requirements by maintaining higher standards of care, even when the law in your state is unclear. Life insurance is an asset, to be treated with the same diligence and skill as, say, your client’s investment portfolio. If you identify conflicts of interest, in life insurance or elsewhere, disclose them. That’s best practice for managing your regulatory risk and it strengthens your client relationships, too.


Lucas Siegel (Photo: Harbor Life Settlements)Lucas Siegel is the founder and CEO of Harbor Life Settlements, a life settlement company, and Harbor Life Brokerage, a life settlement broker.

(Image: Shutterstock)