STAT STRANGER-ORIGINATED ANNUITY TRANSACTIONS: Migration of STOLI? Jim Hoffman Drinker Biddle & Reath, LLP

Transcription

1 STAT STRANGER-ORIGINATED ANNUITY TRANSACTIONS: Migration of STOLI? Jim Hoffman Drinker Biddle & Reath, LLP

2 AGENDA > Define Stranger-Originated Annuity Transactions > NAIC Hearing on STAT May 20, 2010 > Ruling in Rhode Island STAT cases (Caramadre) > Implications of STAT on your business > Questions & Discussion

3 What Is STAT? > Stranger Investors > who cause the procurement of > deferred variable annuities > with guaranteed minimum benefits or riders > on the lives of terminally-ill annuitants > for the gain of stranger investors

4 FINRA Rule 2330 > Prior to transmitting a customer s application for a deferred variable annuity to the issuing insurance company for processing a registered principal shall review and determine whether he or she approves of the recommended purchase or exchange of the deferred variable annuity.

5 Guaranteed Minimum Benefit Riders > Living and Death Benefits options > Purchased at additional cost, before the contract is issued > Also may be funded through additional periodic charges to policy value

6 Guaranteed Minimum Death Benefit > Return of all premium, if the annuitant dies before periodic payments begin > If the Annuitant dies after periodic payments have begun, then the Beneficiary receives the greater of (1) policy value or (2) annuity s cash value > In STAT scheme, investor knows he gets his money back, either way

7 Guaranteed Minimum Living Benefit > Protects annuitant from downside risk in securities account for duration of periodic payments > If investment of $1 million falls to $700,000, periodic payments will still reflect investment value of $1 million > Previously underpriced GMLB riders have created great concern for certain insurers

8 IIPRC Proposed Cover Language > The purpose of the guaranteed minimum death benefit provided under this annuity contract is to provide security through a stream of monthly income payments to the owner. The guaranteed minimum death benefit will terminate upon assignment or a change in ownership of the contract unless the new assignee or owner meets the qualifications specified in the Termination provision of the guaranteed minimum death benefit.

9 IIPRC Proposed Model Language > A GMDB form that is built in or attached to the contract by rider, endorsement or amendment may include the following conditions for termination of the benefit feature or the rider, endorsement, or amendment: Upon a change in ownership (or assignment) of the contract ( 2G(2)(f))

10 NAIC Hearing on STAT > Commissioners heard testimony from: Consumers Insurance & Securities Regulators Actuaries Life Settlement Industry Broker-Dealers and Producers Life Insurance Industry

11 Testimony of Robert Mizzoni > Mizzoni, a retired school bus driver, had driven Caramadre to school, years ago > After a Catholic church service, Caramadre approached the 83 year old Mizzoni about an opportunity > Caramadre handed Mizzoni $2,000 check, apparently to assist with Mizzoni s medical bills > Mizzoni alleges Caramadre forged his signature on annuity application

12 Ohio Insurance Dept. STAT Bulletin > April 2009 newsletter encouraged carriers to: Review chargeback policies in case of annuitization within the first year Monitor agents who may be involved in STAT Check applications for appropriate medical underwriting questions Establish red flags to identify questionable applications Report potential STAT to the appropriate insurance regulator

13 FINRA as Guiding Light > Importance of existing suitability guidelines > Principal is required to review all variable annuity applications before submission to carrier > Broker-dealer liable for actions of its registered representative and principal > Regulatory Notice reinforced Rule 2330 > FINRA purportedly considering enforcement actions against STAT promoters in Rhode Island

14 ACADEMY OF ACTUARIES > STAT plan takes advantage of a contract feature in a manner not intended. > As a typical retirement vehicle, in traditional annuity, owners are annuitants. > In STAT, owner is a stranger investor. > GMDB provides investor with no downside. > Until STAT, GMDB did not provide death benefit significant enough to necessitate health underwriting (STAT changed mortality from 1% to nearly 100%)

15 Insured Retirement Institute > Encouraged Regulators to close loopholes Provide broad notice about the suitability requirements for annuities Require consent of annuitant > Encourage Underwriters to increase scrutiny Look closely at annuities owned by Trusts and by Corporations Consider investigations of death claims made before start of periodic payments

16 Life Settlement Industry > No Secondary Market exists for VAs > Ask NAIC to develop new STAT Model Laws > Ask Issuers to undertake additional medical underwriting > Fully-regulated Secondary Market exists Structured Settlements Lottery Annuities

17 Prudential > Deferred VAs serve an important purpose, especially for retail investor without the traditional defined benefit retirement plan. > STAT will increase cost of annuities Pricing based on individual customers who have a variety of preferences and needs. Institutional investor behavior does not exhibit the same variability > LISA has targeted GLBs for institutional investors

18 Insurable Interest Debate > Do Annuities require an insurable interest? > Do Death Benefit Riders convert the annuity into a life insurance policy? > State statutes differ about whether annuities can be issued without an insurable interest.

19 State Statutes Differ > Annuities classified as life insurance, by definition, and insurable interest rules apply. > Annuities explicitly recognized as different from life insurance, and no insurable interest is required. > Statutes are ambiguous about whether annuities are life insurance and about whether insurable interest is required.

20 Western Reserve Life v. Caramadre et al. > Seven well-publicized insurer-initiated actions in federal court in Rhode Island, filed against promoters, producers, broker-dealer, and owners > Alleged scheme is now target of SEC probe, FINRA scrutiny, and investigation by FBI and US Attorney s Office > R. Mizzoni s testimony shed additional light on alleged acts of Caramadre and his associates

21 Insurers asserted claims for > Rescission, or Declaration that contracts are void > Common Law Fraud > Civil Liability > Civil Conspiracy > Breach of Contract > Breach of Implied Covenant > Negligence

22 Three Defenses Identified by Judge > Insurable interest does not apply to annuities. > Annuities at issue are immediately incontestable, and cannot be challenged. > Defendants did not make any misrepresentations, because applications did not ask specific questions

23 Annuities are NOT Life Insurance > Annuity contracts are not life insurance contracts, under RI law, because RI law places annuities and insurance contracts in separate categories. > The RI "General Assembly recently reinforced the statutory distinction between annuities and life insurance by enacting the Life Settlements Act ('LSA') ", which never uses the term annuities

24 Annuities embrace the gamble > Older Rhode Island Supreme Court decisions recognize that "there is a fundamental difference between life insurance, which requires an insurable interest...to prevent gambling on human life..., and annuities, which embrace the gamble as a core component of the contract..."

25 Insurable Interest Does Not Apply > Because the definition of life insurance ( insurance contract[s] upon the life or body of another ) does not include annuities, annuities sold in Rhode Island do not require an insurable interest.

26 Judge Not Impressed with Insurers Claims that Annuities require an Insurable Interest > Variable Annuities with guaranteed minimum benefits invited riskless securities speculation... > Court recognized that Defendants figured out how to game a flaw in the product. > Judge noted the lack of application questions about the relationship between the annuitant and either the owner or beneficiary. > Court concluded that the argument is just a newly-minted reaction to this STAT scheme.

27 Insurers Cannot Challenge Incontestability > The annuity contracts all include immediate incontestability provisions, which serve to deflect claims to rescind the annuities or have them declared void because of fraud > Contracts state no fraud exception > [I]ncontestability clauses also effectively knock out Plaintiffs' claims for fraud, conspiracy, and civil liability for crimes and offenses against the policy owners

28 Invisibility Cloak > However, the court allowed the fraud action to stand against the sponsors, agents, and brokers because "unlike Harry Potter's 'Invisibility Cloak,' which could conceal not only Harry, but anyone who wore it," the sponsors, agents, and brokers cannot invoke protection of the incontestability provision.

29 Why You Should Care About STAT > Insurable interest defense already under attack by STAT promoters. > Immediate incontestability deters post-issuance investigations. > Need for mandatory improvement in financial and medical underwriting of variable annuities. > What does Caramadre mean for STAT promoters? > Which states have good annuity laws? Which ones do not? How does it affect your marketing?

30 Why You Should Care About STAT > Immediate exposure to improperly priced GMDB claims. > Privacy and security concerns about forgeries. > Is STAT the source of your next market conduct examination? > Caramadre cases attacked annuities for lack of insurable interest, when statute did not require it; so, choose proper jurisdictions in which to file lawsuits. > Are you monitoring existing blocks of annuities? > How will you underwrite VA business now?

31 Reasonable Steps to Take > Screen Your Existing Business NOW Watch for multiple, common owners & addresses Pay attention to corporate ownership Keep Database of participants and fringe players > Develop a Marketing Policy to limit STAT Clear Statement that you will not accept STAT Limit Ownership Options Create Expectations about Underwriting > Create a Dialogue with your Reinsurers

32 Questions? Jim Hoffman