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Seniors & Annuities

  SENIORS: BEWARE OF THESE INSURANCE SCHEMES

     A stranger who expects to receive lots of money from an insurance company when Grandpa dies early will obviously not think about safeguarding Grandpa’s life.

     Seniors and their families are informed of an insurance scheme that may victimize seniors and expose them to financial risks and potential legal liabilities. This scheme has become commonly known as “Stranger Originated Life Insurance” (STOLI) or “Speculator Initiated Life Insurance” (SPINLIFE).

     What is STOLI or SPINLIFE?

     The STOLI or SPINLIFE scheme typically starts like this: Investors or life insurance agents may approach seniors and encourage them to purchase a life insurance policy, which will then be sold to an investor two or three years later. The seniors will be assured that the life insurance purchase itself is "free," "risk-free" or "no-cost." The seniors do not have to pay premiums and are promised an up-front cash bonus. There are also unscrupulous operators pitching "longevity survey" schemes, where seniors are paid a sum to fill out a "longevity survey" and where the seniors unwittingly reveal their private medical information to unknown third parties. This information is then used to purchase life insurance for investors who wish to wager on the senior's death.

     What holds the scheme together is a transaction called a "life settlement." A life settlement is a transfer of an ownership interest in a life insurance policy to a third party for compensation less than the expected death benefit under the policy. The third party then makes any required premium payments and holds the policy until the death of the insured, at which time the third party is paid the death benefit under the policy. For example, Grandpa owns a life insurance policy for $5 million. Grandpa then sells this policy to Jane Doe (a complete stranger) for $200,000. Jane Doe now owns the policy and will continue to pay the insurance premiums. When Grandpa dies, Jane Doe collects the death benefit under the policy.

     Life settlements in themselves are not bad and may even be a viable option for some seniors. In fact, life settlements were created in the context of a life insurance policy that was originally purchased to benefit persons (for example, a spouse or a child) who might be left destitute at the death of the family wage earner. However, STOLI or SPINLIFE schemes involve investors soliciting the original purchase of the insurance for the sole purpose of an eventual sale to them.

     Are STOLI or SPINLIFE Schemes Legal?

     Under California law, any party purchasing life insurance must have an insurable interest in the person being insured. An "insurable interest" exists where the owner of the policy is closely related to the insured, or otherwise has a financial interest in the continued life of the insured. One cannot take out a life insurance policy on a complete stranger. In a STOLI or SPINLIFE scheme, the main goal of everyone (the purchaser and the investors) is to transfer the policy in a couple of years. Thus, the insurable interest requirement may have been inappropriately circumvented. Although it is uncertain that these schemes meet the insurable interest requirement, California law prohibits executing insurance policies as "wagers" on people's lives. STOLI transactions may violate this rule.

     What Are The Risks to Seniors?

     Investor's Interest in the Death of the Senior
     STOLI or SPINLIFE transactions involve strangers not related to the senior owning the senior’s life insurance policy. These strangers are really betting on the senior's early death so they can collect the death benefit under the policy when the senior dies. Since these policies usually pay out in the millions once a senior dies, these strangers do not have any interest in the senior’s continued existence. What is to stop them from arranging a fatal “accident” for poor Grandpa so they can collect on their “investment”?

     Potential Liability to the Senior or the Senior’s Estate
     If an insurer finds out that the policy taken out on a senior’s life lacked an insurable interest, the insurer can sue the senior to cancel the policy. If this happens, the investors may also sue the senior or the senior’s estate for damages because their “investment” (the senior’s life insurance policy that they were holding to secure the death benefit) is declared void and they will get nothing. The senior or the estate may become embroiled in expensive lawsuits.

     Potential Loss of Ability to Purchase Additional Life Insurance
     There is a limit to how many times a life can be insured ("insurance capacity"). Insurers will often refuse to write additional insurance if the person’s life is already substantially insured. Thus, once a senior has already purchased a life insurance on his or her life, regardless of whether this policy was subsequently sold, the senior may be unable to obtain more life insurance.

     Tax Consequences
     Life insurance pay-outs are traditionally tax-free. However, if the senior sells the policy to a third party, the proceeds from this transaction is not tax-free. Thus, seniors may suffer adverse tax consequences from a STOLI transaction.

     The following are some strategies for seniors to protect themselves against becoming victim to this scheme:

     (1) Be suspicious of transactions involving “free,” “risk-free” or "no-cost" life insurance in exchange for the “valuable asset of insurance capacity." The agents who market these schemes typically make thousands in commissions, for the benefit of investors, who hope to enrich themselves when the senior dies. Unless the senior has a legitimate need for life insurance to protect dependents, he or she should not purchase life insurance solely to be transferred to investors.

     (2) Seek independent and experienced professional advice. For example, certified financial advisers or insurance lawyers may be able to fully explore whether a clear insurable interest exists in the transaction and to advise the senior on the personal, financial, and legal consequences of the life insurance purchase. Seniors should not simply take the word of those who are trying to profit from their death.

     (3) Fill out all insurance applications carefully and honestly. Misrepresentations and even mistakes on an application will give insurers a basis to cancel the policy. Do not follow any advice or instruction to sign an application that does not contain true information, especially information about income and health.

     (4) Never ever reveal private confidential medical information without first determining exactly what the information is intended for. If in doubt, consult with a trusted independent advisor

     (5) If you believe that you or someone you know may have fallen victim to an improper STOLI scheme, you may contact the Department of Insurance or seek experienced legal help.

© Law Offices C. Joe Sayas, Jr.