Significant interest in the life settlement industry continues in a majority of states, as well as at the federal level. During the first half of 2009, five states enacted new life settlement laws, while 10 other states have amended existing life settlement acts. Legislation is currently pending in nine states that as yet have not adopted life settlement acts. The trend still favors legislation based on the NCOIL Model Act as amended in 2007, although proponents of the amended NAIC Act and its five-year rule have had some success in certain states.
A quick overview of state legislation related to life settlement laws as of August 2009:
Primary issues of concern at the state level
- States that have adopted life settlement laws: AK, AR, CO, CT, FL, GA, HI, ID (eff. Jul. 09), IA, IN, KY, KS, LA, MA, MD, ME, MN (eff. May 09 and Aug. 09), MS, MT, NC, ND, NE, NJ, NV, OH, OK, OR (eff. Jan-2010), PA, TN, TX, UT, VT (eff. Jul-09 and Jan-2010), VA, WA (eff. Jul-09) and W.VA
- States that have recently amended previously enacted life settlement laws: AR, GA, IA, ME, MT, ND, NV, TN, UT and W.Va
- States that currently regulate only viaticals: CA*, DE, IL*, MA*, MI*, NM, NY*, and WI*
- States that have not enacted any settlement laws: AL, AZ, D.C.*, MO, NH, RI*, SC, SD and WY
- States with proposed legislation currently under review: CA, D.C., IL (on the Governor's desk), MA, MI, NC, NH, NJ, NY, RI, TN, and WI
- States where administrative rule-making processes are ongoing or expected in near future: AR, GA, HI, ID, LA, MN, MT, NV, OH, OR, VT, WA, W.Va
Insurable interest issues and Stranger Originated Life Insurance (STOLI) practices continue to be at the top of the lists of priorities among lawmakers throughout the country. Among the options that are being used to combat STOLI are:
- Insurable interest laws aimed directly at STOLI. Some states have passed laws that attempt to define STOLI and declare such practices to be illegal violations of insurable interest laws. Often, these laws are adopted with new or amended settlement laws, although Arizona elected to adopt a stand-alone anti-STOLI statute without adopting any settlement laws. Minnesota recently adopted a new insurable interest law, applicable to policies issued after May 2009, which essentially says that any settlement within four years after the policy was issued is presumed to be part of an illegal STOLI transaction unless it can be proven that the policy was not a STOLI product.
- Beneficial interest transfers included in statutory definitions of a "life settlement." In a few states, newly enacted or amended settlement laws expressly provide that any transfer of beneficial interests in an insurance trust or other vehicle established for the primary purpose of owning one or more life insurance policies is considered to be a "settlement contract." In other states, regulators may take the position that such transfers are already covered by more generic provisions in existing statutes, such as those that include "indirect" transfers of a policy or of the beneficial interest in a policy.
- Longer waiting periods following issuance of a policy before it may become the subject of a settlement transaction. Two years still remains the rule in the vast majority of life settlement laws, although a few have followed the NAIC five-year rule applicable primarily to premium-financed policies. There are certain exceptions stated under both two-year and five-year statutes, generally designed to protect consumers that suffer a material change in circumstances after a policy is issued.
- Non-recourse premium financing. In nearly all settlement legislation adopted in 2008 and 2009, non-recourse premium finance transactions are identified as either falling within the definition of a "settlement contract," or as a primary element of consideration under anti-STOLI provisions, or both.
Disclosure requirements are also a focus, as more states adopt new or more specific requirements for consumer-protection disclosures to be given to policy owners. These include, in particular, specifications for detailed disclosure of the amount and method of calculating broker commissions, and additional disclosures related to risks that should be considered by a policy owner prior to selling a policy. Washington has also enacted requirements for disclosures that carriers must to provide to policy owners alerting them to the possibility of settlement as an alternative to letting a policy lapse or surrendering it for cash value.
Taxation of settled policies
The IRS recently released two rulings concerning the taxation of settlement proceeds as ordinary income and/or capital gains:
- Revenue Ruling 2009-13 discusses the amount and characterization of recognized income, from the standpoint of a policy owner (other than an investor-owner) resulting from either a surrender of the policy for cash value or sale of a policy through a settlement. See: http://www.irs.gov/pub/irs-drop/rr-09-13.pdf
- Revenue Ruling 2009-14 addresses tax treatment from an investor's perspective upon receipt of the death benefits from a previously settled policy, or upon resale of the policy. See: http://www.irs.gov/pub/irs-drop/rr-09-14.pdf
Proposed tax changes affecting life insurance are also under discussion in Washington, including changes eliminating the deductibility of expenses associated with certain employer-owned policies. Other proposals would require informational returns to be filed by settlement providers and other purchasers of settlement policies in connection with the purchase of any policy, as well as by insurance carriers upon payment of death benefits.
Proposals for federal regulation of the insurance industry
In its report, "Financial Regulatory Reform, A New Foundation: Rebuilding Financial Supervision and Regulation," the U.S. Department of Treasury articulated a commitment to the continued regulation of insurance at the state level, but also stated concern regarding the lack of uniformity from state-to-state. The report recommended establishment of an Office of National Insurance, within Treasury, to "gather information, develop expertise, negotiate international agreements, and coordinate policy in the insurance sector." The Treasury Department also proposes to assume greater financial oversight with respect to insurance holding companies.
Following release of the Treasury report, HR 1880, the National Insurance Consumer Protection Act, was introduced in Congress. This bill proposes to appoint a National Insurance Commissioner whose primary duties would be to (1) oversee the organization, incorporation, operation, regulation, and supervision of national insurers and national insurance agencies and shall issue charters therefore; and (2) license, regulate, and supervise national insurance producers. If adopted and subject to a few exceptions, HR 1880 would provide that any nationally chartered insurer, insurance agency or insurance producer would be regulated at the federal level only, and would not be subject to licensing, examination, reporting, regulation, or supervision by any State as related to the insurance operations of such insurer, agency or producer.
HR 2554 was then introduced to effect the reestablishment of the National Association of Registered Agents and Brokers to provide a mechanism for licensing, continuing education, and adoption of qualification requirements on a multi-state basis, while still preserving the right of states to license, supervise and discipline insurance producers, and to prescribe and enforce laws and regulations concerning insurance-related consumer protection and unfair trade practices.
HB 2609 seeks to establish an Office of Insurance Information, the Director of which would report to the Secretary of the Treasury, primarily serving information gathering and advisory purposes similar to the description previously set out in the Treasury Department's report.
All three of these bills are available through the following Web site: http://thomas.loc.gov/home/c111bills.html
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