Betting on Death
Investors love a sure thing, and in this life, it doesn't get more certain than death. So it's no surprise that in recent years the market for investing in life settlements -- buying a stake in someone else's insurance and collecting the reward when he or she dies -- has grown tenfold to nearly $20 billion.
Life settlements can offer legitimate value to investors and policyholders, but the industry remains largely unregulated. And just like the overheated mortgage securities market, they've given rise to a flood of fraudulent policies, this time on people's lives.
A life settlement occurs when someone decides to sell his life insurance policy. Perhaps he can no longer afford the premiums or the beneficiary has passed away. Through a broker, he sells the policy for a percentage of the death benefit. The policy is then passed on to investors who pay the premiums until the policy matures and collect the death benefit as a return on their investment. A life settlement typically pays more to the policyholder than surrendering the insurance back to the company that issued it.
More than a dozen multimillion-dollar life settlement scams have come under investigation in states across the country since the start of 2008.
"Life settlements serve a useful purpose by enhancing the value and liquidity of life insurance policies," said Fred Joseph, president of the North American Securities Administrators Association. "But they also pose significant risks. Thousands of investors have been victimized through fraud and abuse in life settlements."
The industry for buying up others' life insurance policies first sprang up during the AIDS epidemic of the late 1980s.
"Companies loved AIDS because it was a predictable death sentence," says Gloria Wolk, a life settlement expert who learned about the practice while volunteering at AIDS services clinics. The shorter and more certain the life expectancy, the higher the returns promised to investors and the greater the lump sum offered to patients.
The turning point came in 1996, when new antiviral drugs destroyed the market for AIDS policies. But by 1999 the industry had reformed, offering its services to seniors instead of the terminally ill. Since then, it has experienced rapid growth. In 2002, it was valued at $2 billion. Now that number is closer to $20 billion.
"When you look at the age of the population in the United States and the amount of life insurance in force [$15 trillion], you realize that the life settlement market is just the tip of the iceberg," said Zohar Elhanani, chief operating officer of Legacy Benefits, which runs exclusively on institutional capital and is one of the oldest life settlement firms in the nation.
Just as the overheated market for securities backed by people's homes generated a wave of subprime mortgages, the market on people's lives has created a boom in fraudulent insurance policies known as "stranger originated life insurance," or STOLI.
STOLI is illegal. It begins with a life insurance agent, who in many cases is now also a life settlement broker. The agent persuades elderly seniors to take out large policies by offering meals, trips and cash. The agent or life settlement firm agrees to pay the premiums. Ownership is then quickly and quietly transferred, often to a trust, where it is sold on the open market.
A recent industry study found that more than 50 percent of life settlements were on policies less than four years old, and the vast majority of those were on policies two to three years old.