NEW YORK - Just when many broker-dealers and advisers are starting to ramp up the use of life settlements and bring them into the financial planning mainstream, regulators are increasing their scrutiny.
In a life settlement, a policyholder's life insurance policy is sold to a third-party investor. The policyholder then receives a lump sum greater than the policy's cash value, and the investor gets the death benefits.
Earlier this month, National Financial Partners Corp. in New York received a subpoena from New York Attorney General Eliot L. Spitzer requesting information on its life settlement business.
"We are working with the attorney's general office on this matter but have no other information to provide at this time," said Elliot Holtz, a spokesman for NFP. In a Securities and Exchange Commission 10-K form filed this month, NFP noted that changes in how life settlements are regulated "could adversely affect our revenue and financial results."
At this time, the investigation seems to be limited to NFP, as no other firms have reported receiving subpoenas.
"I'm not worried about an investigation. We're really straight here about how we conduct business," said Larry Simon, chief executive of Life Settlement Solutions Inc. in San Diego. "But it takes a lot of time and money to cooperate, and no one knows what the Spitzer inquiry is all about yet."
On the NAIC agenda
In addition to Mr. Spitzer's probe, the regulation of life settlements will be discussed May 3 in New York at a special meeting of the Kansas City, Mo.-based National Association of Insurance Commissioners.
"We'll be exploring whether an insurable interest exists in instances where investors finance premiums for policies on the lives of other people," said Jim Poolman, North Dakota's insurance commissioner and chairman of the NAIC committee studying this topic. "These settlements were originally intended to benefit the terminally ill, but what's happened is that life insurance policies are being traded like commodities."
There also is controversy over whether regulation should continue to be exercised by
state insurance departments
or transferred to federal agencies. Currently, the 50 state insurance departments regulate life settlements.
In recent speeches, NASD CEO-designate Mary Schapiro has said that the agency considers life settlements to be securities, and broker-dealers therefore should be supervising settlement sales practices by their representatives.
Mr. Poolman disagrees.
"I think that the life settlements are clearly insurance products," he said. "My hope is that the state insurance departments will adequately regulate them and continue to do so."
Model NAIC laws on life settlements have been passed by "a majority of the states," Mr. Poolman noted.
"I don't see a switch to federal regulation in the near future," Mr. Simon said. "These products aren't insurance, but it doesn't appear to me that federal agencies have a strong desire to regulate them."
Unfair assaults feared
Meanwhile, the life settlement industry's trade groups are trying to weather the regulatory storm and polish the image of their member firms.
"There's anxiety that stories in the press will be used to rev up the unfair assaults on the industry," said Doug Head, executive director of the Viatical and Life Settlement Association of America in Orlando. "Also, insurers are pounding on regulators' heads to go after the life settlement business," he added.
That's because life insurers are worried that the settlements will wreak havoc on lapse-rate assumptions and will require them to maintain additional reserves to pay claims, Mr. Head said.
He speculated that Mr. Spitzer's interest in the settlement industry is an outgrowth of previous investigations of insurance companies and brokers. "[Mr. Spitzer] might be looking into accounting issues such as how settlements are shown on balance sheets."
Even with settlements' regulatory status in flux, many financial advisers are expected to continue to recommend the settlements when appropriate.
More broker-dealers are opening up to the settlements and approving settlement firms that can provide them, according to Mr. Simon. "Some are neutral, some are aggressively promoting them," he said.
"Advisers are discussing the settlements where allowed by their broker-dealers," Mr. Simon added. "It would be a breach of the adviser's fiduciary responsibility not to inform the client about this alternative."