Monday, March 17, 2014

No. 36: A Life Partners Agent Runs Afoul of the Oregon Securities Law

On February 21, 2014, the securities regulator in Oregon issued a press release announcing a consent order directed at James Walter Malanowski, a resident of Oregon and an agent of Life Partners, Inc. (LPI). LPI, based in Waco, Texas, is an intermediary in the secondary market for life insurance policies. The consent order, issued August 13, 2013, provides a rare glimpse into the activities of an LPI agent.

In 1983, Malanowski became licensed as a resident producer by the Insurance Division of the Oregon Department of Consumer and Business Services (Department). In 2010, he became an LPI agent. He was not licensed by the Department's Division of Finance and Corporate Securities (DFCS) to offer or sell securities.

As explained in the consent order, LPI buys a life insurance policy directly from the insured or through a broker. LPI resells the policy to an institutional buyer for more than LPI paid for it, or sells fractionalized interests to individual buyers. In the latter case, if the insured outlives the estimated life expectancy, the buyer of a fractionalized interest must pay additional premiums for his or her portion of the policy.

Malanowski's Workshop
Malanowski used various techniques to sell fractional interests. In one instance, he hired a company in Irvine, Texas, to advertise, through a mailer, a free meal at a "Senior Financial Workshop" held in a Portland-area restaurant. The mailer went to about 4,500 Portland-area residents and said the workshop would introduce "some options and useful financial strategies which [the recipient] may not have been aware existed."

The Sale to WMH
In February 2011, WMH, a 77-year-old resident of Oregon, attended the workshop. There he learned about life settlements and agreed to a private meeting with Malanowski. In March 2011, at the private meeting, Malanowski recommended that WMH, the owner of a Roth individual retirement account (IRA), surrender the Roth IRA and use the proceeds to buy fractionalized interests.

Malanowski told WMH he had to be an "accredited investor" to buy fractionalized interests. According to Rule 501 promulgated by the Securities and Exchange Commission (SEC) in connection with Regulation D, an individual must have a net worth of at least $1 million or an annual income of at least $200,000 to qualify as an accredited investor. The consent order said:
Malanowski then provided WMH an LPI Suitability Questionnaire, which required WMH to attest to his accredited investor status. WMH initialed the space providing: "I hereby affirmatively represent that I am an accredited investor as defined in SEC Rule 501 under Regulation D for one or more of the foregoing reasons which I decline to specify due to issues of financial privacy."
Malanowski took no further steps to verify WMH's accredited investor status. WMH later told DFCS that he had neither the net worth nor the annual income to qualify for accredited investor status, and that Malanowski had counseled him to initial the questionnaire as though he qualified for that status.

WMH opened a self-directed Roth IRA with IRA Plus Southwest, LLC (IPS) of Dallas, Texas. IPS was a custodian recommended by LPI. WMH transferred about $35,000 from his Roth IRA to the IPS Roth IRA. Malanowski then sold WMH fractionalized interests in the policies of three insureds—Newmark, Zayonts, and Lesser—for a total of about $35,000. The fractionalized interests were not registered as securities with the DFCS in accordance with the Oregon Securities Law. Malanowski did not disclose to WMH that he—Malanowski—was not licensed to sell fractionalized interests in Oregon.

The consent order describes the three fractionalized interests that WMH purchased. With regard to Newmark, for example, the consent order—in exactly the following language—illustrates a significant discrepancy in LPI documents:
The Newmark Policy Funding Agreement specifically stipulated that "both parties understand and agree that their relationship is one of principal and agent and does constitute the sale of a security[.]" (Emphasis added.) Other documents provided to WMH contained statements that the LPI interests were not securities.
WMH paid $11,650, which was treated as a "loan" to LPI, for a fractionalized interest of about 0.25 percent in the $8 million Newmark policy. Upon Newmark's death, WMH was to receive about $20,000 to repay the "loan." However, if Newmark outlived his 84-month estimated life expectancy, WMH would be required to pay additional premiums.

The Department's Findings
The director of the Department found that the fractional interests were securities under Oregon law, that Malanowski offered and sold three unregistered securities to WMH, and that Malanowski sold securities in Oregon without being licensed to do so. The director also found that Malanowski made misleading statements in violation of Oregon law, that he failed to disclose the fractionalized interests were not registered, and that he failed to disclose he was not licensed to sell securities in Oregon.

The director ordered Malanowski to cease and desist from violating Oregon laws, and denied him for at least two years the use of exemptions to registration requirements. The director assessed a civil penalty of $40,000, with a dollar-for-dollar reduction for the amount Malanowski paid to WMH as restitution and with an upper limit of $35,000 in the amount of the reduction in the civil penalty. Malanowski returned the entire $35,000 to WMH, and therefore the net civil penalty was $5,000. The director also ordered Malanowski to pay $1,000 to the Department's consumer protection trust fund.

Malanowski neither admitted nor denied the facts and allegations in the consent order. However, he agreed to cooperate with any investigation by the director into the business dealings of LPI or any of its associated companies, and into any interests similar to those sold by LPI. Cooperation includes but is not limited to providing testimony at any interview, deposition, administrative hearing, or trial.

General Observations
The punishment in this case seems modest. However, the consent order is significant because of the details it provides in areas such as the perennial question of whether LPI's offerings are securities and the role played by LPI in the marketing of its life settlements to individual buyers.

The "neither admit nor deny" language is common not only in insurance and securities settlements, but also in settlements in all industries. Currently, however, some regulators—the SEC is an example—are trying to force wrongdoers to acknowledge wrongdoing as part of settlements.

I am offering the 12-page consent order as a complimentary PDF. Send an e-mail to and ask for the consent order in the Malanowski case.