Tuesday, December 27, 2016

No. 194: Life Partners—The Bankruptcy Court Approves a Reorganization Plan

On November 1, 2016, U.S. Bankruptcy Court Judge Russell F. Nelms, who is handling the Life Partners case, approved a reorganization plan. On the same day, the law firm representing the bankruptcy trustee issued a two-page press release about the approval. On the next day, the bankruptcy trustee sent a two-page letter about the approval to investors who had bought fractional interests in life settlements from Life Partners.

Over the years I wrote many articles in The Insurance Forum about Life Partners. I also posted many blog items before and after the initial bankruptcy filing. The three most recent posts were No. 150 (March 16, 2016), No. 151 (March 18, 2016), and No. 156 (April 15, 2016).

Developments in 2015
Life Partners Holdings, Inc. (LPHI) and its subsidiaries Life Partners, Inc. (LPI) and LPI Financial Services, Inc. (LPIFS) participated for many years in the secondary market for life insurance policies. On January 20, 2015, LPHI filed for protection under Chapter 11 of the federal bankruptcy law. On January 30, the U.S. Trustee appointed an Official Committee of Unsecured Creditors (Committee) to represent investors who had bought fractional interests in life settlements from Life Partners. On March 19, Judge Nelms approved appointment of H. Thomas Moran II as Chapter 11 Trustee. On April 7, the judge allowed Moran to expand the bankruptcy filing to include LPI and LPIFS. On May 20, Moran reported on the preliminary results of his investigation of the allegedly fraudulent business conduct that preceded the bankruptcy filing. On November 28, Moran and the Committee filed a Joint Plan of Reorganization. (See In re LPHI, U.S. Bankruptcy Court, Northern District of Texas, Case No. 15-40289.)

Developments in 2016
On January 19, 2016, Moran and the Committee filed an Amended Joint Plan of Reorganization. On March 5, Moran filed a follow-up report on the results of his investigation of allegedly fraudulent conduct that preceded the bankruptcy filing. On March 24, Moran and the Committee filed a Second Amended Joint Plan of Reorganization. On June 21, they filed a Third Amended Joint Plan of Reorganization. On November 1, after many developments, including an evidentiary hearing spread over five weeks, Judge Nelms issued a complex order approving the Third Amended Joint Plan of Reorganization.

The Order
The 50-page order includes many references to the "effective date" of the reorganization plan. On November 2, in his letter to investors about the order, Moran indicated that the effective date had not yet been determined, but that it was estimated to be November 30. The effective date turned out to be December 9. Here is the operative paragraph of the order, which begins at the bottom of page 5:
Accordingly, the Third Amended Plan, as revised at Docket No. 3427 (the "Plan") pursuant to the stipulations of certain parties, including but not limited to the Term Sheet filed at Dkt. No. 3422 and the term sheet admitted into evidence at the Confirmation Hearing as Shamrock Life Settlements et al. Exhibit 8, and in accordance with the Court's October 7 Findings and Conclusions, and inclusive of the Plan Documents, is confirmed as provided in this order (the "Confirmation Order"). [Blogger's note: Shamrock, which is mentioned elsewhere in the order, is one of several entities that had filed objections to the reorganization plan.]
The Exhibit
Attached to the order is a 70-page exhibit listing affected policies. It shows policy number, name of issuing insurance company, and face value. It includes 3,418 policies, arranged alphabetically by name of company. Here are the 11 companies (including affiliates) with at least 100 policies on the list (numbers of policies in parentheses):
Aetna Life Ins Co (108)
American General Life Ins Co (174)
Hartford Life Ins Co (104)
John Hancock Life Ins Co (131)
Lincoln National Life Ins Co (179)
Metropolitan Life Ins Co (310)
New York Life Ins Co (103)
Prudential Ins Co of America (183)
ReliaStar Life Ins Co (132)
Transamerica Life Ins Co (179)
Unum Life Insurance Co of America (169)
General Observations
Court approval of the reorganization plan is a major step toward resolving the Life Partners bankruptcy. The proceedings are now in the hands of parties such as a "Position Holder Trust," a "Creditors' Trust," an "IRA Partnership," and an "Advisory Committee." Judge Nelms has retained jurisdiction.

I would have preferred to provide more information about the order approving the reorganization plan. However, my practice is to refrain from writing about topics I do not understand well enough to be comfortable writing about them. In this instance, I do not understand the complex order well enough to discuss it. Instead, as indicated below, I am making the order available to readers who want to read it for themselves.

Available Material
I am offering a complimentary 124-page PDF consisting of the Moran letter to investors (2 pages), the law firm's press release (2 pages), the text of the order approving the reorganization plan (50 pages), and the exhibit attached to the order (70 pages). Email jmbelth@gmail.com and ask for the December 2016 package relating to Life Partners.


Monday, December 19, 2016

No. 193: Prudential Suspends Life Insurance Sales in Wells Fargo Branches

On December 12, 2016, Prudential Financial, Inc. (NYSE:PRU), parent of New Jersey-based Prudential Insurance Company of America, announced it has suspended sales of life insurance through branches of California-based Wells Fargo Bank pending the results of Prudential's internal investigation of how Wells Fargo sold the policies. I learned of the announcement from an online article in The New York Times that day. An expanded version of the article appeared in the print edition the next day. The story has been reported in other outlets, including a December 12 online article in The Wall Street Journal. Two lawsuits have been filed against Prudential. California and New Jersey insurance regulators are investigating. A U.S. Senate committee is investigating.

Background on Wells Fargo
On September 8, 2016, the Consumer Financial Protection Bureau (CFPB) issued a consent order directed at Wells Fargo. The order said in part:
[CFPB] has reviewed the sales practices of Wells Fargo, N.A. and determined that it has engaged in the following acts and practices: (1) opened unauthorized deposit accounts for existing customers and transferred funds to those accounts from their owners' other accounts, all without their customers' knowledge or consent; (2) submitted applications for credit cards in consumers' names using consumers' information without their knowledge or consent; (3) enrolled consumers in online-banking services that they did not request; and (4) ordered and activated debit cards using consumers' information without their knowledge or consent....
[Wells Fargo's] employees engaged in "simulated funding." To qualify for incentives that rewarded bankers for opening new accounts that were funded shortly after opening, [Wells Fargo's] employees opened deposit accounts without consumers' knowledge or consent and then transferred funds from consumers' authorized accounts to temporarily fund the unauthorized accounts in a manner sufficient for the employee to obtain credit under the incentive-compensation program....
[Wells Fargo's] analysis concluded that its employees opened 1,534,280 deposit accounts that may not have been authorized and that may have been funded through simulated funding, or transferring funds from consumers' existing accounts without their knowledge or consent...and that its employees submitted applications for 565,443 credit-card accounts that may not have been authorized using consumers' information without their knowledge or consent....
Wells Fargo agreed to pay a civil monetary penalty of $100 million to CFPB, and up to $5 million in redress to consumers. It also agreed to, among other things, retention of an independent consultant, oversight by the Wells Fargo board of directors, reporting and record keeping requirements, and cooperation with CFPB. (See In the Matter of Wells Fargo Bank, N.A., Administrative Proceeding 2016-CFPB-0015.)

Prudential's "MyTerm" Life Insurance
The product at the center of the current story is "MyTerm." In its December 12 announcement, Prudential said it launched the product in 2007, entered into a distribution agreement with Wells Fargo in June 2014, and said the product "was created to give customers greater choice and access to life insurance through a self-assisted, technology-enabled application process." The announcement attributed this statement to Stephen Pelletier, executive vice president and chief operating officer of Prudential's U.S. businesses:
We stand behind the MyTerm product but have decided to suspend sales of that product through Wells Fargo's retail banking franchise until we have all the facts about whether it is being distributed properly and in the best interest of customers. While our review is ongoing, Prudential remains squarely focused on doing what is right for our customers. If any Wells Fargo MYTerm customers have concerns about the way in which the product was purchased, we will reimburse the full amount of the premiums they paid and cancel the policy. We have also set up a toll-free hotline [1-877-291-7193] for these customers.
The Broderick Lawsuit
On December 6, six days before Prudential's announcement, three individuals who claim they were "wrongfully terminated" filed a lawsuit in New Jersey state court. The case was assigned to Superior Court Judge L. Grace Spencer. Governor Christie nominated her in May 2016, and the New Jersey Senate confirmed her. She received her law degree from the Rutgers University Law School. (See Broderick v. Prudential, Superior Court, Essex County, New Jersey, Docket No. ESX-L-8348-16.)

The plaintiffs and their positions prior to their termination are Julie Han Broderick, vice president, corporate counsel and co-head of the Corporate Investigations Division (CID); Darron Smith, director of CID; and Thomas Schreck, director of CID. The defendants are Prudential; Deborah Bello, chief regulatory officer; and Jane and John Doe, currently unknown Prudential "supervisors who actively and intentionally engaged in retaliatory conduct against Plaintiffs."

According to the complaint, by January 2015 Prudential had learned that MyTerm policies sold through Wells Fargo had a high lapse rate. Prudential sent a survey to MyTerm clients in an effort to determine the cause. More than 700 emails were returned as undeliverable, 12 clients did not understand the policy or know about the premiums, and at least one client complained of high pressure tactics used in an attempt to sell insurance to an individual who did not need insurance. The plaintiffs allege that Prudential took no action in response to the survey results.

In or about September 2016, Prudential conducted an inquiry into whether a fraud scheme similar to that involving Wells Fargo bank accounts could occur with regard to MyTerm policies. The review found, among other things, a 70 percent lapse rate among MyTerm policies sold in 2014, sales spikes near the end of each quarter, and sales predominately to individuals with Hispanic sounding last names concentrated in the southern portions of Arizona, California, Florida, and Texas. Steps were taken to review the results further.

At about the same time, CID received a call on its fraud hotline from a client who said he had never authorized the purchase of a policy and was trying to cancel the policy before the next premium due date. CID learned that the money to start the policy had come from the client's small and unused savings account.

CID investigated further and found many clients with similar experiences. Many did not speak English, and needed an interpreter. The complaint describes developments in October and November 2016, when CID officials were pushing for strong measures and Prudential officials senior to them disagreed on how to proceed. The complaint says the plaintiffs eventually were escorted out of the building in a kind of "perp walk," and later were "wrongfully terminated."

The complaint contains two counts of alleged violations of New Jersey's Conscientious Employee Protection Act. The plaintiffs seek, among other things, back pay, compensatory and punitive damages, attorney fees, and costs.

According to the December 12 article in the Journal, Pelletier also sent a letter to employees that day. A Prudential spokesman did not respond to my email request for a copy of the letter. According to the Journal, Pelletier said the three individuals who filed a wrongful-dismissal lawsuit in state court in New Jersey had been "brought in after the review was already under way to assist in gathering facts, and that review continues." According to the Journal, Pelletier added that "these employees were dismissed in response to an entirely unrelated ethics complaint filed against them by individuals who were in no way involved in the Wells Fargo review."

The Perea Lawsuit
On December 12, the day Prudential issued its announcement, Alex Perea filed a class action lawsuit against Prudential in federal court in New Jersey. The case was assigned to U.S. District Judge John Michael Vazquez. President Obama nominated him in March 2015, and the Senate confirmed him in January 2016. He received his law degree summa cum laude from the Seton Hall Law School. (See Perea v. Prudential, U.S. District Court, District of New Jersey, Case No. 2:16-cv-9134.)

The plaintiff, an Arizona resident, held and still holds a Wells Fargo bank account he opened in 2010. Around October 2016, he received a past due letter from Prudential for MyTerm life insurance. The complaint alleges that at no time did he approve, sign up for, or enter into an agreement for such a policy. The defendants are Prudential, Pruco Life Insurance Company of New Jersey, and Pruco Life Insurance Company.

Perea alleges that Prudential authorized Wells Fargo employees to sell MyTerm policies to Wells Fargo banking customers and set up an incentive ("kick back") program for Wells Fargo agents based on the volume of MyTerm sales. He also alleges that the program "permitted and encouraged wide-scale cheating whereby Wells Fargo employees established and 'sold' MyTerm policies to Wells Fargo banking customers without their consent." The complaint includes allegations similar to some of those in the Broderick case. The plaintiff seeks to certify a nationwide class consisting of all persons in the U.S. who were Wells Fargo banking customers and were enrolled in MyTerm policies without their knowledge or consent.

The complaint includes two claims. One is for violation of the Racketeer Influenced and Corrupt Organizations Act (RICO). The other is for violation of the New Jersey Consumer Fraud Act. The plaintiff seeks class certification; a declaratory judgment; injunctive relief; compensatory, exemplary, and statutory penalties, including treble damages and interest; return of unauthorized premiums; and attorney fees and costs.

The California and New Jersey Investigations
On December 12, the California Department of Insurance issued a press release announcing it was launching an investigation into the allegations made by former Prudential employees about Wells Fargo employees signing up consumers for Prudential policies without authorization. According to the press release, the investigation will be in collaboration with the New Jersey Division of Insurance, which is also investigating the matter.

The Cummings-Warren Investigation
U.S. Senator Elijah E. Cummings (D-MD) is the Ranking Member of the Committee on Oversight and Government Reform. On December 13, 2016, he and U.S. Senator Elizabeth Warren (D-MA) sent a letter to John R. Strangfeld, chairman and chief executive officer of Prudential Financial.

Cummings and Warren asked Strangfeld to provide, by January 13, 2017, documents relating to: (1) Prudential's investigations of Wells Fargo's practices in selling Prudential policies at Wells Fargo branches; (2) contracts between Prudential and Wells Fargo authorizing sale of Prudential policies at Wells Fargo branches or kiosks; (3) marketing and promotion of Prudential policies sold at Wells Fargo branches; (4) notification to Prudential employees of alleged fraudulent activity in the sale of Prudential policies at Wells Fargo branches; (5) how and when Prudential management first became aware of improper sales tactics used in the sale of Prudential policies at Wells Fargo branches; (6) income and profit derived by Prudential from the sale of its policies at Wells Fargo branches; (7) Prudential surveys of customers' experiences with Prudential policies sold at Wells Fargo branches; and (8) rates of complaints from customers regarding Prudential policies sold at Wells Fargo branches.

General Observations
There has been very little discussion of the Perea class action lawsuit. The Broderick case has been described as a "whistle blower" lawsuit and as a "wrongful termination" lawsuit. I think either description is accurate. I think it is possible that the Broderick case prompted Prudential's December 12 announcement, which in turn led to the media coverage and the investigations.

I believe that Prudential's entanglement in the Wells Fargo scandal relating to bank accounts is a major embarrassment for Prudential. I also think it is a development that may have an impact on the sale of life insurance and annuities through banks, credit unions, and other financial institutions. The results of the investigations should be watched closely.

Available Material
I am offering a complimentary 79-page PDF containing six items: the Prudential December 12 announcement (1 page), the California Department of Insurance December 12 press release (1 page), the Cummings-Warren December 13 letter to Strangfeld (3 pages), the Broderick December 6 complaint (21 pages). the Perea December 12 complaint (27 pages), and the CFPB September 2016 consent order directed at Wells Fargo (26 pages). Email jmbelth@gmail.com and ask for the December 2016 package relating to Prudential and Wells Fargo.


Wednesday, December 14, 2016

No. 192: The U.S. Department of Labor Wins A Pyrrhic Victory in Another Lawsuit Challenging Its New Fiduciary Rule

In No. 188 (posted November 15, 2016), I discussed a lawsuit filed by the National Association of Fixed Annuities (NAFA) challenging the new fiduciary rule promulgated in April 2016 by the U.S. Department of Labor (DOL). I characterized the lawsuit as a win for DOL, because the judge denied the plaintiff's motion for a preliminary injunction and for summary judgment, and granted DOL's cross-motion for summary judgment.

Now we have a second win for DOL, in a lawsuit filed by Market Synergy Group, Inc. (MSG). The judge denied MSG's motion for a preliminary injunction to prevent implementation of the rule.

The MSG Lawsuit
On June 8, 2016, MSG filed a complaint against DOL, and on June 17 filed a motion for a preliminary injunction. The case was assigned to U.S. District Judge Daniel D. Crabtree. President Obama nominated him in August 2013, and the Senate confirmed him in April 2014.

On July 22, DOL opposed the motion for a preliminary injunction. On August 5, MSG responded. On September 28, DOL commented further.

The Court Ruling
On November 28, Judge Crabtree filed a memorandum and order. He concluded that MSG is not likely to succeed on the merits of its claim, and that MSG therefore is not entitled to injunctive relief. Consequently he denied MSG's motion for a preliminary injunction. (See MSG v. DOL, U.S. District Court, District of Kansas, Case No. 5:16-cv-4083.)

The Plaintiff
To understand this case, it is helpful to know about MSG, the plaintiff. Here is how Judge Crabtree describes MSG in his order:
Plaintiff is a Kansas Corporation and a licensed insurance agency based in Topeka, Kansas. Plaintiff works with insurance companies to develop specialized, proprietary FIAs [fixed index annuities] and other insurance products for exclusive distribution. It partners with IMOs [independent marketing organizations] to distribute these products. About 3,000 agents and other financial professionals sell proprietary products developed through plaintiff's relationships with insurance companies.
Plaintiff also conducts market research and provides training and product support for IMO network members and the independent insurance agents who IMOs recruit. Plaintiff describes its business as dependent upon the viability of the IMO/independent insurance agent distribution channel for sales of FIAs and other fixed insurance products.
Plaintiff distributes FIAs and other insurance products through 11 IMO network members. These IMO network members are independently owned insurance wholesalers that assist independent agents and financial advisers who aspire to increase their life insurance and annuity business. About 20,000 individual agents work with the 11 IMOs in plaintiff's network. In 2015, plaintiff and its network members collectively generated about $15 billion of FIA sales, measured by premiums paid. Nationwide, about 80,000 independent insurance agents are engaged in the sale of FIAs.
The Parties' Contentions
Judge Crabtree describes the contrasting views of MSG and DOL in his order. Here are his two paragraphs about MSG's views and one paragraph about DOL's views:
Plaintiff asserts that the rule change will have grave consequences for its business. Plaintiff describes its business model as one depending heavily on its ability to receive compensation generated from FIA sales. Plaintiff estimates that its revenue will decline by almost 80% under the amended version of PTE [prohibited transaction exemption] 84-24 because the rule change prohibits plaintiff and others affiliated with it from receiving third-party compensation for FIA sales. Plaintiff also anticipates that the IMOs and insurance agents that it works with to distribute FIAs will experience significant revenue losses. And, plaintiff forecasts that more than 20,000 independent insurance agents will exit the marketplace if the rule change takes effect.
Plaintiff also complains that the DOL lacked a sufficient basis to remove FIAs from the exemption in PTE 84-24 when it allowed other types of fixed annuities to remain under the exemption. Plaintiff contends that other types of transactions that still enjoy exemption under the amended version of PTE 84-24 are indistinguishable from FIAs and present no different risks of conflicts of interest compared to FIAs.
The DOL responds that the rule change is necessary to protect consumers. The DOL asserts that FIAs are complex transactions that involve significant conflicts of interest at the point of sale. Because of these characteristics, the DOL contends that FIA sales require more stringent rules governing the payment of third-party compensation, and thus should not enjoy exemption under PTE 84-24.
General Observations
The NAFA and MSG cases are Pyrrhic victories for DOL because the expense associated with the lawsuits may be wasted. Although the DOL rule is scheduled to go into effect in April 2017, it is likely that President-elect Donald Trump's incoming Secretary of Labor will withdraw the rule.

Available Material
I am offering a complimentary 63-page PDF containing Judge Crabtree's memorandum and order. Email jmbelth@gmail.com and ask for the November 2016 Crabtree order in the MSG/DOL case.


Friday, December 9, 2016

No. 191: Long-Term Care Insurance—A Looming Catastrophe

Long-term care (LTC) insurance came on the scene in the 1970s, and by the early 2000s more than one hundred companies were offering it. Now the number is down to a dozen. Two related LTC insurance companies may be liquidated in 2017. In that case, the excess of estimated liabilities over assets would make it the largest failure in the insurance industry since the collapse of Executive Life in 1991.

Here I address some recent events that provide at least a partial explanation of how we reached this point, and describe the failure of the insurance industry and state insurance regulators to address the problem. I also identify what I see as a solution to the problem, but I acknowledge that the solution may not be feasible from a political standpoint.

My first article about long-term care (LTC) insurance appeared in the February 1988 issue of The Insurance Forum. Since then I have written many additional articles on the subject in the Forum, posted several items on my blog, and included a chapter on the subject in my 2015 book entitled The Insurance Forum: A Memoir.

I have repeatedly expressed the opinion that the financing of LTC, although a very serious problem, cannot be solved through the mechanism of private insurance because the LTC exposure violates several important insurance principles. One of those principles is that the probability of loss should be low, but the probability of loss in LTC is high. Another of those principles is that the likelihood of dispute over whether there has been a loss covered by the insurance should be small, but the likelihood of dispute in LTC is large. I first mentioned such principles in the August 1991 issue of the Forum, and I elaborated on them and other principles in the July 2008 issue.

Penn Treaty
Penn Treaty Network America Insurance Company and its affiliated American Network Insurance Company (collectively "Penn Treaty") are LTC insurance companies based in Pennsylvania. In 2009 they became insolvent. The Pennsylvania insurance commissioner filed in state court a petition to liquidate the company. Penn Treaty's parent company opposed the petition. In May 2012, after lengthy delays and a bench trial, the court denied the liquidation petition and ordered the commissioner to develop a rehabilitation plan. The commissioner recently petitioned to convert the rehabilitation into a liquidation.

On September 23, 2016, the court issued an order approving a settlement involving the commissioner, Penn Treaty, and Penn Treaty's parent company. The settlement provides for Penn Treaty to be placed in liquidation. The court overruled objections of agents who would suffer commission losses, and objections of health insurance companies who would be assessed by state guaranty associations to address part of the shortfall involved in the liquidation. The agents and health insurance companies said they will appeal the ruling.

On November 9, 2016, the court held a hearing on the proposed settlement. It is my understanding that, at the hearing, the court said it would rule on the matter after January 1, 2017. If the court allows the liquidation, the effect would be to trigger coverage by state guaranty associations, who would then impose assessments on surviving health insurance companies. The "hole" is huge. Penn Treaty's assets are about $700 million, its liabilities are estimated to be up to about $4 billion, and its policyholders are likely to suffer significant losses even after the involvement of state guaranty associations.

Northwestern Mutual's Premium Increase Requests
Northwestern Long Term Care Insurance Company, a wholly owned subsidiary of Northwestern Mutual Life Insurance Company, recently announced it was seeking regulatory approval of LTC insurance premium increases for the first time in its history. I requested a statement from the company. A spokeswoman said:
Our filings contain proposed rate increases for several of our inforce LTC insurance blocks of business. These guaranteed renewable products include lifetime pay and limited pay premiums with benefit period offerings of three years, six years, and lifetime.
This is the first time we have raised rates on inforce policies and we don't make this decision lightly. However, we believe that in the best interest of all of our policyowners, this action is prudent to sustain the financial well-being of the product line, and to strengthen our ability to pay future claims.
The requested rate increase, on average, for these policy forms is 27 percent of premium. It ranges from 10 percent to 30 percent depending on the policy features. The amounts and timing of actual increases will vary by state, as they are subject to state insurance department approval. While we expect some states to approve our proposed increase, other states may approve a lower amount. Some may approve in stages, and still others may insist on a higher rate increase. The requested rate increase is due to people living longer, holding on to their policies longer, going on claim more frequently, and staying on claim longer than originally assumed.
I was surprised by Northwestern's action. I thought the company, unlike other companies, used extremely conservative assumptions in pricing its LTC insurance, and therefore charged premiums much higher than those of other companies. Thus I thought the company's LTC insurance premiums would not have to be increased. The company's need to increase premiums supports my view that the problem of financing LTC cannot be solved through private insurance.

The FIO Report
In November 2016 the Federal Insurance Office (FIO) of the U.S. Department of the Treasury issued a Report on Protection of Insurance Consumers and Access to Insurance. The report includes a section on LTC insurance. That section includes a subsection entitled "Failure in the Long-Term Care Insurance Market," which reads:
The number of insurers offering individual LTC insurance declined from more than 100 in the early 2000s to only 12 as of year-end 2015. From 2013 through 2015, LTC insurance annual new premiums fell from $403 million to $261 million, and new lives covered fell from 171,000 to 104,000. In the employer-sponsored LTC insurance market, the number of participants added to group plans dropped by 65 percent between 2013 and 2014, and by another 55 percent in 2015.
Insurers continuing in the LTC insurance market have tightened underwriting standards and are offering new products with fewer benefits at higher prices. These changes likely dampen demand for LTC insurance. In addition, publicity regarding financial difficulties at several major LTC insurers adds to the constriction of the market.
Another subsection, entitled "The Path Forward," says the "social need for LTC is significant and growing." It mentions "aging of the U.S. population" and "increased longevity." It also says:
Consumers, care providers, social services networks, LTC insurance providers, and others in the private sector, as well as regulators and policymakers, should collaborate to develop innovative approaches to lowering LTC costs and promoting the viability of existing and new payment sources. State policymakers and insurance regulators should address the lack of regulatory uniformity that has exacerbated the inherent challenges of the LTC insurance market. The challenges in providing LTC are of acute national interest, and extend far beyond the insurance sector. For that reason, collaboration between federal and state officials is essential—all must work together and embrace the challenge of financing LTC.
The FIO report does not say what "innovative approaches" might emerge from such "collaboration." Nor does the report mention the closed (by invitation only) three-hour LTC insurance "roundtable" that the FIO convened in Washington, D.C. on August 4, 2016. The roundtable, held in the wake of a substantial increase in LTC insurance premiums for federal employees, was attended by insurance companies, insurance regulators, insurance trade and professional organizations, federal agencies, and nonprofit organizations. Discussions of "collaboration" may have occurred, but I do not know what specific suggestions were made. There has not been and apparently never will be a transcript of what was said at the roundtable.

While working on a blog item about the roundtable, I tried without success to obtain from some of the participants the statements they made there. Some did not respond to my request. Others informed me that, when they were invited to participate, they were asked verbally (not in writing) to refrain from circulating their statements because it was important to encourage candor.

After I posted the blog item about the roundtable, I was flattered to receive an invitation to attend a follow-up session. I declined for two reasons. First, I cannot travel long distances because I no longer fly. Second, as a matter of principle, I will not attend a closed session or agree not to circulate any statement that I or others might make. In other words, I will not tolerate censorship.

John Hancock
John Hancock Life & Health Insurance Company is a wholly owned subsidiary of Canada-based Manulife Financial Corporation. On November 10, 2016, Manulife announced financial results for the third quarter of 2016. Here are two separate paragraphs from Manulife's press release:
We completed our annual review of actuarial methods and assumptions in the third quarter, resulting in a net reserve strengthening of $455 million. This amount included updates to policyholder assumptions across a number of products, including LTC insurance in the U.S., as well as a charge of $313 million related to a proactive 10 basis point downward revision to our ultimate reinvestment rate assumptions.....
In response to industry trends and stagnant consumer demand, we are also announcing that we will discontinue new sales of our stand-alone individual LTC insurance product. This decision will not have a material impact on our on-going earnings (see "Caution regarding forward-looking statements"). We are committed to serving our existing customers and honoring our obligations to our over 1.2 million LTC insurance policyholders. We intend to continue to offer LTC insurance coverage as an accelerated benefit rider to our wide range of life insurance products, as this has become an increasingly popular alternative to stand-alone LTC insurance policies in recent years.
John Hancock is the underwriter of the LTC insurance program for federal employees, and was the only bidder when the program was renewed in 2016 for seven years. Now that the company is ending the sale of stand-alone LTC insurance policies, it is not clear what will happen to the program in 2023 if John Hancock does not submit a bid and if there are no other bidders.

Although combining LTC insurance and life insurance into the same package may be "popular," I think it is a frightening idea. Life insurance has proven to be a durable financial instrument in developed countries for centuries. In the U.S., for example, life insurance dates to the first half of the 19th century. However, I have said—and experience has shown—that the problem of financing LTC cannot be solved through private insurance.

I believe that the inevitable result of combining unworkable LTC insurance with tried and proven life insurance will be the destruction of life insurance. "Hybrid" policies containing LTC insurance provisions inevitably will require premium increases, benefit reductions, or both. The reputation of life insurance for reliability will be shattered, with disastrous consequences for the industry.

The Congressional Hearing
On November 30, 2016, the Subcommittee on Government Operations of the Committee on Oversight and Government Reform of the U.S. House of Representatives held a 90-minute hearing entitled "Federal Long Term Care Insurance Program: Examining Premium Increases." The hearing was held four months after the sharp premium increases that John Hancock, with the involvement of the U.S. Office of Personnel Management (OPM), imposed on participants in the federal LTC insurance program. Included among the participants are some members of Congress.

I reviewed the prepared statements of the five witnesses and watched the video of the hearing. The witnesses were a representative of John Hancock, the underwriter of the LTC insurance program for federal employees; OPM, which was charged by Congress with administering the federal statute that created the LTC insurance program for federal employees; the American Academy of Actuaries, on behalf of actuaries who were accused of making faulty assumptions in pricing LTC insurance; and the National Active and Retired Federal Employees Association, which was outraged by the recent premium increases. The other witness was a gerontology professor who is also a consultant to LTC insurance companies.

The chairman and ranking member of the subcommittee made opening statements, and each witness gave a five-minute summary of his or her prepared testimony. Then subcommittee members directed questions at the witnesses for the remainder of the hearing. There was harsh criticism leveled at the OPM representative for not coming to the hearing with recommendations on how to prevent the problem from happening again; however, it is unclear whether that is OPM's responsibility. There was strong criticism directed at actuaries; however, I question whether they should shoulder the primary responsibility for the problems in LTC insurance. Marketing executives and other senior executives who outrank the actuaries surely bear some responsibility for LTC insurance problems.

This sentence in the testimony of the gerontology professor relating to "Long-Term Services and Supports" (LTSS) caught my eye: "Despite private sector challenges insuring this risk, LTSS has all the characteristics of an insurable risk." I disagree. As I have indicated, I believe that the LTC exposure violates important insurance principles, and that the problem of financing LTC cannot be solved through private insurance.

There were suggestions about the concept of private insurance companies providing basic coverage and the federal government serving as a backstop to provide broader coverage. Flood insurance was mentioned as an analogy, although there are major differences between flood exposure and LTC exposure. There were also references to tying LTC insurance to life insurance through hybrid policies.

General Observations
I have said the problem of financing LTC cannot be solved through private insurance. That observation leaves open the question of how the problem should be solved. In my opinion, the only way to address the problem is through the inclusion of LTC benefits as part of a mandatory U.S. government system of national (universal) health insurance (NHI). NHI has been a controversial political issue in the U.S. since 1916. Interestingly, an early supporter was the American Medical Association, which later became a strong opponent. Also interestingly, an early opponent was organized labor, which later became a strong supporter.

NHI is not part of Social Security because President Franklin Roosevelt considered it so controversial that it might jeopardize enactment of Social Security. President Harry Truman advocated NHI but did not have adequate political support for it. Medicare, which I consider a political miracle, was enacted during the tenure of President Lyndon Johnson. The Affordable Care Act passed during the tenure of President Obama is a compromise measure lacking important characteristics of NHI. Today the U.S. remains the only developed nation in the world without NHI. Opponents label NHI (or "Medicare for all") as socialistic, which it is; however, it is also the only way to get everyone insured.

Available Material
I am offering a complimentary 25-page PDF containing these items: the agenda for the FIO "roundtable" and the names of those invited to attend (8 pages); the section of the FIO report relating to LTC insurance (8 pages), and the articles in the February 1988, August 1991, and July 2008 issues of The Insurance Forum (9 pages). Email jmbelth@gmail.com and ask for the December 2016 package relating to LTC insurance.


Monday, November 28, 2016

No. 190: Annuity Factoring—A Follow-Up on a Lawsuit Against Two Companies and Three Individuals

In the August 2011 and October 2011 issues of The Insurance Forum, I wrote major articles about the practices of factoring companies that pay cash to annuitants and in exchange receive the annuitants' annuity payments. In No. 115 (September 11, 2015), I said the federal Consumer Financial Protection Bureau (CFPB) and the New York State Department of Financial Services (DFS) filed a lawsuit against two annuity factoring companies and three individuals associated with those companies.

The CFPB/DFS Complaint
On August 20, 2015, CFPB and DFS filed their complaint. The company defendants were Pension Funding LLC and Pension Income LLC, both based in Huntington Beach, California. They were related companies that extended consumer credit, serviced consumer loans, and transmitted money in connection with their loan business. The individual defendants were Steven Covey, Edwin Lichtig, and Rex Hofelter, who were senior officials of the two companies. The case was assigned to U.S. District Judge Josephine L. Staton. President Obama nominated her in February 2010, and the Senate confirmed her in June 2010.

The plaintiffs alleged that the defendants denied their product was a loan, failed to disclose fees or interest rates, and claimed the cost could be as little as 13 percent. The plaintiffs also alleged that the transactions had an average interest rate of 28.56 percent, in excess of the New York State civil usury and criminal usury rates. Further details about the allegations are in No. 115 and in the complaint I offered to readers.

The complaint included seven counts. The first three related to New York State's Consumer Financial Protection Act of 2010 (CFPA), and were asserted by CFPB and DFS. The other four were asserted by DFS. The seven counts were (1) unfair acts or practices in violation of CFPA, (2) deceptive acts or practices in violation of CFPA, (3) abusive acts or practices in violation of CFPA, (4) usury, (5) false and misleading advertising of loans, (6) intentional misrepresentation of a material fact regarding a financial product, and (7) unlicensed money transmitting. The plaintiffs sought injunctive relief, damages, redress to harmed consumers, disgorgement of ill-gotten revenues, civil money penalties, and plaintiffs' costs in bringing the action. (See CFPB v. Pension Funding, U.S. District Court, Central District of California, Case No. 8:15-cv-1329.)

Subsequent Developments
On October 7, 2015, the plaintiffs applied for a preliminary injunction and the appointment of a receiver. On October 23 Lichtig, Hofelter, and the two company defendants answered the complaint. Covey ignored the complaint. On October 30 the four defendants other than Covey opposed the application for a preliminary injunction. On December 23 the clerk entered a notice of default relating to Covey.

On January 22, 2016, the plaintiffs and the four defendants other than Covey filed a joint application for a stipulated final judgment and order. On the same day the plaintiffs applied for a default judgment relating to Covey.

On February 10 Judge Staton issued a stipulated final judgment and order relating to the four defendants other than Covey. Among other things, she permanently enjoined Lichtig and Hofelter from engaging directly or indirectly in any "pension-advance" products or services; permanently enjoined Lichtig, Hofelter, and the two company defendants from engaging directly or indirectly in servicing or providing any financial products or services in New York State without the requisite license; appointed Krista Freitag of E3 Advisors as the permanent receiver of the two company defendants; ordered Lichtig and Hofelter to pay $282,000 and $40,000, respectively, to the receivership estate; and ordered Lichtig and Hofelter to cooperate with the receiver.

On July 11 Judge Staton issued a default judgment and order relating to Covey. Among other things, she permanently enjoined Covey from engaging directly or indirectly in any pension-advance products or services, permanently enjoined him from engaging directly or indirectly in servicing or providing any financial products or services in New York State, ordered him to disgorge $578,182 representing profits from the conduct alleged in the complaint, ordered him to cooperate with the receiver, and ordered him to meet certain reporting requirements.

The Receivership
On July 11, according to the docket, the case was terminated. The only documents filed since then have been reports filed by the receiver, bills for her time and expenses, and other items related to the receivership.

As mentioned, the receiver was appointed on February 10. Thus far she has issued three interim reports—on April 29, July 28, and November 11. In each report she summarizes the case, shows amounts recovered for the receivership estate, and describes other activities. The November 11 report, for example, shows cash of $689,737 as of January 7, 2016, cash of $2,500,797 as of September 30, 2016, and the collections and disbursements during that period.

General Observations
For many years I have been convinced that the business of buying streams of annuity payments from annuitants by paying cash to the annuitants is fraught with potential problems. Two major problems are the refusal of factoring companies to acknowledge that the arrangements are loans, and the failure to disclose the interest rates imposed on annuitants who accept cash in exchange for annuity streams. The CFPB/DFS case illustrates these and other problems in the so-called pension-advance business. I think the case should be studied closely by persons interested in protecting the financial interests of annuitants.

Available Material
In No. 115, I offered a complimentary 29-page PDF consisting of the August 2015 CFPB/DFS complaint and the two 2011 articles in the Forum about annuity factoring companies; that package is still available. Now I offer a complimentary 37-page PDF consisting of Judge Staton's 15-page February 10 stipulated final judgment and order relating to the four defendants other than Covey, her 12-page July 11 default judgment relating to Covey, and the receiver's 10-page November 11 third interim report. E-mail jmbelth@gmail.com and ask for the December 2016 package about the CFPB/DFS lawsuit against two annuity factoring companies and three individuals.


Monday, November 21, 2016

No. 189: Life Settlement Promotion Based on a Lawsuit That Went Nowhere

On November 10, 2016, I received an email from a marketing organization on the subject of "Fiduciary notice for life agents." Here is the full text of the email:
Recently, a family filed a class action lawsuit in a California U.S. District Court against their life insurance provider. They sought punitive damages, treble damages, restitution and an injunction because their agent failed to inform them of their options on the life settlement market.
This is not a fluke occurrence.
Uphold your fiduciary responsibility, save yourself from litigation and help seniors save the 100B worth of lapsed policies that could be used, for example, to fund long-term care.
Simply read a new white paper that provides a simple overview of life settlements in a fiduciary context, plus life and annuity options to help you uphold your responsibility and make additional sales. [Emphasis in original.]
The email identified the lawsuit as Grill v. Lincoln National Life. I had looked at the case in February 2016, but did not report on it at the time because it had gone nowhere. Now that the case is being used to support the argument that a life insurance agent has a "fiduciary responsibility" to mention life settlements as "options," I felt it would be appropriate to report on the case.

The Grill Lawsuit
On January 9, 2014, three members of the Grill family filed a class action lawsuit against Lincoln National Life Insurance Company. The case was assigned to U.S. District Judge Jesus G. Bernal. President Obama nominated him in April 2012, and the Senate confirmed him in December 2012. His career is an immigrant success story. Born in Mexico, he received his undergraduate degree cum laude from Yale University and his law degree from the Stanford Law School. (See Grill v. Lincoln National, U.S. District Court, Central District of California, Case No. 5:14-cv-51.)

The plaintiffs filed four complaints. The discussion here is based on the fourth (third amended) complaint, which was filed September 29, 2014.

In 2004 the plaintiffs purchased a second-to-die policy with a death benefit of $7.2 million. The insureds were aged 68 and 65. The third plaintiff was trustee of the trust that was owner and beneficiary of the policy. The policy type is not stated, but it was probably universal life because the complaint said the "premium payments were designed to generate investment returns that would cover the cost of insurance." Although the complaint did not say so, the policy probably was being paid for with minimum premiums so as to generate no account value.

By 2008 the investment returns became insufficient to cover the cost of insurance. The plaintiffs consulted their agent, who allegedly said "they had two options: (1) pay new premiums into the Policy to extend it, or (2) surrender the Policy, in whole or in part, to reduce the cost of insurance." The plaintiffs surrendered part of the policy, decreasing the death benefit to $5.4 million. By 2009 the investment returns again became insufficient, and the plaintiffs again surrendered part of the policy to reduce the death benefit to $2 million. The plaintiffs alleged that they had twice surrendered parts of the policy "for no consideration" and that their agent did not tell them about life settlements. Further, they alleged:
Defendant's failure to inform and/or concealment of the option of a life settlement is part of a common and systematic practice by Defendant to hide this option from its insureds. The reason for this failure to inform and/or concealment is clear: Defendant stands to profit significantly if Plaintiffs and similarly situated Class members pay new premiums into their policies or surrender their policies for little or no value. Conversely, if Plaintiffs and similarly situated Class members sell their policies in a life settlement, Defendant would have to pay the death benefit without receiving higher premiums and/or without a surrender.
The complaints survived Lincoln's motions to dismiss. On October 6, 2014, one of the insureds died. On May 29, 2015, Judge Bernal ordered the plaintiffs to file a motion for class certification by June 15. On that date the plaintiffs instead filed a notice of settlement. On August 24 the parties filed a joint stipulation to dismiss the case based on the fact that one of the lead plaintiffs had died and the survivors had not substituted another lead plaintiff. On August 25 Judge Bernal granted the stipulation to dismiss with prejudice (permanently) all claims asserted by the plaintiffs.

The Final Stipulation
On September 21, 2015, the parties filed a joint stipulation of dismissal. Here is the full text of the stipulation:
WHEREAS, Plaintiffs' investigation and analysis to date did not support the allegation that Defendant had a common and systematic practice of concealing life settlement options from its insureds;
WHEREAS, the parties have elected to settle each and every claim asserted in the above-captioned matter with no admission of wrongdoing, impropriety or liability on the part of any party;
NOW, THEREFORE, IT IS HEREBY STIPULATED AND AGREED by and between the parties through their respective counsel of record pursuant to that settlement agreement, and pursuant to Rule 41(a)(1) of the Federal Rules of Civil Procedure, the individual claims of the named plaintiffs in the above-entitled action be dismissed with prejudice, and the claims of the putative class be dismissed without prejudice, with each party to bear its own costs.
General Observation No. 1
Citing a case that went nowhere to support the notion that the agent has a fiduciary obligation to disclose life settlement "options" is not the only phony tactic used by life settlement promoters. The requirement of insurable interest has caused a huge amount of litigation in the secondary market for life insurance. In the June 2009 issue of The Insurance Forum, in a discussion of an agent's lawsuit against Phoenix Life Insurance Company, I said the plaintiff had cited a 2007 article in a prestigious law journal condemning the insurable interest doctrine. The author argued that "the doctrine creates perverse incentives that encourage the very practices the doctrine seeks to deter," that "the doctrine also invites unfairness and inefficiency in the insurance market," and that the doctrine should be abolished. The article was written by a law student on the editorial staff of the law journal. In a note the author acknowledged the help of a fellow student on the editorial staff of the law journal, and the help of a member of the faculty of the law school.

I was certain that the article had been planted by promoters of the secondary market for life insurance. I wrote to the author and his fellow student, both of whom by then were associated with major law firms. I also wrote to the faculty member. I asked who had suggested the idea for the article. I also asked whether anyone at the law school had received compensation. In the December 2013 issue of the Forum, in an article entitled "Why the Secondary Market for Life Insurance Will Never Win Full Public Acceptance," I said I had received no reply.

General Observation No. 2
The plaintiffs in the Grill case, in their reasoning about why Lincoln allegedly concealed the life settlement option, are incorrect. As a general rule, life insurance companies want their policies to remain in force. That is why companies often reward agents for strong persistency. Exceptions to the general rule are so-called "lapse-supported" policies that are priced so as to depend on high lapse rates for profitability. The policy in this case does not fit into the "lapse-supported" category. Furthermore, in their reasoning, the plaintiffs neglected to point out that the speculator in human life who would have acquired the policy in the secondary market would have had to continue paying premiums to keep the policy in force until the death of the second insured, and that the need to pay those premiums would have been a factor in determining the price paid in a life settlement.

General Observation No. 3
A matter somewhat related to the second observation above is the question of how much a company would pay on surrender of a policy whose insured is in poor health. At least two observers—an actuary and I—have suggested the idea of "health-related" or "health-adjusted" cash values. If an insured is in poor health, it would seem reasonable for a company to pay an enhanced cash value upon surrender of the policy. In the March 1999 issue of the Forum, which was a special 12-page issue, I mentioned health-related cash values as one of eleven suggested methods of dealing with "The Growth of the Frightening Secondary Market for Life Insurance Policies." The February 2001 issue of the Forum included an article by Albert E. Easton, FSA, MAAA. He had written a technical article on the subject in an actuarial journal, and I had invited him to write a nontechnical article for the Forum.

Available Material
I am offering a complimentary 21-page PDF containing the four Forum articles mentioned in the general observations above. Email jmbelth@gmail.com and ask for the November 2016 package of Forum articles about the secondary market for life insurance.


Tuesday, November 15, 2016

No. 188: The U.S. Department of Labor Wins One of the Lawsuits Challenging Its New Fiduciary Rule

On April 8, 2016, the U.S. Department of Labor (DOL) promulgated its long-awaited "fiduciary rule" addressing conflicts of interest in the marketing of commission-driven retirement advice given to consumers. In the months that followed, the industry's opposition to the rule took the form of several lawsuits seeking to prevent or at least delay implementation of the rule. The rule is to go into effect on April 10, 2017, with full implementation of certain aspects of the rule on January 1, 2018.

The NAFA Lawsuit
On June 2, 2016, the National Association for Fixed Annuities (NAFA) filed a complaint seeking to delay implementation of the new DOL rule, a motion for a preliminary injunction, and a memorandum in support of the motion. The defendants are the DOL and Secretary of Labor Thomas E. Perez. The case was assigned to U.S. District Judge Randolph D. Moss. President Obama nominated him in April 2014, and the Senate confirmed him in November 2014. (See NAFA v. DOL and Perez, U.S. District Court, District of Columbia, Case No. 1:16-cv-1035.)

On June 7 Judge Moss said NAFA's motion will be treated as a motion for a preliminary injunction and for summary judgment. On July 8 the defendants filed an opposition to NAFA's motion and a cross-motion for summary judgment. On August 30 Judge Moss held a hearing on NAFA's motion and the defendants' cross-motion.

The Opinion
On November 4 Judge Moss issued a 92-page opinion and a one-page order. They constitute a win for the defendants. Here, without citations, are the first and last paragraphs of the five-page introductory section of the opinion:
  • Plaintiff the National Association for Fixed Annuities ("NAFA") brings this action under the Administrative Procedure Act and the Regulatory Flexibility Act, challenging three final rules promulgated by the Department of Labor on April 8, 2016. Taken together, the three rules substantially modify the regulation of conflicts of interest in the market for retirement investment advice under the Employee Retirement Income Security Act of 1974 and the Internal Revenue Code. NAFA focuses its challenge on how the new rules will affect the market for the fixed annuities its members sell.
  • Based on these arguments, and its further contention that the new rules will have catastrophic consequences for the fixed indexed annuities industry, NAFA seeks both a preliminary injunction and summary judgment. The Department opposes both motions and has cross-moved for summary judgment. For the reasons explained below, the Court will deny NAFA's motions for a preliminary injunction and summary judgment and will grant the Department's cross-motion for summary judgment.
The Outline
Below is an outline of the opinion. In parentheses is the page number on which the discussion of each item begins. "ERISA" is "Employee Retirement Income Security Act of 1974," "PTE" is "Prohibited Transaction Exemption," and "BIC" is "Best Interest Contract."

Memorandum Opinion (1)
I. Background (5)
A. Annuities (5)
B. Statutory and Regulatory Background (7)
1. ERISA (7)
a. Title I of ERISA (8)
b. Title II of ERISA (10)
2. The 1975 Definition of "Fiduciary" and PTE 84-24 (11)
3. The Current Rulemaking (14)
a. The 2010 Proposed Rule (14)
b. The 2015 Proposed Rules (15)
c. The Final Rule (21)
C. Procedural Background (27)
II. Analysis (29)
A. Revised Definition of "Rendering Investment Advice" (30)
1. Chevron Step One (30)
2. Chevron Step Two (40)
B. Imposition of Fiduciary Duties as Condition of PTE 84-24 and the BIC Exemption (45)
C. Written Contract Requirement of the BIC Exemption (55)
D. Reasonable Compensation Requirement and Due Process (61)
E. Placement of Fixed Indexed Annuities in the BIC Exemption (71) 
1. Treatment of Fixed Income [sic] Annuities as "Securities" (72)
2. Notice and Opportunity to Comment (73)
3. Reasoned Explanation (76)
4. Workability and Rationality (79)
5. Cost/Benefit Analysis (85)
F. Regulatory Flexibility Act (88)
Conclusion (92)

The Parties' Statements
After Judge Moss's ruling, Secretary Perez issued a brief statement. NAFA sent its members a relatively lengthy statement entitled "NAFA to Appeal Court Decision on DOL Fiduciary Rule" and subtitled "NAFA Will Seek Expedited Review." Here are the statements:
Perez: The conflicts of interest rule was developed after substantial input from a variety of stakeholders, including the industry, and it will make sure that retirement savers receive advice that puts their interests first. I'm pleased that the court recognized the comprehensive and thoughtful process we used in crafting this rule—this ruling is a win for working Americans who simply want a secure retirement.
NAFA: The National Association for Fixed Annuities ("NAFA") announced today, following a federal district court decision upholding the Department of Labor's fiduciary rule, that it will appeal to the D.C. Circuit Court of Appeals. "We are obviously disappointed by the court's decision, but we have always assumed this case would get decided by a higher court and we are pleased the issues will get de novo review by the Circuit Court," said Chip Anderson, Executive Director of NAFA. De novo review means the appellate court will consider the case without being bound or influenced by the lower court's decision. NAFA filed its lawsuit last June seeking a preliminary injunction to stay implementation of the rule, which is scheduled to go into effect in April 2017. Judge Randall [sic] Moss denied the preliminary injunction and at the same time ruled in favor of the DOL on the merits upholding the rule. NAFA's lawsuit, one of four lawsuits against the rule, challenges the DOL's authority to issue the rule, asserts the rule creates an impermissible private right of action, contends the rule contains unconstitutionally vague requirements that compensation be reasonable, and alleges the manner of adoption of the rule by DOL was arbitrary and capricious. Anderson stressed that NAFA would move quickly to get the case up to the appellate court and would continue to seek a preliminary injunction. Anderson said NAFA remains optimistic that the courts will ultimately find the rule to be an overreach by the Department of Labor that is inconsistent with existing tax and financial services laws. "NAFA believes the fiduciary rule will disrupt the distribution and availability of fixed annuities and have a particularly adverse impact on the low and middle income consumers who have come to rely on these valuable retirement savings products," said Anderson. Fixed annuities provide consumers with a guaranty of principal and minimum accumulation and provide a guaranteed lifetime income stream consumers cannot outlive. NAFA consists of insurance companies, agencies, and agents and affiliated persons who provide fixed annuities.
Other Lawsuits
As mentioned in NAFA's statement, several lawsuits have been filed seeking to delay implementation of the DOL rule. Some of the lawsuits have been consolidated. It is beyond the scope of this post to discuss the status of the other cases. However, to appreciate the significance of the DOL rule, it is instructive to identify some (but by no means all) of the parties involved as plaintiffs, as filers of amicus curiae (friend of the court) briefs, and as participants in other capacities, on both sides of the cases.

Some of those opposing the DOL, in addition to NAFA, are American Council of Life Insurers, American Equity Investment Life Insurance Company, Chamber of Commerce of the U.S., Life Insurance Company of the Southwest, Midland National Life Insurance Company, National Association of Insurance and Financial Advisors, North American Company for Life and Health Insurance, and Thrivent Financial for Lutherans. Some of those supporting the DOL are AARP, Americans for Financial Reform, Better Markets, Inc., Consumer Federation of America, and Public Citizen, Inc.

General Observations
Judge Moss's opinion is an extraordinary document. The five-page introductory section is an excellent summary of the DOL rule and the arguments for and against its implementation.

The terminology is interesting. In the first paragraph of the introductory section of the opinion, the expression "fixed annuities" appears. In the fifth paragraph, the expression "fixed index annuities" appears. Including NAFA's name, the statement to its members contains four references to "fixed annuities" and no mention of "fixed index annuities." It is my understanding that "fixed annuities" have no special upside potential based on a stock index, and that they are deemed to be insurance products. "Index annuities," on the other hand, have some upside potential based on a stock index, and therefore should be deemed securities. However, those arguing against their being deemed securities changed the name in a confusing and even contradictory manner to "fixed index annuities" in an effort to strengthen their argument.

Although many readers have asked me to write in detail about index annuities or fixed index annuities, I have not done so. The reason is that I do not understand the instruments well enough to feel comfortable writing about them. Some promoters have said I am too stupid to know a good thing when I see it, but I think the instruments are being sold by agents who do not understand them to buyers who do not understand them.

I have long believed that those selling insurance instruments, whether or not the instruments are deemed securities, should be required to operate under the fiduciary standard of care rather than the much weaker suitability standard of care. I think the new DOL rule, provided it survives the efforts of the industry to delay its implementation, will be an important step in that direction. In the long run, I think such a result would benefit not only insurance consumers but also the insurance industry.

Blogger's Note
In view of the results of the November 8 election, it is likely that the Trump-appointed Secretary of Labor—whoever he or she may be—will withdraw the DOL rule in view of the campaign promises that have been made to cut back on government regulations. Thus the efforts of all the parties—including the industry and the Department of Labor—in developing the rule and preparing for its implementation, as well as all the efforts of the parties and the courts in fighting over the rule, are likely to have been wasted.

More importantly, withdrawal of the rule will have a severe, adverse effect on retirement savers and other consumers. They will continue to be victimized by purchasing so-called fixed index annuities that benefit primarily commission-driven agents and others who sell them.

Available Material
I am offering a complimentary 92-page PDF containing the opinion Judge Moss issued on November 4, 2016. Email jmbelth@gmail.com and ask for the Moss ruling in the NAFA/DOL case.


Thursday, November 10, 2016

No. 187: Genworth Financial, Long-Term Care Insurance, and Clarification of a Comment in No. 185

The purpose of this post is to clarify a comment I made in No. 185, in which I discussed, among other things, regulatory supervision. I discussed the October 23 surprise announcement by Genworth Financial, Inc. that it had entered into a definitive merger agreement. If the agreement is consummated, Genworth would be an indirect, wholly owned subsidiary of China Oceanwide Holdings Group Co., Ltd., a privately held international financial holding company group headquartered in Beijing.

I said Genworth has long been in the long-term care (LTC) insurance business, it is one of the few major companies still in the business, its subsidiaries have suffered significant declines in their financial strength ratings, primarily as a result of their LTC insurance business, and the company is trying to reorganize in order to "isolate" its LTC insurance business. I also said that, because of Genworth's financial problems and its effort to reorganize, one or more of its subsidiaries may be operating under a supervision order, but that I was not aware of the existence of such an order.

When No. 185 was posted on Friday morning, November 4, I forwarded it as a courtesy to a Genworth spokeswoman. She promptly said Genworth is not operating under a supervision order. She also said she is happy to fact check anything I am uncertain about before posting an item on my blog. I explained that I made a decision not to ask Genworth about supervision because I felt that the very act of asking such a question would be unfair. On Monday afternoon, November 7, she said:
Our corporate counsel wanted to make sure you understood the implications of your suggestion that one or more of Genworth's companies are operating under a supervision order. He told me there is virtually no circumstance under which a publicly traded company could keep from disclosing such an order and by suggesting that one or more of our companies are operating under a supervision order that has not been disclosed in our SEC [Securities and Exchange Commission] report is, in essence, suggesting that we are committing securities fraud. Although we know this was not your intent, the statement does establish a cloud of uncertainty that is unwarranted. We respectfully ask that you correct the statement and let your readers know definitively that Genworth is not operating under a supervision order.

The 1999 Incident
In No. 185 I also discussed the 1999 case of General American Life Insurance Company. Also involved in the case were ARM Financial, Inc., which is a publicly traded company, and Integrity Life Insurance Company, an ARM subsidiary that is domiciled in Ohio. I said ARM had disclosed in a public filing with the SEC that Integrity Life was operating under a confidential supervision order issued by the Ohio Department of Insurance. Thus ARM's attorney and Genworth's attorney apparently agree that a public company must disclose in its SEC filings the existence of a supervision order.

Blogger's Note
I finished writing this item on November 8 and planned to schedule it on November 9 for posting early in the morning on November 10. I sent an email on the morning of November 9 to Genworth's spokeswoman asking for a brief company statement about the impact of the election results on the pending merger agreement with China Oceanwide. She responded that afternoon as follows:
We will have no comment on the impact of the election results on the China Oceanwide transaction. Thank you.

Tuesday, November 8, 2016

No. 186: Chernow's Superb Biography of Alexander Hamilton—An Election Day Special

Ron Chernow's Alexander Hamilton, a superb biography of our first Secretary of the Treasury, inspired the smash Broadway hit, Hamilton: An American Musical. The 818-page book, published in 2004, provides fascinating details about many of the founders of our great nation. For example, the book delves into Hamilton's abolitionist views as well as the views of other founders on the subject of slavery.

Chernow describes Hamilton's birthplace on the Caribbean island of Nevis, and his early life on other islands there. His apparent illegitimate birth plagued his entire life. When he immigrated (yes, he was an immigrant) to New York City as a young man, he became a prodigious student, reader, and writer, and he built an amazing life as an attorney and political leader.

George Washington was Hamilton's greatest supporter. Hamilton was Washington's top assistant during most of the Revolutionary War. Toward the end of the war Hamilton achieved the military rank of general and became a battlefield hero. He later ran the Treasury Department, which was the dominant cabinet department during Washington's administration. The Treasury Department dwarfed the State Department, which at the time was headed by Thomas Jefferson.

Chernow examines in detail Aaron Burr's career, which in many ways was parallel to Hamilton's career. Burr was Jefferson's vice president at the time of the fateful duel that ended Hamilton's life. The duelists and their seconds crossed the Hudson River in separate boats to meet at Weehawken, New Jersey, because dueling was illegal in New York State at the time. As is common in such incidents, there are conflicting views about precisely what happened. Chernow believes that Hamilton purposely fired the first shot into the trees high above Burr.

Chernow devotes considerable space to Hamilton's beloved wife Eliza, who survived him by about half a century. They had eight children. One thing I never knew before was that Philip, their eldest and a handsome young man in the prime of his life, died in a duel about two years before Hamilton's death. Hamilton never fully recovered from the shock of that loss. They named their youngest child Philip (nicknamed Little Phil), who was born after his eldest brother's death.

Chernow provides detail about Hamilton's philandering, especially an affair that resulted in his paying blackmail in what turned out to be an unsuccessful attempt to keep the matter secret. Apparently the affair was a major obstacle that prevented Hamilton from occupying a prominent position in the government after he left Washington's cabinet.

Throughout the book are descriptions of the prickly (to put it mildly) relationship between Hamilton and Jefferson. Hamilton was an admirer of Great Britain and its form of government. Jefferson had spent a substantial amount of time in France and was an admirer of the French, even after the nasty developments that occurred during the French revolution.

Chernow describes in detail Hamilton's strained relationships with other founding fathers, including not only Jefferson, but also John Adams, James Madison, James Monroe, and others. Hamilton's friendship with Madison, for example, was on and off. In the early days of their close relationship, they worked together on The Federalist Papers, although Hamilton wrote most of the pieces in that famous series. Hamilton and Madison later had a falling out.

Chernow describes how Hamilton became the leader of the Federalists in the original two-party system and served as a member of the Constitutional Convention. Hamilton laid the groundwork for what became the New York Stock Exchange, and he developed our tax system. He created our first central bank, the Coast Guard, and the Customs Service. Early in 1795, at age 40, he resigned as Secretary of the Treasury. Here are two sentences (buried on page 481) that summarize Chernow's views on Hamilton's contributions to his adopted country:
Hamilton's achievements were never matched because he was present at the government's inception, when he could draw freely on a blank slate. If Washington was the father of the country and Madison the father of the Constitution, then Alexander Hamilton was surely the father of the American government.
General Observations
Chernow's book is so well written that it is a delight to read. I strongly recommend it to anyone interested in learning about the beginnings of the United States. Readers will recognize the relevance of many parts of the book to happenings in our country today, even including the presidential election campaign of 2016.

This is the first Chernow book I have read. It is so superb that I am determined to read his two other major books—about John D. Rockefeller (Titan) and about John Pierpont "J.P." Morgan (The House of Morgan).

An Interesting Coincidence
When I acquired Chernow's book about Hamilton, I was startled by the back cover of the dust jacket. Two of the three testimonials were written by two of my favorite authors—Robert Caro and David McCullough. I have read all their books. Caro has written about Robert Moses (The Power Broker) and about Lyndon Johnson. The biography of Johnson now consists of four major volumes; Caro's faithful readers anxiously await the fifth and presumably final volume. McCullough has written about Harry Truman, John Adams, the early life of Theodore Roosevelt, the Wright Brothers, the Johnstown Flood, the building of the Brooklyn Bridge, and the building of the Panama Canal, among other persons and events.


Friday, November 4, 2016

No. 185: Long-Term Care Insurance—Regulatory Supervision, Rehabilitation, and Liquidation of Financially Troubled Companies

For 25 years I have been saying that the problem of financing long-term care (LTC) cannot be solved through private insurance because the LTC exposure violates important principles necessary for the proper functioning of private insurance. Thus I am not surprised that most companies in the LTC insurance business have left the business, and that some of the few remaining are in fragile financial condition. Here I discuss and provide examples of three processes that state insurance regulators use to deal with financially troubled insurance companies.

Supervision is a process that state insurance regulators use to deal with financially troubled companies. Regulators normally have the authority to place a company under supervision without obtaining court approval. In some instances, the regulator issues a supervision order openly, by making public the existence of the order and the order itself. In other instances, the regulator makes public the existence of the order but keeps the order itself confidential. In still other instances, the regulator keeps the existence of the order and the order itself confidential.

Rehabilitation and Liquidation
Rehabilitation and liquidation are two other processes that state insurance regulators use to deal with financially troubled companies. In contrast to supervision, court approval is required for rehabilitation or liquidation. The regulator files a petition in state court. If the court approves the petition, the court would appoint the regulator as rehabilitator or liquidator, and full details would be available to the public. The objective of a rehabilitation is to preserve the company so as to allow it to emerge from rehabilitation. To accomplish that objective, the rehabilitator may take such actions as modifying the company's operations, selling the company in whole or in part, merging the company into another company, or changing provisions of the company's existing policies.

Liquidation is a last resort when the regulator and the court agree that rehabilitation is futile. State guaranty associations become involved, and drastic actions may have to be taken. For example, the company may have to be wound down, and policyholders may suffer significant losses.

General American, ARM Financial, and Integrity Life
The 1999 case of Missouri-domiciled General American Life Insurance Company illustrates the use of supervision, although the incident did not involve LTC insurance. At the company's request, the Missouri department of insurance placed the company under supervision to stop a devastating run. The existence of the order became known to the public, but the department kept the order itself confidential.

My first article about supervision, which discussed the General American case, was in the October 1999 issue of The Insurance Forum. While working on the article, I learned that ARM Financial Group, Inc. and a subsidiary, Ohio-domiciled Integrity Life Insurance Company, had extensive dealings with General American. The Ohio department of insurance placed Integrity Life under a confidential supervision order, but word of the existence of the order leaked out. Pursuant to the Ohio public records law, I asked the Ohio department for a copy of the order. The department denied the request, saying the order was confidential. However, ARM Financial, a shareholder-owned company, included the order in a public filing with the Securities and Exchange Commission. I showed the order in the article about the General American case.

Ability Insurance Company
A few companies that abandoned the LTC insurance business transferred their existing policies to Nebraska-domiciled Ability Insurance Company, which is running off the policies. In December 2012 the Nebraska department of insurance placed Ability under a supervision order. The existence of the order was publicly known, and the order itself was available to the public. Here is the third of the department's seven findings of fact in the supervision order:
Based upon examination of financial statements filed by [Ability], including those filed with the Department dated September 30, 2011 and September 30, 2012, the Director has reasonable cause to believe that [Ability] is in such a condition as to render the continuance of its business hazardous to its policyholders and the general public as defined in the Nebraska Insurance Regulations, specifically, 210 Neb. Admin. Code 55 §§ 004.05 and 004.06.
In January 2013 the Nebraska department approved the acquisition of Ability by Advantage Capital Holdings, LLC, an investment company based in Wilmington, Delaware. In July 2014 the department issued an order removing Ability from under supervision. I wrote about the Ability case in the May 2013 issue of the Forum.

Two examples of liquidation, neither of which involved LTC insurance, are the International Workers Order (IWO) and Executive Life Insurance Company of New York (ELNY). IWO was liquidated during the "Red Scare" in the 1950s. ELNY was placed in rehabilitation in 1991 and remained there for 21 years until it was liquidated in 2012. I wrote about the IWO and ELNY liquidations in the August 2012 issue of the Forum.

Penn Treaty
In 2009 the Pennsylvania insurance department petitioned the court to place Pennsylvania-domiciled Penn Treaty Network America Insurance Company, an LTC insurance company, in rehabilitation. Six months later the department petitioned the court to convert the rehabilitation to a liquidation. In 2012, after lengthy proceedings including a 30-day bench trial, the judge, in a 162-page opinion and order, denied the liquidation petition and ordered the department to develop a rehabilitation plan. Later the department and the court revised the rehabilitation plan. In July 2016 the department again petitioned the court to liquidate the company. In October 2016 the judge scheduled a November 9 hearing on the liquidation petition. If the judge approves the petition, the case might have a profound impact on the U.S. system of state guaranty associations. That subject, however, is beyond the scope of this discussion. I wrote about the Penn Treaty case in the August 2012 issue of the Forum, and I plan to write again irrespective of what happens during and after the hearing.

CNO Financial Group
In 2008 CNO Financial Group, Inc. (then Conseco, Inc.) separated itself from Pennsylvania-domiciled Conseco Senior Health Insurance Company (CSHI), a financially troubled LTC insurance subsidiary. With the approval of the Pennsylvania insurance department, Conseco transferred CSHI to an independent trust and renamed the company Senior Health Insurance Company of Pennsylvania (SHIP). I have written about the separation, most recently in No. 182 (October 7, 2016).

In that post I also wrote about a CNO effort to separate itself from a total of about 10,000 LTC insurance policies written by two other CNO subsidiaries, which are domiciled in Indiana and New York. That effort was through reinsurance with Cayman Islands-based Beechwood Re. The Indiana and New York departments required the CNO companies to recapture the reinsurance. Also, CNO filed a lawsuit against three individuals who allegedly misled CNO by failing to disclose Beechwood's close ties to Platinum Partners, a troubled hedge fund. Although CNO's problems with Beechwood and Platinum are significant, I think the problems do not warrant supervision of the CNO companies.

SHIP, the former Conseco subsidiary, is in fragile financial condition. It has suffered operating losses, its total adjusted capital at the end of 2015 was below company action level risk-based capital, and it too is entangled with Beechwood and Platinum. Because of its financial condition, SHIP may be operating under a supervision order, but I am not aware of the existence of such an order. I have written about SHIP, most recently in No. 183 (October 19, 2016).

Genworth Financial, Inc. has long been in the LTC insurance business, and is one of the few major companies that are still in the business. Genworth has suffered significant declines in its financial strength ratings, primarily as the result of its LTC insurance business. Genworth's subsidiaries, other than those in the mortgage insurance business, are domiciled in Delaware, New York, and Virginia. Genworth is trying to reorganize in order to "isolate" its LTC insurance business. I have written about that effort, most recently in Nos. 154 and 155 (April 7 and 13, 2016). Because of its financial problems and its effort to reorganize, one or more of Genworth's companies may be operating under a supervision order, but I am not aware of the existence of such an order.

On October 23, 2016, Genworth surprised insurance observers by announcing its entry into a definitive merger agreement. If the agreement is consummated, Genworth would be an indirect, wholly owned subsidiary of China Oceanwide Holdings Group Co., Ltd., a privately held international financial holding company group headquartered in Beijing. The agreement provides for Genworth's headquarters to remain in Virginia under the current senior management. The agreement is subject to the approval of Genworth's shareholders, state insurance regulators, federal agencies in the U.S., and governmental authorities in Australia, Canada, China, and Mexico. Genworth hopes to close on the agreement by the middle of 2017.

The agreement consists of 129 single-spaced pages and additional exhibits and schedules that Genworth will make available upon request. An overview of the agreement is in a five-page, single-spaced, October 23 joint press release from China Oceanwide and Genworth. Here are the first two paragraphs of the press release:
China Oceanwide Holdings Group Co., Ltd. ("China Oceanwide") and Genworth Financial, Inc. (NYSE:GNW) ("Genworth") today announced that they have entered into a definitive agreement under which China Oceanwide has agreed to acquire all of the outstanding shares of Genworth for a total transaction value of approximately $2.7 billion, or $5.43 per share in cash. The acquisition will be completed through Asia Pacific Global Capital Co. Ltd., one of China Oceanwide's investment platforms. The transaction is subject to approval by Genworth's stockholders as well as other closing conditions, including the receipt of required regulatory approvals.
As part of the transaction, China Oceanwide has additionally committed to contribute to Genworth $600 million of cash to address the debt maturing in 2018, on or before its maturity, as well as $525 million of cash to the U.S. life insurance businesses. This contribution is in addition to $175 million of cash previously committed by Genworth Holdings, Inc. to the U.S. life insurance businesses. Separately, Genworth also announced today preliminary charges unrelated to this transaction of $535 to $625 million after-tax associated with long term care insurance (LTC) claim reserves and taxes. Those items are detailed in a separate press release. The China Oceanwide transaction is expected to mitigate the negative impact of these charges on Genworth's financial flexibility and facilitate its ability to complete its previously announced U.S. life insurance restructuring plan. Genworth believes this transaction is the best strategic alternative to maximize stockholder value.
The "separate press release" referred to in the second paragraph quoted above is a three-page, single-spaced, October 23 press release from Genworth. It is entitled "Genworth Financial Announces Preliminary Charges For The Third Quarter."

General Observations
Unlike in the case of a rehabilitation or a liquidation, state insurance regulators normally have the authority to place an insurance company under supervision without court approval. The supervision may be carried out in secret, or it may be carried out publicly. Where secrecy is used, the reason is to avoid exacerbating the company's fragile financial condition. Nonetheless I question the wisdom of secret supervision because I think policyholders, shareholders, creditors, employees, agents, and other interested parties are entitled to the truth about the company's financial problems.

It is my understanding that similar secret proceedings are used in the banking business, arguably to prevent runs. Here again, however, I think a bank's customers, shareholders, creditors, employees, and other interested parties are entitled to the truth about the bank's financial problems.

Available Material
I am offering a complimentary 22-page PDF. It consists of articles from the October 1999, August 2012, and May 2013 issues of The Insurance Forum (a total of 14 pages), the five-page October 23 joint press release from China Oceanwide and Genworth, and the three-page October 23 press release from Genworth. Email jmbelth@gmail.com and ask for the November 2016 package about LTC insurance and supervision.