Friday, June 23, 2017

No. 223: Long-Term Care Insurance—Why It Is Wrong for States To Help Private Companies Sell the Product

In May 2017 an Indiana resident shared with me a long-term care (LTC) insurance promotional mailing he had just received. The mailing purported to be from the Indiana Partnership for Long Term Care, but in reality it was from a lead-development company in Texas. I wrote major articles in the July 2008 and January 2012 issues of The Insurance Forum about the California and Indiana LTC insurance partnerships. Here I provide an update and explain why I think it is wrong for states to help private companies sell LTC insurance.

LTC Insurance State Partnerships
LTC insurance state partnerships began in the late 1980s as a demonstration project funded by the Robert Wood Johnson Foundation. The original four states selected to participate were California, Connecticut, Indiana, and New York. Section 6021 of the Deficit Reduction Act of 2005 resulted in the expansion of the program into almost all the other states.

An LTC partnership program affects a state's Medicaid system. When a person buys a "partnership qualified" (PQ) policy, the person receives a one-dollar "disregard" for Medicaid qualification purposes for each dollar of LTC benefits received. For example, if an insured with a PQ policy receives $100,000 in LTC benefits, the insured would be able to keep $100,000 of assets beyond the minimal asset level required for Medicaid eligibility. It is important to recognize there is no "disregard" merely from ownership of a PQ policy. Stated another way, there is no "disregard" until the insured receives LTC benefits. Thus an insured whose claim for LTC benefits is denied by the LTC insurance company would receive no "disregard" for Medicaid qualification purposes.

The American Association for Long-Term Care Insurance (AALTCI), founded in 1998 and based in Westlake Village, California, describes itself as "the national professional organization exclusively dedicated to promoting the importance of planning for long-term care needs" and "the nation's leading independent organization serving those who offer long-term care insurance and other planning solutions." Its members are agents and companies selling LTC insurance, it provides information about state LTC insurance partnerships, and it offers various services to its members.

When I checked AALTCI's website ( in May 2017, I found a list of state partnerships as of March 2014. When I inquired, AALTCI provided a list as of February 2017. The updated list shows for each state the status of enabling legislation, whether the state provides reciprocity with other states, the effective date of the partnership, and whether the partnership is operational. Also, for each state, there is a description of the BIO, which is the benefit inflation protection option.

My Two Articles
I wrote my July 2008 article after The Wall Street Journal carried an article critical of the California LTC insurance partnership. I examined the program, expressed the opinion that the problem of financing LTC cannot be solved through the mechanism of private insurance, and explained the reasons for my opinion. I also expressed concern that the promotional letter was over the signature of the California governor, thus giving the appearance of an endorsement by the state. I wrote my January 2012 follow-up article after seeing a letter over the signature of the Indiana governor promoting LTC and the Indiana LTC insurance partnership.

In both articles I described the mailings and indicated that the response forms were addressed to Senior Direct, Inc. (Rockwall, TX), a private lead-development company. I also said Senior Direct sold the response forms to insurance agents.

The Recent Indiana Package
The May 2017 Indiana package consisted of four items: (1) a one-page letter, (2) a response form attached to the bottom of the letter, (3) a postage-paid-by-addressee reply envelope, and (4) an outside window envelope with no return address. In the upper left corner of the letter were the words "Information Concerning" in small type followed by the words "The Indiana Partnership for Long Term Care" in large type. Next to those words was a partial outline of the state of Indiana. In the upper right corner of the letter was information about nursing home and assisted living facility costs in Indiana, with a footnote indicating that the source of the data was the "Indiana Department of Insurance." The salutation was "Dear Fellow Hoosiers" and the letter was unsigned. Following the text of the letter, the recipient was urged to send back the response form, which was addressed to "SD Reply Center" at a post office box in Rockwall. The response form showed the name and address of the addressee and asked for the person's age, the spouse's age, telephone numbers, and an email address. At the bottom of the response form was a single line of small print consisting of three sentences:
Please verify address. Fill out card in its entirety and mail in the enclosed envelope today. Not affiliated with or endorsed by any government agency.
I sent the Indiana Department of Insurance a copy of the components of the promotional mailing. I pointed out several of the ways in which the package, although in this instance not signed by the Indiana governor, had the earmarks of an endorsement by the state and the Indiana department. I also expressed the opinion that the small-print disclaimer at the end of the one-line note at the bottom of the response card was not enough to offset all the earmarks of an endorsement.

In response, a department official said the state and the department no longer endorse the sale of LTC insurance to Indiana citizens. Further, the official said that the department was launching an investigation of the recent mailing, but that the results of the investigation probably would not be available for some time. I decided to post this item now and prepare a follow-up after the results of the investigation become available.

General Observations
For at least five reasons, it is my opinion that it is wrong for states and state insurance departments to allow themselves to be drawn into efforts to sell private LTC insurance to their citizens. First, as explained in my July 2008 article, the problem of financing the LTC exposure cannot be solved through the mechanism of private insurance. Second, many of those who try to solve the problem through private LTC insurance will suffer disappointment in several ways, including large premium increases. Third, the problems have become widely known not only because of substantial premium increases but also by the withdrawal of many LTC insurance companies from the LTC insurance market. Fourth, among the few remaining LTC insurance companies, some have experienced significant declines in their financial strength ratings, and one has been placed in liquidation. Fifth, when a state or state insurance department endorses or appears to endorse LTC insurance, citizens will blame their state government when they encounter disappointment.

Available Material
I am offering a complimentary 11-page PDF consisting of the July 2008 and January 2012 articles in The Insurance Forum (7 pages) and a copy of the recent promotional mailing to Indiana residents with the name and address of the recipient redacted (4 pages). Email and ask for the June 2017 package about state LTC insurance partnerships.


Thursday, June 15, 2017

No. 222: The Surplus Limitation Law in Massachusetts and a Quiet Amendment

In No. 218 (posted May 18, 2017), I wrote about the March 2017 settlement of a July 2012 class action lawsuit against Massachusetts Mutual Life Insurance Company alleging underpayment of dividends on participating life insurance policies. The complaint alleged violations of an old Massachusetts surplus limitation law. One hour after No. 218 was posted, an alert reader informed me that the old law was amended effective August 10, 2016, four years after the plaintiff filed her complaint. In this follow-up, I discuss the amendment and other matters.

The Massachusetts Surplus Limitation Law
The surplus limitation law is Section 141 of Chapter 175 of the Massachusetts statutes. When the lawsuit was filed, the law allowed a mutual life insurance company domiciled in Massachusetts to hold a "safety fund" not to exceed 12 percent of reserve liabilities. The law also required the company to distribute to its participating policyholders, in the form of dividends, amounts in excess of the safety fund.

The amendment increased the allowable safety fund from 12 percent to 20 percent of reserve liabilities. The amendment was a small section of Massachusetts House Bill No. 4569. That was a huge bill relating to "job creation, workforce development and infrastructure investment." The bill consisted of 140 sections and 123 pages. The amendment was Section 113, which was buried on page 108 of the bill. Here is the full text of the amended version of the surplus limitation law incorporating the increase in the allowable safety fund:
Any domestic life company may from its surplus funds or profits attributable to its participating business accumulate and hold, or hold if already accumulated, as a safety fund, an amount not in excess of 20 percent of its reserve for such business or one hundred thousand dollars, whichever is greater, and, in addition thereto, any surplus that may have been contributed by the holders of the guaranty stock of the company, or which has been accumulated for the retirement of said guaranty stock and the margin of the market value of its securities over their book value, provided that in cases where the existing surplus or safety fund, exclusive of accumulations held on account of existing deferred dividend policies, exceeds the limit above designated, the company shall be entitled to retain said surplus or safety fund, but shall not be entitled to add thereto so long as it exceeds said limit, and provided that for cause shown, the commissioner may at any time and from time to time permit any company to accumulate and maintain a safety fund in excess of the limit above mentioned, for such period as the commissioner may prescribe in any one permission, by filing in his office his reasons therefor and causing the same to be published in his next annual report. This safety fund shall be in addition to any safety fund accumulated from a mutual domestic life company's surplus funds attributable to its nonparticipating business, which funds may be appointed [apportioned?] equitably, in the discretion of the company, as part of any annual dividend on participating business. This section shall not apply to any company issuing only nonparticipating policies.
I asked Massachusetts Mutual for a statement about the amendment. A company spokesman provided this statement:
The amendment of the statute allows our company and other Massachusetts mutual life insurers the option of maintaining additional capital, so that in times of economic difficulty, policyholders can be confident that claims will be paid and their loved ones will be protected.
The Pennsylvania Surplus Limitation Law
In No. 217 (posted May 11, 2017), I wrote about a similar class action lawsuit against Penn Mutual Life Insurance Company alleging violations of a similar Pennsylvania law. The law is in Section 614 of the Pennsylvania statutes. That section allows a mutual life insurance company domiciled in Pennsylvania to hold a "safety fund" not to exceed 10 percent of reserve liabilities, and requires the company to distribute to its participating policyholders amounts in excess of the safety fund.

The New York Surplus Limitation Law
As I said in No. 217, New York was the first state to enact a surplus limitation law. It was among the reforms enacted in New York in 1906 after the famous Hughes-Armstrong investigation of 1905. Among the parallel reforms, enacted in New York at the same time to prevent mutual life insurance companies from accumulating excessive amounts of surplus, was a law requiring the annual distribution of surplus.

A few other states, such as Massachusetts and Pennsylvania, enacted surplus limitation laws shortly after New York did so. I believe that Wisconsin also enacted such a law, which fell by the wayside during the 1979 recodification of Wisconsin's insurance laws led by Spencer Kimball.

The current surplus limitation law in New York is Section 4219(a)(1). That section allows a domestic mutual life insurance company to maintain a surplus not exceeding the largest of four figures: (1) $850,000, (2) 10 percent of reserve liabilities, (3) 10 percent of reserve liabilities plus (a) 300 percent of authorized control level risk-based capital [which is equivalent to 150 percent of company action level risk-based capital] minus (b) asset valuation reserve, and (4) minimum capital and surplus required by any state where the company is licensed.

Background in New York
Because of the importance of New York's surplus limitation law, some background seems appropriate. The New York legislature created a committee in 1905 "to investigate and examine into the affairs of life insurance companies doing business in the State of New York." The committee was chaired by New York State Senator William W. Armstrong. The other members of the committee were two other state senators and five members of the state assembly.

One of the causes of the investigation was the widespread sale of "deferred-dividend" policies, also called "semi-tontine" policies. The policies allowed the companies to accumulate large amounts of surplus and squander large amounts of money.

Charles Evans Hughes was appointed counsel to the committee. He so dominated the work of the committee that the investigation, normally called the Armstrong investigation, is often called the Hughes-Armstrong investigation. Public hearings began on September 6, 1905, consisted of 57 sessions, and ended on December 30, 1905. I devoted almost the entire 12-page January 2011 issue of The Insurance Forum to a discussion of the investigation.

The investigation led to an illustrious career for Hughes. Shortly after the investigation he was elected Governor of New York. Later he served for six years as an Associate Justice of the U.S. Supreme Court. In 1916 he was the Republican Party's unsuccessful candidate for President of the United States. He served for four years as U.S. Secretary of State, for two years as a judge on the Court of International Justice, and finally for 11 years as Chief Justice of the United States.

Buist M. Anderson, a prominent insurance statesman and author, was for many years general counsel of Connecticut General Life Insurance Company. He wrote an excellent 40-page paper entitled "The Armstrong Investigation in Retrospect," which was published in the 1952 Proceedings of the Association of Life Insurance Counsel. A three-paragraph section of the paper discussed New York's surplus limitation law. Here, without footnotes, is that section:
Mr. Hughes was bothered by the huge surplus funds which had been made possible by the deferred dividend system without annual accounting and he recommended that mutual companies should be limited as to their surplus funds. The limitation recommended was graduated from the larger of 20 per cent of "net values" or $10,000 in the case of small companies down to 2 per cent of "net values" in the case of companies with such values in excess of $500,000,000. The Legislature did not accept the lower limit as recommended but permitted a surplus graded down only to 5 per cent.
Mr. Hughes was obviously not sufficiently conservative in recommending the rather severe limit on surplus funds. He could not, of course, foresee the Panic of 1907, which depressed bond values at the year-end to a point where it was necessary for the Insurance Commissioners to permit the valuation of bonds on an average basis as of the year-end and as of the first of each of the months of 1907, a plan commonly known as the "Louisville Resolution" or the "Rule of Thirteen." Had this concession in valuation not been made, some important companies would have had their surpluses entirely wiped out as of the 1907 year-end. Amortization of bonds which serves to stabilize bond values was first permitted with the passage of enabling legislation in New York in 1909.
Surplus funds for life insurance companies were not regarded as nearly so important in 1906 as later. The surplus limitation in New York for the larger companies was raised from the 5 per cent imposed by the 1906 law to 7½ per cent in 1916 and to 10 per cent in 1920; and the limit was made the larger of 10 per cent of reserves and liabilities or $500,000 as of January 1, 1940, and as the larger of 10 percent or $750,000 as of April 16, 1949.
General Observations
I am not aware of any debate, hearings, or publicity about the recent amendment to the Massachusetts surplus limitation law. Nor do I know who arranged for the amendment. The amendment probably was the result of a quiet lobbying effort by Massachusetts Mutual or by a company trade association of which Massachusetts Mutual is a member.

I believe that the primary objective of the amendment was to reduce the likelihood of future litigation. I say that because of data in the lawsuit filed in July 2012 against Massachusetts Mutual. The plaintiff's estimates of the safety fund ranged from 12.02 percent to 15.87 percent of reserve liabilities from 1999 through 2010. Thus increasing the safety fund limit to 20 percent made future litigation unlikely.

Available Material
I am offering a complimentary PDF of the 12-page January 2011 issue of The Insurance Forum. Email and ask for the January 2011 issue of the Forum.


Thursday, June 8, 2017

No. 221: David McCullough's New Book—A Sparkling Gem

Readers of this blog know David McCullough is one of my favorite historians. He has received, among many honors, two Pulitzer prizes, two National Book Awards, two Francis Parkman Prizes, a Presidential Medal of Freedom, and 54 honorary degrees.

I have read all ten of McCullough's books, and every one is a treasure. In chronological order of publication, they are: The Johnstown Flood (1968); The Great Bridge, about the building of the Brooklyn Bridge (1972); The Path Between the Seas, about the building of the Panama Canal (1977); Mornings on Horseback, about the young Theodore Roosevelt (1981); Brave Companions, about several prominent historical figures (1991); Truman (1992); John Adams (2001); 1776 (2005); The Greater Journey, about the American writers, poets, artists, sculptors, composers, and others who drew inspiration from the time they spent in Paris during the 19th century (2011); and The Wright Brothers (2015).

When I heard about McCullough's latest book, a sparkling 167-page gem, I rushed to get it for Memorial Day weekend reading. It is entitled The American Spirit: Who We Are and What We Stand For. It is a collection of 15 of his many addresses at historic events and at college commencements. In chronological order, they were at: a joint session of Congress (1989); the University of Pittsburgh (1994); Union College (1994); an Independence Day Naturalization Ceremony at Monticello (1994); Dickinson College (1998); the University of Massachusetts (1998); Dartmouth College (1999); the bicentennial of the White House (2000); a National Trust for Historic Preservation Conference (2001); Ohio University (2004); Hillsdale College (2005); a celebration of the 250th birthday of the Marquis de Lafayette (2007); Boston College (2008); the memorial service at Dealey Plaza in Dallas marking the 50th anniversary of the assassination of President Kennedy (November 22, 2013); and the U.S. Capitol Historical Society (2016).

In the introduction to his new book, McCullough explained why he decided to publish it at this time. He mentioned his
hope that what I have had to say will help remind us, in this time of uncertainty and contention, of just who we are and what we stand for, of the high aspirations that inspired our founders, of our enduring values, and the importance of history as an aid to navigation in such troubled, uncertain times.
I was especially moved by McCullough's address at the bicentennial of the White House. He described how President John Adams, the first occupant, moved in on November 1, 1800. Early the next morning Adams wrote a memorable letter to his wife Abigail, who was at their home in Massachusetts. The letter adorns the inside front cover of the new book, and McCullough mentioned the letter on page 551 of his biography of Adams. President Franklin Roosevelt had two sentences of the letter carved into the wooden mantelpiece in the State Dining Room. When the White House was rebuilt, President Truman insisted that the inscription remain. President Kennedy had the inscription carved into the mantelpiece in marble.
I pray heaven to bestow the best of blessings on this house, and all that shall hereafter inhabit it. May none but honest and wise men ever rule under this roof.

Thursday, June 1, 2017

No. 220: Connecticut Violates the Constitutional Rights of Insurance Policyholders

Connecticut recently enacted a law that authorizes a Connecticut-domiciled insurance company to divide itself into two or more insurance companies. In this post I explain the reasons for my opinion that the law violates the constitutional rights of insurance policyholders.

An insurance contract creates a creditor-debtor relationship between the parties. The policyholder is the creditor and the insurance company is the debtor. Consider this loan contract analogy:
Sue borrows money by entering into a loan contract with a bank. The bank is the creditor and Sue is the debtor. Sue and her friend Jim later enter into a separate contract under which Jim agrees to take over Sue's obligations. Imagine the reaction of the bank's loan officer when she receives this letter from Sue:
"Effective immediately, my obligations to you have been taken over by Jim. You have no recourse to me in the event of Jim's failure to meet his obligations to you."
The problem is that a debtor cannot be relieved of his, her, or its obligations to a creditor without the consent of the creditor. In the case of an insurance policy, the insurance company (the debtor) cannot be relieved of its obligations to the policyholder (the creditor) without the consent of the policyholder.

If the policyholder consents, the transaction would be a "novation," in which another debtor is substituted for the original debtor. Stated differently, another insurance company is substituted for the original insurance company. Stated still differently, the obligations under an insurance policy contract are transferred from the original insurance company to another insurance company.

The two major types of consent to a novation are affirmative (positive) consent and implied (negative) consent. Affirmative consent occurs when the creditor signs a form granting permission to complete the novation. Implied consent occurs when the creditor does nothing and is deemed to have consented to the novation.

The Penn Mutual Case
In 1963 Mr. X bought a noncancellable and guaranteed renewable disability insurance policy from Penn Mutual Life Insurance Company. In the 1970s Penn Mutual stopped issuing new disability policies, but continued to administer its previously issued disability policies.

In 1986 Penn Mutual sent Mr. X a letter informing him that his disability policy had been transferred to Benefit Trust Life Insurance Company. In response to Mr. X's inquiry, a Penn Mutual official said that Benefit Trust had taken total control of the disability policies and the obligations under them, and that Penn Mutual had no further obligations under the policies. In response to my subsequent inquiry, a Penn Mutual senior officer said policyholders would have no recourse to Penn Mutual in the event of Benefit Trust's insolvency. None of the three Penn Mutual letters said anything about the need for Mr. X's consent to the transfer.

The Advisory Committee
The Penn Mutual case and other similar cases prompted me to write many articles in The Insurance Forum about policy transfers. I also volunteered to serve on an advisory committee appointed by a working group of the National Association of Insurance Commissioners (NAIC) when the regulators sought to deal with the firestorm my articles had created. I was one of nine members of the advisory committee; the other eight represented insurance companies.

All nine members of the advisory committee agreed an insurance company must obtain the consent of the policyholders in a policy transfer. Eight industry members agreed that implied consent was adequate. I disagreed, insisting that affirmative consent was essential.

The chairman of the advisory committee asked the industry members to draft a model bill or model regulation based on implied consent. The advisory committee then submitted its model to the working group. I drafted a model based on affirmative consent and submitted my model to the working group as a minority report of the advisory committee.

The Constitutional Question
When the advisory committee submitted its model based on implied consent to the chairman of the working group, he was concerned about whether such a model would survive a challenge under the U.S. Constitution. He asked the chairman of the advisory committee to obtain a legal opinion. The chairman of the advisory committee asked an attorney member of the advisory committee to write a legal opinion. Here is the final sentence of the legal opinion:
For the reasons set forth above, we are of the opinion that the implied consent provision of the proposed Model Act would withstand a challenge based upon the United States Constitution.
I asked an attorney who specializes in constitutional law to review the legal opinion that the advisory committee had obtained. He wrote a memorandum that included these two sentences:
Having carefully reviewed the [advisory committee's opinion] letter and the authorities it discusses, I do not believe that the analysis set forth in the letter is persuasive. For the reasons discussed below, it is far from clear that an implied consent provision would pass muster under either the Due Process or Contract Clauses of the Constitution.
The working group and the NAIC decided to rely on the advisory committee's legal opinion. The NAIC model, therefore, is based on implied consent. In an article in the August 1992 issue of The Insurance Forum, I showed the full text of each of the two opinion letters.

The Recent Connecticut Law
On February 16, 2017, a legislative committee held a public hearing on House Bill 7025 "authorizing domestic insurers to divide." In testimony at the hearing, the Connecticut Insurance Department (CID) endorsed the bill, saying in part:
Generally, this bill will authorize a Connecticut domestic insurer to divide into two or more resulting insurers. This type of corporate restructuring is the reverse of a merger: instead of combining two or more insurers into one, a division will divide the Connecticut domestic insurer into two or more resulting insurers... The domestic insurer is required to file the plan of division with the Insurance Commissioner and obtain approval of the plan. The Commissioner may hold a public hearing to consider the matter if it is deemed in the public interest.
At the same hearing, The Hartford Group also spoke in favor of the bill. A company official said in part:
Being able to segregate businesses would allow domestic insurers to pursue more focused management strategies tailored for individual lines of business. This bill also provides domestic insurers a practical way to segregate and sell businesses that are no longer part of their business strategy, something that Connecticut law doesn't currently provide.
A case in point: In 2012, The Hartford announced it was no longer writing certain life insurance business. Later that year, we transferred our individual life and retirement plans businesses to Prudential and Mass Mutual, respectively. However, The Hartford could not realize a full and final sale of these businesses. Instead, we used the only practical option available. We entered into reinsurance arrangements with those companies. As a result, we have ongoing obligations, administrative complexity and compliance risk associated with those businesses. The long term obligations under the reinsurance arrangements means that The Hartford will experience that complexity and risk for many years to come.
On April 5, 2017, the Connecticut House of Representatives approved the bill. On May 3, the Connecticut Senate approved the bill. On May 8, the bill became law as Public Act No. 17-2 after Connecticut Governor Dannel Malloy did not sign or veto the bill within five days. The law will take effect October 1. I am not aware of anyone testifying against the bill at the hearing, nor am I aware of any publicity about the bill.

Based on testimony at the hearing, I believe that Connecticut's division law is patterned after similar laws in Arizona, Pennsylvania, and Rhode Island. I plan to explore those laws and their origins.

The Debevoise Analysis
Debevoise & Plimpton is a law firm that represents insurance companies. On May 11, three days after the bill became law, Debevoise issued a "client update" on the new law. Debevoise said the new law
may prove to be a valuable tool for Connecticut domiciled insurance companies. It could be used to isolate a block of business for sale to a third party in a transactioon that without the statute could only be accomplished through reinsurance. It could also be used by a company to separate its active book of business from a troubled run-off block, potentially improving the capital position and credit rating of the active company.
General Observations
What Hartford failed to mention in its testimony is that the company could have asked the affected policyholders for their consent to novation of their contracts. Prudential and Mass Mutual would have taken over administration of all the contracts, and would have taken over Hartford's obligations under the contracts of policyholders who consented to the transfer of the obligations. With regard to the contracts of policyholders who did not consent to the transfer, Prudential and Mass Mutual would have continued to administer the contracts, but Hartford would have retained responsibility for the obligations under the contracts.

The "case in point" in Hartford's hearing testimony makes clear the objective of the "division law." The "reinsurance arrangements" were "assumption reinsurance agreements" under which Hartford transferred the policies to Prudential and Mass Mutual. Hartford would have been relieved of its obligations to each policyholder only with the consent of that policyholder, and would have had to retain the obligations to each policyholder who did not consent to the transfer. Because policyholder consent is not required for a "division" or for the sale of a company, Hartford is now able to place unwanted blocks of business in a second company and then sell the second company, thus transferring its obligations to all the affected policyholders without their consent.

Hartford is now permitted to write letters to their policyholders similar to Sue's letter to the bank in the loan contract analogy, and similar to Penn Mutual's 1986 letters to its disability insurance policyholders. In my opinion, the division law allows Connecticut-domiciled insurance companies to transfer their obligations without policyholder consent, and thereby to violate the constitutional rights of their policyholders.

Available Material
I am offering a complimentary 31-page PDF containing the full text of the division law (20 pages), the CID and Hartford testimony at the hearing (3 pages), the Debevoise client update (4 pages), and my article in the August 1992 issue of The Insurance Forum (4 pages). Email and ask for the June 2017 package relating to Connecticut's division law.