There have been a number of decisions from courts across the country – including from New York’s highest court, the Court of Appeals – in cases involving stranger-originated life insurance policies (“STOLI”) since our October 2010 Legal Bulletin, “Ruling Permits Life Insurance Company’s Claims To Proceeds In Case Involving Alleged STOLI Fraud.” That Legal Bulletin highlighted a variety of issues frequently faced in STOLI litigation and discussed the growing life settlement market, which involves the sale of life insurance policies by owners to third parties.
The most prominent STOLI-related case in recent months is Kramer v. Phoenix Life Ins. Co. This dispute reached the New York Court of Appeals when the U.S. Court of Appeals for the Second Circuit asked the New York Court to decide whether New York Insurance Law §§ 3205(b)(1) and (b)(2) “prohibit an insured from procuring a policy on his own life and immediately transferring the policy to a person without an insurable interest in the insured’s life, if the insured did not ever intend to provide insurance protection for a person with an insurable interest in the insured’s life?” The New York Court of Appeals answered that question in the negative, and held that New York law permits a person to procure an insurance policy on his or her own life and immediately transfer it to someone without an insurable interest in that life, even where the policy was obtained for just such a purpose.
The practical significance of the Kramer decision remains to be seen, given that a new law in New York that regulates the life settlement industry prohibits STOLI transactions, which it defines as “any act, practice or arrangement, at or prior to policy issuance, to initiate or facilitate the issuance of a policy for the intended benefit of a person who, at the time of policy origination, has no insurable interest in the life of the insured under the laws of this state.” The new law also prohibits anyone from entering a valid life settlement contract for two years following the issuance of a policy, with some narrow exceptions. (Because these provisions did not go into effect until May 18, 2010, they did not govern the appeal in Kramer.)
More recently, on January 7, a federal district court in Florida issued a decision in Pruco Life Ins. Co. v. Brasner, a STOLI case. The complaint in this case alleged that Arlene Berger had applied for a $10 million life insurance policy with Pruco Life Insurance Company and had listed her husband, Richard Berger, as the prospective beneficiary. Pruco asserted, however, that those involved in the policy’s procurement understood that Mr. Berger would not receive any death benefits from the policy upon his wife’s death; rather, the beneficial interest would be sold to an investor with no insurable interest in her life.
Moreover, Pruco alleged that the information provided to it in connection with the application was fraudulent because it “grossly overstated Ms. Berger’s income, assets and net worth.” Pruco also asserted that, because it did not know the information was false, Prudential issued the policy on Arlene Berger’s life in the amount of $10 million. Pruco’s complaint asserted that one month after the policy was placed in force, a request was made to change its owner and beneficiary to the Wilmington Trust Company as Trustee of the Arlene Berger 2006 Life Insurance Trust dtd. 6/5/06. Thereafter, on December 24, 2008, Prudential received a second request to change the owner and beneficiary, this time to Wells Fargo Bank N.A. as Securities Intermediary.
Pruco brought suit against Wells Fargo, among others, seeking a declaratory judgment that the policy lacked an insurable interest at inception and therefore was void ab initio. Wells Fargo moved to dismiss that claim, arguing, among other things, that an insurable interest existed on the policy’s inception date and that, in any event, Florida’s incontestability statute and the policy’s two-year incontestability provision barred Pruco’s claim. The court denied the Wells Fargo motion.
The court explained that the complaint asserted that Ms. Berger had never intended to maintain the policy herself, and that Mr. Berger had never intended to retain his interest. It found that those allegations, if proven, would show that there was an agreement prior to the issuance of the policy to assign the policy to an entity without an insurable interest in Ms. Berger’s life. That “would demonstrate” that the policy was not procured in good faith, and that “there was therefore no valid insurable interest.” Accordingly, the court refused to dismiss that claim based on Wells Fargo’s argument that there was a valid insurable interest at the policy’s inception.
Importantly, the court also ruled that Pruco’s claim did not have to be dismissed even though the insurer had brought its action after the expiration of the incontestability period. The court found that the majority view allowed a lack of insurable interest claim to proceed despite the expiration of an incontestability clause, and it decided that that was “the proper view” under Florida law.
A California Ruling
Another notable recent case, Ohio Nat’l Life Assur. Corp. v. Davis, involved claims of a fraudulent scheme to procure life insurance policies as to which no insurable interests existed at the time of the policies’ inception. Here, a federal district court in California granted the insurer’s request for a preliminary injunction, finding that the complaint alleged a STOLI arrangement, which was a prohibited “fraudulent life settlement act” under applicable California law. The court noted that the insurer alleged that two individuals who were asked to apply for life insurance policies were promised that they would not have to pay premiums but that they would receive payments for their participation and that they were convinced to sign irrevocable trusts naming the trusts as owners of the policies.
The court stated that it seemed “highly likely” that the insurer would succeed in establishing that the procurement of the policies were STOLI transactions, and it prohibited the sale or transfer of any interest in the policies, directly or indirectly.
The rapid, and continuing, growth of the life settlement industry is undoubtedly going to be accompanied by litigation in courts across the United States until the major STOLI issues are resolved, or until states adopt legislation that clearly sets forth the rules. Different rules are likely to govern in different jurisdictions, so it is important to keep in mind the applicable law.