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Life Insurance

Fraud in connection with the sale of life insurance products has become more prevalent in recent years. Financial Advisors who have been sanctioned by FINRA or barred from selling securities have simply transitioned their financial practice to selling life insurance. Given the lack of communication between FINRA and individual states, which are responsible for monitoring life insurance sales within the state, bad actors, referred to as “Wandering Financial Advisors,” escape oversight and continue to engage in misconduct. https://www-cdn.law.stanford.edu/wp-content/uploads/2021/01/Honigsberg__Hu__Jackson_01192021.pdf

There are many different types of life insurance. The most common form of life insurance is Term Life Insurance, which provides coverage for a fixed amount of time. The death benefit is also fixed. Once the Term Life Insurance policy reaches its expiration date, the insurance company no longer has an obligation to pay death benefits.

On the other hand, permanent forms of life insurance include Whole Life Insurance, Variable Universal Life Insurance (VUL), and Universal Life Insurance (UL).

Whole Life Insurance policies pay death benefits based on the face value of the insurance policy, plus any appreciation of cash value. In addition to the death benefit, Whole Life Insurance policies have a savings component that will grow, tax-deferred, based on the level of premium payments made by the insured. In order for the cash value to grow, an insured is required to add premium. Dividends are also paid by the insurance company each year and can be used to either purchase additional life insurance or increase the cash value. Insureds are free to withdraw cash value from their Whole Life Insurance policy in the form of a policy loan. If the loan is not repaid before death, it will become an offset against the death benefits ultimately paid.

Variable Universal Life Insurance or Universal Life Insurance are also forms of permanent insurance that are less expensive than Whole Life Insurance. With VUL or UL policies, insureds have the flexibility to increase or decrease death benefits at any point in time. The VUL and UL policies also have a savings component wherein an insured can accrue cash value. Unlike Whole Life Policies, which have a fixed rate of return, VUL and UL policies can be invested more aggressively so that the cash value increases more quickly. VUL and UL policies are often invested in a stock index or basket of mutual funds. Of course, this exposes to the sub-accounts of the VUL and UL policies to market risk and could require the insured to contribute additional premium to keep the policy in-force long-term.

Whole Life Insurance, Variable Universal Life Insurance and Universal Life Insurance are often sold for investment purposes. Financial Advisors recommend permanent insurance because the commission structure is lucrative. Insurance companies will pay a significant percentage of the first-year premium and a trailing commission for each year thereafter. For this reason, Financial Advisors recommend that clients “roll-over” IRA accounts, annuities, and other investment accounts into these permanent insurance products so that there is a large, lump-sum contribution from which their commission is calculated.

Financial Advisors misrepresent the benefits/risks of permanent insurance products by claiming investors can generate “income” from accrued cash value. However, permanent insurance products do not pay income. In order for investors to access the cash value, they must take a loan against the policy, which has to be repaid. If the loan is not repaid, it becomes a liability against the death benefit. Moreover, permanent insurance products are designed so that the cash value can eventually help pay some or all of the premium payments required to maintain the insurance policy. If there is a policy loan that is not repaid, the cash value will be insufficient to pay future premium payments. If this occurs, investors will have to contribute more money to the permanent insurance products or risk a complete lapse in the policy and loss of their principal investment and death benefit. In other words, taking policy loans for “so-called” will inevitably cause the policy to erode in value and become much more expensive to sustain. It will also cause the policy to lapse if the loan is not repaid or additional premium is not added.

In extreme cases, Financial Advisors have recommended that investors secure policy loans in order to establish new insurance policies. This practice almost always results in financial destruction and a complete loss of the death benefits provided by the permanent insurance policies. This is called insurance twisting/churning, wherein the sole objective is to generate commissions for the Financial Advisor.

FINRA Has Issued Guidance Regarding The Sale Of Life Insurance Products

FINRA recognized this as a problem many years ago when it issued Notice to Members 00-44, which highlights the following:

  • The member should consider whether the customer desires and needs life insurance and whether the customer can afford the premiums likely needed to keep the policy in force.
  • Members may wish to establish special supervision requirements for sales to older customers. Life insurance is often appropriately purchased by older investors. However, variable life insurance may not be suitable for an older investor who is primarily seeking an investment rather than an insurance product. Additionally, members should carefully consider whether an older investor has the financial means to sustain the likely amount of policy premium payments.
  • Registered representatives should be thoroughly familiar with the features and costs associated with each recommended variable life insurance policy, including surrender charges, premium and cash value charges, separate account charges, underlying fund fees, subaccount investment options, loan provisions, free-look periods, and policy premium lapse periods. The registered representative also should be able to clearly convey such information to the customer so that the customer can make an informed investment decision regarding the recommendation.
  • Members should not recommend that a customer finance a variable life insurance policy from the value of another life insurance policy or annuity, such as through the use of loans or cash values, unless the transaction is otherwise suitable for the customer. The NASD believes that the burden of demonstrating that such financed transactions are in the customer’s best interests would generally be more difficult than for a routine sale of variable life insurance. In the Pruco case, many customers’ existing cash values were depleted to pay the premiums of new policies. The new policies lapsed when the required premium for the new variable life insurance policy exceeded the dividend stream or cash value of the original policy.

If your Financial Advisor recommended that you invest in permanent insurance products, and you believe that he or she may have sold those products to you without full disclosure of the characteristics and risks, you may be able to recover your investment losses through a FINRA arbitration claim. Contact the Wolper Law Firm at 800.931.8452 for a free consultation to discuss your legal rights.

Attorney Matthew Wolper

Attorney Matthew WolperMatt Wolper is a trial lawyer who focuses exclusively on securities litigation and arbitration. Mr. Wolper has handled hundreds of securities matters nationwide before the Financial Industry Regulatory Authority (FINRA), American Arbitration Association (“AAA”), JAMS, and in state and federal court. Mr. Wolper has handled and tried cases involving complex financial products and strategies ranging from traditional stocks and bonds to options, margin and other securities-based lending products, closed/open-end mutual funds, structured products, hedge funds, and penny stocks. [Attorney Bio]