An Ongoing Case in California You Should Be Aware Of If You Are a TOLI Trustee

An interesting class action lawsuit filed in January of this year is unfolding in California. The case, Larry Grill et al v. Lincoln National Life Insurance Company, was brought against the insurance carrier for “concealing from its insureds the option of a life settlement in connection with their life insurance policies.”

In an all too common scenario (which I am sure you have seen), the grantors of a trust, currently in their mid to late 70s, decided they would no longer gift an amount to their trust sufficient to carry the life insurance policy in the trust. The $7.2 million policy was reduced to $5.4 million in 2008 and then down to $2 million at the end of 2009. In both instances the agent on the policy provided the “Plaintiffs with detailed illustrations prepared by Defendant.” However, according to the complaint, the agent presented only “two options—paying new premiums into the Policy or surrendering all or part of the Policy—and failed to advise them of the third option of a life settlement.” Because of the concealment of the settlement option, the “Plaintiffs surrendered over $5 million . . . for no consideration.”

This case has generated a lot of discussion, especially in the life-settlement industry. Clearly, the more often life-settlement options are discussed the better for an industry that seems to be recovering but is still just a fraction of what it once was. So this case, especially if the plaintiffs prevail, will be a bell ringer for them.

But the main discussion is about whether or not Lincoln National and the agent have the responsibility to inform the client of the life settlement option. A LifehealthPro article notes that Lincoln “argues that insurers are not fiduciaries under California law.” That same article also mentions that “Maher Asatryan, a Los Angeles-based attorney, points out that the California Supreme Court concurs with Lincoln’s position.” Nevertheless, the case is moving forward, and the plaintiffs will try to prove otherwise.

I do not purport to be a legal scholar, and I am not saying I understand all of the nuances of this case. But here are a couple of things that I do know:

  • If you are a corporate trust-owned-life insurance (TOLI) trustee, you are a fiduciary.
  • While the plaintiffs say they “surrendered” over $5 million dollars, we know they did not. In order to keep the policy in force at the $7.2 million death benefit, they would have had to pay substantial premiums, probably for many years; so the amount that they “surrendered” would be much smaller.
  • If they were given the option to sell the policy, they would have surrendered a significant amount anyway. Yes, a settlement company would have given them an amount greater than the cash value of the policy, but it probably would not have given them anything approaching the death benefit of the policy.
  • Regardless of the “numbers” in this possible transaction, the fact is that the plaintiffs (or others like them) may not have even been eligible for a life settlement. In an earlier blogpost titled ”A Short Primer on Life Settlements for TOLI Trustees,” I explained it this way: “In order to qualify for a life settlement, it is typical that the insured would have suffered a health impairment since the purchase of the policy that shortened his or her life span. That impairment creates the arbitrage between the actual life expectancy of the insured and the underwriting classification of the policy. For this reason a life settlement will work for the buyer, and it may perhaps be a reason for you, as trustee, to keep the policy.”

In that earlier post I outlined my feelings about life settlements. I believe that unless a policy is to be surrendered or will lapse, a life settlement is rarely the best option. I cited a study that bears this out (though many in the life settlement industry will dispute it). But in that blog I also said this: “There is no doubt that there are times when a life settlement makes sense. . . . In fact, not exploring a life settlement option in those situations may be possible grounds for litigation. And there are a multitude of different options in the marketplace today, including ones that offer interim policy funding so that at least a partial death benefit can be paid in the future. The entire settlement marketplace should be explored.”

If you are a corporate TOLI trustee in a situation where a life settlement can possibly be perceived as an option, you need to make sure your files contain either the reasoning behind not pursuing a life settlement or the outcome of pursuing that option. As I have mentioned, often a life settlement is not a viable option. But how do you prove that—especially many years down the road when a beneficiary brings it up? I often ask agents or advisors for information about options and am told that the particular option makes no sense at all, so why would I need to see it? My answer is always the same: “We may both know it makes no sense, but I may have to prove that in the future, and I may not be able to go back and gather the information to do that twenty years from now. I have to make sure the trust file contains information on every option available, including a life settlement.

If you are a corporate TOLI trustee, make sure your files contain everything you need to show that your decisions are prudent concerning life settlements and that you have considered all options. Unlike Lincoln National or an agent, you cannot dispute the fact that you are a fiduciary.