Estate litigation seems to be an ever-present (unwanted) companion to the life settlement market, so for this month’s Q&A, Greg Winterton spoke to James Westerlind, Partner at ArentFox Schiff, for something of an ‘estate litigation 101’ to dissect the landscape of this very specific investment risk.
GW: James, for those less familiar with estate-based litigation, why does there appear to be an active ‘market’ for estate litigation in the first place?
JW: Estate litigation in the life settlement space has gained traction in large part because certain court decisions—particularly out of Delaware—have established a framework that permits estates to recover death benefits under state insurable interest statutes. That creates meaningful financial incentives for estates and their counsel to bring these claims. It is worth noting that the insureds in these cases were voluntary participants who affirmatively enrolled in beneficial interest transfer and premium finance programs available in the mid-to-late 2000s, and who were compensated at the time—often 3% of face value in a beneficial interest transaction and 10% of face value in a premium finance transaction. Given that backdrop, some estates view litigation as an additional avenue to recover proceeds connected to the insured’s policy, even where the family had limited involvement in the original transaction.
GW: What are some of the commonalities among the policies in these cases and why are these recurring themes?
JW: The first commonality is vintage: the policies at issue in these cases were generally issued between 2004 and 2009. The second is product type—these were typically universal life insurance products issued by a relatively small group of carriers that designed these products for this market.
After the 2008 financial crisis, beginning primarily around 2010, certain carriers sought to challenge policies they had issued to elderly insureds with high face values, particularly where the ownership and beneficiary designations had been changed shortly after the two-year contestability period expired. Those carriers attempted to have policies declared void in order to eliminate the death benefit liability from their books while retaining all premiums paid.
The carrier-initiated litigation has subsided substantially, as many carriers have now received more in cumulative premiums than they would owe in death benefits. As carrier cases have wound down, the attorneys who handled those matters have turned to estate claims in jurisdictions where the applicable insurable interest statute permits the estate to recover the death benefit if the policy was issued in violation of insurable interest law.
GW: Are there any estate litigation-related definitions that seem to have been agreed generally in most states? If so, what are they?
JW: STOLI stands for stranger-originated life insurance, and while some courts have attempted to define that phrase, there is no precise or uniform definition across jurisdictions. Most state insurable interest statutes provide that an insured has an insurable interest in his or her own life and may take out a policy naming anyone—including a stranger—as beneficiary. Those same statutes generally provide that if someone without an insurable interest in the insured’s life procures or causes a policy to be issued, that constitutes a violation.
The central question in these cases typically comes down to whether the insured procured the policy of his or her own volition, or whether a stranger procured or caused it to be procured. Different courts have implemented different tests to answer that question, and the outcomes vary meaningfully by jurisdiction.
GW: Are there any recent or current cases which might provide additional certainty at a general level to the life settlement market?
JW: Two cases stand out. First, Estate of Norman Frank v. GWG DLP Master Trust Dated 03/01/06. In Estate of Frank, the Delaware Supreme Court held that an estate claim under Section 2704(b) of Delaware’s insurable interest statute is subject to a three-year statute of limitations. However, the court did not define when that limitations period begins to accrue—an issue that remains to be resolved.
In addition, the decision reaffirmed that common-law defenses may be asserted in these cases, a point that some prior lower Delaware courts had declined to recognize. When that case concludes, the market will have considerably greater clarity regarding the window in which estate claims may be filed, and at what point a policy holder can consider itself insulated from this type of litigation.
Second, the Georgia Supreme Court’s decision in Leone addressed certified questions from the federal district court concerning how courts should determine whether a stranger procured or caused to be procured a life policy within the meaning of Georgia’s insurable interest statute. Notably, the court observed in dicta that even if a stranger did procure or cause the policy to be procured, the policy would remain valid under Georgia law so long as the death benefit was payable to someone with an insurable interest in the insured’s life. Because most of the policies at issue in these disputes were applied for by, and issued to, trusts whose beneficiaries were family members of the insured, the implication is that many of these policies would be valid under Georgia law regardless of how they were originated.
Investors value certainty and clarity, and these two decisions appear to provide meaningful guidance—at least in part.
GW: Looking ahead, how do you see this landscape evolving, and why should investors remain confident?
JW: As I mentioned, most of the policies at issue in these cases date from the mid-2000s, and that pool is shrinking as insureds pass away. It is also important to note that not all policies from that era were financed by investors, so there is a finite universe of potential litigation. This is, to borrow an insurance term, a situation in run-off.
Modern originations—post-2010—do not carry these structural risks because compliance standards have strengthened considerably over the past two decades. And litigation risk, while real, is not an existential threat to the asset class. It is a risk that can be modeled, priced into the discount rate at acquisition, and minimized through diversification. It is worth keeping in perspective that the secondary market sees approximately 3,000 transactions per year, while estate litigation cases—which can take several years to resolve, generating periodic updates along the way—may create the impression of more activity than actually exists.
James Westerlind is a Partner at ArentFox Schiff
