Investors Find Pot of Gold at the End of Your Life

Date: Sunday, December 17, 2006
Author: Charles Duhigg, The New York Times

Marvin Margolis, 80, a Manhattan financial consultant, is looking for investors willing to bet on when he will die.

Two years ago, Margolis bought a large life-insurance policy. Now, he's considering selling it to a group of investors, a deal that could give him up to $2 million to enjoy in his final years.

In return, the investors will get the policy's $7 million payout when he dies, something they hope will be soon, so they can stop paying his premiums.

"This is a wonderful opportunity to use my body as an asset," Margolis said. "I deserve to be able to benefit in some way from my age."

The cost of his premiums was not revealed.

Trading in life-insurance policies held by wealthy seniors has quietly become a big business. Hedge funds, financial institutions such as Credit Suisse and Deutsche Bank, and investors such as Warren Buffett are spending billions to buy life-insurance policies from the elderly.

Other investors are paying seniors to apply for life insurance, lending them money to buy the policies and reselling them to speculators.

This market illustrates one way investors are hoping to make money from a large and wealthy generation of Americans reaching retirement age. Aging baby boomers and those even older offer opportunities and risks for many companies, investors and swindlers seeking to capitalize on those final years.

Insurance executives, for instance, say transactions such as Margolis' deal may cripple their industry and make it harder for the average senior to buy life insurance in the first place.

Insurers are worried because they count on many customers canceling their policies before they die, usually because their children grow up and no longer need the financial protection, their pensions kick in or paying premiums becomes too expensive. If far more policies result in payouts, the insurance business becomes much less profitable.

Industry analysts expect the cost of life insurance to rise as companies prepare to pay out more claims.

"If payouts increase, the cost of insuring people is effectively going up, and that will definitely increase the price of policies," said J. David Cummins, a professor at the Wharton School of the University of Pennsylvania.

Meant to protect

Many people have come to rely on selling their policies to provide money for medical care and living expenses when their bank accounts run dry. However, insurance executives say the market that has emerged could be ruinous.

"Life insurance is a way for individuals to protect their families," said C. Robert Henrikson, the chief executive of MetLife.

"If someone profits from a stranger's death, it stands the whole purpose of life insurance on its head. Anything that disrupts the economic processes underlying this industry will drive the cost of life insurance through the ceiling."

Policies such as the one Margolis has cause particular concern. It was originally paid for by speculators who will get their money back, plus a profit, if it is sold to another group of investors, according to public documents. Even if Margolis does not sell, the loan will be repaid from the death benefit when he dies.

Such policies are known as speculator-initiated life insurance, or "spin-life" policies. Investors estimate spin-life policies worth up to $13 billion will change hands next year.

The deals are so lucrative that older people are being wooed in every fathomable way. In Florida, investors have sponsored free cruises for seniors willing to undergo physical exams and apply for life insurance while on board.

For insurers, such cruises are a financial Titanic. Over the next decade, the insurance industry could be forced to pay out more than $100 billion in death benefits as spin-life policies come to maturity, investors estimate.

In Minnesota, according to lawsuits brought by insurers, John Paulson, 82, bought life policies worth $120 million from seven companies and resold many before insurance companies realized what was going on and sued, saying Paulson had lied on his applications.

Life-insurance companies, in particular, rely on policies lapsing before the policyholder dies. Last year, for instance, insurance companies reduced their financial exposure by $1.1 trillion when 19.8 million policyholders stopped paying premiums, according to the Insurance Information Institute. In comparison, the industry paid death benefits on 2.2 million policies.

If those lapsed policies had been sold to investors rather than canceled, insurance companies could have eventually paid out up to $1 trillion, analysts said.

In an attempt to mitigate such risk, some insurance companies are trying to make policies for seniors harder to buy.

The biggest insurer in the United States, American International Group (AIG), earlier this year increased prices on some universal life policies for buyers older than 70 in an effort to thwart spin-life deals.

"We don't want this business, and we're taking steps to discourage those purchasers from coming through our doors," an AIG spokesman said.

But such moves may be too late. The market for purchasing life-insurance policies from seniors is an outgrowth of the so-called viatical industry that began in the 1980s, when investors bought up life-insurance policies of AIDS patients.

In the past two years, as interest rates and stock-market returns declined, the number of buyers seeking seniors' policies soared.

That growth was fueled this year when the Financial Accounting Standards Board issued rules permitting investors to record purchases of policies immediately as a profit, rather than forcing them to wait until the policyholder died.

Critics contend the industry punishes the young and healthy by driving up prices, but many people who have sold their policies say it offered their only way to avoid calamity.

"If I hadn't been able to sell this policy, we would have lost our house, all of our savings, everything," said Andrew Schneider, of Kaysville, Utah. Seven years ago his wife, Karen, learned she had breast cancer.

Her expenses exceeded the Schneiders' medical insurance by $500,000. Schneider sold her life-insurance policy for about $250,000 and used the money to buy medicine and pay bills, he said. The investors who bought her policy received a $500,000 death benefit when she died last year.

"Selling that policy extended her life for years," Schneider said. "If this market hadn't existed, we would have become financially destitute."

In addition to the free cruises in Florida, investors including one large hedge fund have hired a California telemarketing company to call elderly citizens and ask if they would apply for life insurance in exchange for a paycheck.

Starting to fight back

The insurance industry has begun to fight back. Legislatures in New Jersey, New York and nine other states have proposed laws intended to outlaw spin-life investments or make it more difficult for investors to get payouts, according to the Life Insurance Settlement Association.

Insurance companies have also sued to cancel policies, contending payouts benefiting outside investors violate the legal requirement that beneficiaries have an "insurable interest" in the policyholder's life.

But many advocates for the elderly and industry insiders worry that seniors will lose their legitimate ability to sell life-insurance policies they have held for years.

"We've put billions of dollars in the hands of seniors who were getting thrown out of their homes or needed medication, and their only asset was a life-insurance policy," said Scott Page, chief executive of the Lifeline Program, a company that helps investors buy such policies from the elderly and infirm. "If you make it harder to sell these policies, you're taking money out of the hands of people who have nothing else."

A lawyer who has helped the elderly set up spin-life arrangements worth more than $300 million said that often the terms of the deals prevented his clients from profiting.

"Investors say, 'I'll loan you money to buy a new policy, and in a few years I'll buy it from you,' " said Larry Brody, a partner at the law firm Bryan Cave.

But a few years later, when the seniors sell the policy, they owe so much in interest and fees on the loan, he said, "it eats up all the profit. And what's more, they can't buy another insurance policy, because insurers are unwilling to give them more coverage."