STOLI Mackerel – Life Insurance Policy Void Ab Initio
Life insurance used to be simple. You took out a policy on your own life to protect your family. Then along came a life insurance product where investors funded the purchase of a policy on your life even though they had no insurable interest in your life. These stranger-owned life insurance policies (“STOLI”) have been controversial. Recently, the Third Circuit Court of Appeals had to determine whether a STOLI policy violated public policy under New Jersey law and, therefore, was void ab initio.
In Sun Life Assurance Company of Canada v. Wells Fargo Bank NA, No. 16-4337, 16-4387 (3rd Cir. Aug. 21, 2019) (Not Precedential), a $5 million life insurance policy was taken out on the life of an individual, with the owner and beneficiary being an irrevocable trust in her name. It turns out that the policy was funded by a group of investors who eventually became the owners and beneficiaries of the policy. The trust agreement allowed the investors to sell the policy without the consent of the insured or her grandson, who was the original trustee. The policy was issued based on certain assets set forth on an inspection report, but it turned out that the assets were inflated and nowhere near the face amount of the policy.
The trust sold the policy to a life settlements company and the investors received most of the proceeds. The policy was then acquired by another company. After the insured died, the insurance company refused to pay the death benefit concluding that the policy had been fraudulently obtained. The insurer filed this action seeking a declaration that the policy was void ab initio as part of a STOLI arrangement. The district court held that under New Jersey law, the policy was void ab initio as an illegal STOLI arrangement because the investors who held the policy lacked an insurable interest in the insured’s life in likely violation of New Jersey public policy.
The Third Circuit affirmed this finding on appeal after certifying the following questions to the New Jersey Supreme Court: (1) does a life insurance policy that is procured with the intent to benefit persons without an insurable interest in the life of the insured violate public policy and, if so, is that policy void ab initio? and, (2) is a later purchaser of the policy who was not involved in the STOLI arrangement entitled to a refund of any premium payments made? The New Jersey Supreme Court answered the first question in the affirmative. Based on that answer, the court affirmed the district court’s grant of partial summary judgment to the insurer.
On the second question, the New Jersey Supreme Court said that a refund of premium might be appropriate depending on the circumstances. The district court weighed the equities and granted a later purchaser a return of premiums as an innocent purchaser. The appellate court affirmed the district court’s holding that it would be an unfair windfall to the insurer if it were allowed to retain those premium payments.