“Life settlements” – known as viaticals or death bonds – are investments in which terminally ill or elderly people sell their life-insurance policy for cash to an intermediary who then sells a fractional interest in the policy to investors. When the insured person dies, the investors get a portion of the death benefit as a return on their investment.
Life settlements have long been regarded as an alternative investment option in the USA – not least because everyone dies! – with ‘brokers’ promoting annual returns to investors of 10% to 15%. But, as a case soon to conclude in Texas has shown, they can easily be manipulated by fraudsters to generate huge profits for the brokers and principals. If the key return measure – life expectancy – is too low, investors will find their policy payout is delayed and they must keep paying the premiums for as long as the insured lives. This will lead to increased carry costs on policies with increasing premiums. As a result, promised investor returns may prove elusive or even non-existent.
In the case against Waco (Texas)-based Life Partners Holdings Inc., a long-term buyer and seller of life settlements, the allegations include:
- concealing what the company actually paid to acquire policies, and in the process cheating the original policyholders, who paid more and received less than the policy was actually worth;
- misleading investors with early death estimates using artificially shortened life-expectancy figures provided by a single consultant paid by the company;
- misleading investors about the amount of money they would receive when the policyholder died - they were led to expect greater returns;
- lying to investors when policies lapsed due to the non-payment of premiums by other investors in the same policy;
- charging investors large undisclosed fees;
- deceiving investors about the company’s practices in order to dodge securities regulations;
- engaging in egregious and continuous insider dealing;
- forcing investors to abandon their stake in policies and then reselling them for the benefit of Life Partners or its insiders;
- co-mingling investors money and using it in unauthorised ways.
Ponzi fraud allegation
Prosecutors allege that Life Partners employed a wide-ranging scheme over many years that cheated investors out of many millions of dollars. Built by CEO Brian Pardo, who started the company in 1991, they said it operated in a ‘Ponzi’ fashion and is a much bigger fraud than was first thought. Recent estimates say the fraud affects 3,400 life policies with an aggregate face value of over $2.4 billion, and approximately around 22,000 customers/investors.
Suspicions of fraud involving the company were aired as long ago as 2010 in a Wall Street Journal article that questioned the accuracy of Life Partners’ life-expectancy estimates. The Journal found that in policies Life Partners brokered in 2002, 95% of those insured were still alive after the life-expectancy period estimated by the company’s physician. This critical fact, the article said, severely reduced the value of the investments whilst at the same time caused investors to pay more to keep the policies in force.
The article clearly impacted Life Partners’ business and required it to resort to other profit generating measures as fewer customers came forward, and some existing ones stopped making premium payments. It also attracted the interest of the SEC, which investigated the company for several years before bringing a lawsuit that resulted in an adverse judgment.
In an effort to avoid the enforcement of the SEC’s $46 million judgement against the company and its key officers, Life Partners filed for bankruptcy in January 2015. But that move appears to have backfired, in that it prompted a removal of management and a deeper investigation into the company that has revealed greater wrongdoing than originally thought.
The Trustee appointed by the bankruptcy judge to look into Life Partners following its Chapter 11 bankruptcy petition – H Thomas Moran – has since sought court approval to control the payout of death benefits, manage premiums and take other measures to unwind the fraud. He is also suing shareholders, promotors and even several charities that received donations in a bid to recover lost investor funds.
Importantly, the filing of a Chapter 11 bankruptcy triggered a mechanism called a ‘Creditor’s Committee’ that is designed to facilitate unsecured creditor involvement in large bankruptcies. Whilst each part of the US implements this process differently, in Texas it involves soliciting membership and looking for qualified candidates who are representative of the claims being made in the case and asking them to serve as fiduciary representatives on the Committee.
Committee members are often individual victims with little experience in bankruptcy. But they have an important weapon in that they may elect to be represented by professional attorneys, whose fees are then paid for from unencumbered assets in the estate. In this case, unencumbered assets were quite limited due to a dispute over who actually owned the policies.
FraudNet steps in
Despite the challenge of payment, one firm of attorneys that elected to get involved in the case was Munsch Hardt Kopf & Harr, P.C. (“MHKH”) in Dallas, whose FraudNet member, Joseph Wielebinski, has been leading the case and explains the process, which he believes may offer a possible blueprint for effectively addressing the rights of victims in complex bankruptcy fraud cases in other jurisdictions.
With previous experience in life settlement receiverships and a corporate ethos to help fraud victims, MHKH took a keen interest as the Life Partners story unravelled, and sought to be appointed the official attorneys for the Creditors Committee. It made a presentation to the Committee Members, as did several other law firms, and was chosen to represent them based on its analysis of the case, identification of the key issues and proposed interim and long-term action plans.
Once selected, MHKH immediately teamed up with the US Department of Justice and SEC and joined their ‘Motion to Appoint Trustee’, which was designed to remove management, and was granted after a six-day trial. To communicate effectively with such a large number of victims, in order to be able to best represent their interests, MHKH first set up a dedicated website and hosted numerous webinars. It has since responded to thousands of calls, emails and letters from distressed LP creditors to address their questions, apprise them of developments and facilitate their filing of claims.
The role has also required the firm to attend meetings scheduled by the Trustee for creditors to attend, to host meetings with groups of attorneys representing other smaller groups of investors to update them each time there was a major development in the case, and to take part in webinars hosted by some of the attorneys with their clients. Throughout the process, which has so far lasted 18 months, MHKH worked with the Trustee to help him update his own website to communicate with the victims, whilst also frequently updating its own victim website with FAQs that responded to the latest issues as they were raised.
In addition, the Committee joined with the Trustee in formulating a complex and comprehensive Plan of Reorganisation that was recently approved by the Bankruptcy Court. This is the first time the bankruptcy process has been used to “reorganise” a life settlement company and is expected to return as much as 85-90% of the victim’s investment over the life of the Plan. The Plan also contemplates the appointment of third party fiduciaries to manage the portfolio of insurance policies and pursue litigation against third parties.
Joe Wielebinski admits it has been a long process that has been fraught with difficulties, but despite this says the Creditor’s Committee approach has proved a valuable and very effective way to represent creditors and victims in large fraud cases that end up in bankruptcy. He recommends that ways be found to introduce such mechanisms in other countries, or if not Creditor’s Committees, then other types of legal vehicles where the rights of victims can be advanced and protected and paid for through the estate. He also sees no reason why this experience could not be utilised and taken by FraudNet members to other locations to be used in bankruptcy and related cases.