Your 75-year-old client tells you she no longer wants her $1-million life insurance policy — and, she wants to stop paying premiums. She’s heard she can donate the policy to a charity that will take ownership and pay the premiums for her. The charity gets $1 million in death benefits (minus its premiums paid), and your client gets a tax receipt for the fair market value of the policy.
Sounds good, doesn’t it?
Here’s how it works. A donor signs her policy over to LifePoint, which becomes owner and beneficiary. LifePoint then takes over premium payments, and the donor receives a tax receipt for the policy’s fair value. When she dies, LifePoint receives the death benefit and eventually transfers it, minus premiums paid and administration fees, to her end charity of choice.
As far as Advisor.ca can tell, it’s the only charity of its kind in Canada — and there may be good reason for that.
A months-long investigation into donations of life insurance has revealed four reasons to tread carefully:
- When using a middleman, the donation to the end charity can happen years after the client dies.
- An ownership transfer could be blocked by the insurance company.
- Insurance lapses may not be as common as people think, so a strategy that creates a pool of policies may not work.
- There are simpler options that, while they may result in fewer dollars going to the end charity, expose both you and your client to less risk.
Each of these points has implications for all insurance donations, and we’ll dive into them. But first, let’s look more closely at LifePoint.
How LifePoint works
Dale Toney, president and founder of LifePoint, says he founded his organization in part because many charities are hesitant to accept life insurance donations if they’ll have to pay the premiums.
“It’s actually a really significant risk for them to take it on,” says Toney, whom we reached at his home in Houston, TX, “because they don’t know how long this [donor] is going to live.” Several charity experts we spoke to agree that non-profits are risk-averse in this area.
Enter LifePoint as middleman. “The goal is to build a portfolio of similar-sized [policies] and similar age of insureds. We end up having a mortality pool. The earlier deaths help supplement the ones that we’re having to pay longer for.” LifePoint’s FAQ page refers to having “aggregate[d] together thousands of insurance policies.”
To that end, says Toney, “We are now actively marketing in and around the Toronto area, looking for insureds [who] have these policies that they no longer want,” with advisors being stage two of the campaign.
In a release, LifePoint director Brent Babcock states the strategy is viable because “over 80% of Canadian seniors allow their insurance policies to lapse, representing billions of dollars each year. LifePoint puts idle or would-be-lost money to much better use.” Ideal donors, the release adds, are at least 70 and their policies have minimum death benefits of $25,000.
“We’re trying to redirect as much money to charity as we possibly can,” says Toney. “I believe in North America it will be upward of $1 billion or more.”
Toney can say that, because he also serves as CEO of LifePoint Charitable Endowment, a Spring, TX-based Section 501(c)(3) organization that’s been around since 2008.
So, what issues are there?
1. Donation to the end charity isn’t immediate
As of March 9, 2016, Toney says LifePoint (Canada) only has “a few” donated insurance policies, saying one such policy resulted in a $198,000 tax credit for the donor.
So, if LifePoint’s insurance pool is relatively small, and no donor has died yet, how does it pay the premiums? Loans from other charities, says Toney (he declined to name them, citing their request for privacy), and donations. He says the interest rates on the loans “varies from 5% to 8%.” LifePoint’s FAQ page mentions “millions of dollars at our disposal.”
After a donor dies, he says, LifePoint will pay “a small sliver” of the net death benefit to the donor pool’s named charities. “They get a little trickle,” he says, and then the charities “get a little bit more each year” on a pro-rata basis.
Toney expects LifePoint to make its first disbursement “three to six years” from now, depending on the size of the pool. “We’ve got to collect those death benefits in order to then redistribute them. So we’ve got to be able to pay back the money that we’re renting, we’ve got to pay more premiums, and we’ve got to pay out dollars to charity.” He says LifePoint will limit its overhead to “less than 5% of our budget.”
He explains the end charity would get the full donation over a “20- to 25-year period — this is roughly how long it takes to distribute all these dollars, because some of these guys are going to live to 100.”
If the donation pool is big enough, he adds, named charities could get their share while their donor is still alive.
Toney says LifePoint hopes to give 60% to 70% of a death benefit to the end charity. “So if they donate a $1-million policy to us, we believe 60% to 70% of that death benefit will ultimately go to the charity they’ve named.”
But there’s lag time. While no policies have matured in Canada, Toney says a donor to his analogous American charity, LifePoint Charitable Endowment, died “about a year and a half” ago. The donor’s named charity has not yet received the death benefit, and Toney estimates it will “probably [be] about three more years” until that charity receives a distribution. He confirms LifePoint Charitable Endowment (U.S.) has not yet made any disbursements to end charities, “which is expected in our model.”
Charities, in general, don’t usually receive the proceeds of a death benefit incrementally unless the donor specifically requests it, says Jack Bergmans, founding partner of Bequest Insurance in Toronto. “Say there’s a food bank, where they want to make sure there’s $100,000 for 10 years, rather than giving them $1 million today. It can be a mindful way of doing it,” he says, adding that such requests are usually employed through annuity settlement options. But, more typically, “the proceeds would go to the [end] charity and they use it as they see fit or per the donor’s request.”
We also asked a charity expert (who requested anonymity) about best practices for this type of donation. He calls life insurance “one of the most transformational gifts that exist because of the ability to multiply the original amount paid for a policy. The Canada Revenue Agency has provided guidelines about how to manage these donations; proper agreements should be drawn up before a donor enters into an arrangement, so you know every step of the process and the timelines involved before [the donor] dies.”
Does LifePoint’s paperwork extend beyond the change of ownership form for the policy? “Not really,” responds Toney. “They [the donors] name the charities they want to benefit, but beyond that, there’s nothing else to do.” There are also disclaimer forms explaining the process that donors must sign. There does not appear to be a legal agreement between LifePoint and the donor’s end charity.
When asked what accounting or recognition LifePoint plans to provide to the donor’s estate, Toney says, “To be honest with you, I don’t know.” With the U.S. death benefit, “We did not create some sort of noise about it.”
And what about the end charity? Adam Aptowitzer, an Ottawa-based charity lawyer with Drache Aptowitzer LLP, says, “The end charity should be involved in the donation of the insurance policy to the intermediary so [the end charity] can confirm with the donor that the money will be going to whatever the donor wants, and that after the policy matures, the donation will occur on a timeline that both sides are happy with.”
We asked Toney what the end charities are told. His response: “Our plan is to notify charities they’ve been named. […But] it’s not fair to tell them a number and for it then not to be that number. […] We’ve talked about hav[ing] an annual letter that would [let] various charities know what their position is in the fund. […] What we don’t want to do is create a scenario where [charities ask] ‘When’s that coming?’ and be nagged by that all the time.”
Up until at least March 3, 2016, LifePoint’s website displayed the logos of eight well-known charities. When asked about LifePoint’s relationship with those organizations in November 2015, Toney told us, “Those are just charities that folks have mentioned to us that would be good places where they’d want to donate their policies,” and that none had received anything from LifePoint yet.
As of March 6, 2016, those logos have been taken down.
2. The ownership change isn’t easy
“We’re not trafficking in policies,” says Toney, who offered the statement unprompted. “We are taking a donation; we’re an approved charity, where the CRA was very clear on what we’re doing.”
Insurance trafficking is defined in Section 115 of the Ontario Insurance Act as anyone other than “an insurer or its duly authorized agent” soliciting or assisting policyholders in selling or transferring life insurance policies.
Further, LifePoint’s FAQ page says its activities are not the same as trafficking (also known as life settlements) because “we do not purchase policies; there is no sale involved. […] Conversely, life settlements are sold in a secondary market where investors purchase life insurance policies for the purpose of making a profit over time.”
We asked the Financial Services Commission of Ontario (FSCO) to define insurance trafficking as it relates to charity. FSCO reiterated Section 115’s wording and told us by email, “The application of this provision would depend on the unique facts and circumstances of each case.”
When asked specifically about LifePoint’s activities, FSCO said it “is currently assessing the matter.”
Toney says LifePoint has not received guidance from FSCO on its activities (he says his lawyer said it wasn’t necessary), but argues policyholders have the contractual right to re-assign ownership “without any issue, no questions asked. […] Fill out the form, put the [charity’s] name on it; done.”
We asked Marty McConnell, chair of the Conference of Advanced Life Underwriting’s (CALU) Life Settlements Task Force, for insight into Section 115. He says interpretation of the section is “very, very subjective” and that each case is facts-based. “Under the current landscape, tread carefully.”
An April 2015 report by McConnell’s task force, Update on the Canadian Life Settlements Market, says, “Insurance advisors who assist with the transfer of insurance to a charity (and the charity itself) ‘may’, depending on the circumstances, be in contravention of the trafficking prohibition.”
McConnell stresses CALU is currently studying life settlements and does not have formal views on whether laws should change to permit life settlements.
“We’re trying to get clear ourselves on the social benefits [of life settlements] and work with the regulators and the insurance industry,” he says. The landscape is “not clear for policyholders; it’s not clear for advisors, who are potentially exposing themselves legally.”
As a result, the CALU report recommends an advisor consult her dealer, regulator and E&O insurer for guidance before instituting a policy ownership change. She should also ask:
- What other options are available to the policyholder that would allow for him or her to retain part or all of the policy and related death benefit?
- Is the assignment of the policy in the policyholder’s best interests?
- Would the activity fall within provincial legislation that prohibits trafficking?
- Would the activity cause the life insurer to cancel the advisor’s contract?
- What liability could arise from the activities, and would it be covered by E&O insurance?
The report adds an advisor could have a conflict of interest if she receives a referral fee for an ownership change “while also receiving renewal commission arising from the ongoing payment of premiums. […] It appears that where an advisor receives a fee or other consideration […], this significantly increases the likelihood that regulators will find that the advisor has breached the relevant trafficking provision.”
LifePoint’s FAQ page states, “LifePoint Foundation Canada offers agents and professional advisors the opportunity to,” among other things, “protect and continue renewal income” and “earn referral fees for donated policies.”
Toney says the insurance advisor’s role is to “help facilitate the wishes of the insured.” Further, he says, “There’s really nothing for the agent to do other than to assuage the concerns of the insured that this is the form; this is legitimate.”
But even if an ownership change is in everyone’s best interest, that may not be enough: life insurance companies may try to prevent the charity from paying the premiums.
Toronto-based insurance valuator Daniel Kahan knows this firsthand. In December 2015, “I arranged a donation for a 70-year-old Albertan policyholder with a very old $100,000 T100 policy,” he says. “I connected him with a local charity [that was] willing to take over the $49 monthly premiums.”
The ownership change was processed in December without incident, but in February 2016, Kahan and the charity submitted a request for the charity to become the payer of premiums. The insurer refused, saying the change “will not be accepted, as the policy would then be considered a viatical, life settlement or STOLI.”
Kahan says the charity’s lawyers got in touch with the insurer, and the donor is no longer responsible for paying the premiums.
“Policyholders have rights,” Kahan says. “If the charity wants to pay the premiums, why shouldn’t they be able to? To call it a life settlement is stretching it. […] This shouldn’t have come up in the first place.”
Kahan says this was the first time he’d encountered a problem with transferring premium payment responsibility. He notes the charity did not solicit the policy.
We asked Frank Zinatelli, vice-president and general counsel at the Canadian Life and Health Insurance Association, for CLHIA’s perspective on life insurance donations where the charity becomes owner, beneficiary and premium payer.
His observation is that “insurers generally would require the original policyholder to continue to pay premiums.” That way, the insured “keeps some skin in the game,” and it’s more obvious that the donation is being done for altruistic reasons.
When a third party (the charity, in this case) pays the premiums, however, “there’s a space where there’s lack of clarity” as to whether the donation constitutes a life settlement, he says. Questions he’d ask include how the donation is done, the reasons, and who’s getting remuneration. He’d also want to know if it’s a one-off donation, which likely wouldn’t be viewed as a life settlement, “as opposed to being carried on as a business [where] you have a marketing section, or you hire a third party to do it for you.”
He cautions, “One would have to look at each individual case.”
Zinatelli recommends advisors “talk to your sponsoring company, because ultimately it will come to them to transfer the policy.”
We asked major insurers for their positions on ownership transfers.
Chris Donnelly, VP and counsel, Industry and Regulatory Affairs at Manulife Financial, told Advisor.ca, “You are entitled to assign a life insurance policy, if you’re the owner, to whomever you want. If it’s an absolute assignment of the policy […] the [new] owner is allowed to pay the premiums.”
Further, Donnelly says, “If it’s a donation, my assumption is the charity is not paying for the purchase of the policy, and that’s what’s prohibited [under Section 115].”
If an advisor gets a referral fee from the charity for such a transaction, Manulife suggests advisors not enter those arrangements, says Donnelly, due to potential conflicts of interest (but not because the fee itself would contravene Section 115).
Manulife “do[es] not view life settlements as transactions that are appropriate for advisors to be involved in,” adds Donnelly, even in provinces where such settlements are legal.
Suzzette Chapman, vice-president of Marketing and Strategy at ivari, provided this statement: “Leaving the proceeds of a life insurance policy to a charity is important to many Canadians and ivari fully supports that intention. A charity can be the owner and beneficiary of an ivari life insurance policy as long as the person whose life is insured continues to pay the premium” (emphasis added).
Great-West Life declined to respond. Sun Life Financial referred us to CLHIA for comment.
Is CLHIA concerned with insurers taking different positions on these donations?
“Each company can interpret the provision,” says Zinatelli. “We’re not going to tell them to interpret it in any particular way. They know the industry’s position on viaticals, [which is that] we support Section 115 […] and a provision similar should be put in place in provinces where it doesn’t exist.”
Says Toney, “I fully expect to have to challenge carriers on this.”
3. An 80% lapse rate? Maybe not
LifePoint’s business model is predicated on a large number of policyholders donating their insurance policies instead of letting them lapse. And Toney suggests that among Canadians aged 65+, 80% of their policies will lapse, as noted in LifePoint’s press release.
We made many attempts to corroborate the 80% statistic, which Toney says came as a result of crunching insurance association data. A few industry experts said the number sounded reasonable, but didn’t have research on hand to support it. Several folks directed us to the Canadian Institute of Actuaries (CIA).
When asked about the 80% stat, CIA’s resident actuary, Chris Fievoli, said, “I’m a bit befuddled as to where that number is coming from. We don’t have any current studies on traditional whole life or participating insurance, but I can’t conceive that you’d be up around 80%.”
He points out that market forces support low lapse rates. Once insurers have recovered upfront costs — agent commissions, onboarding expenses, and so on — “then lapses are actually good for the company,” he says. “Collectively, the market does seem to figure this out, and that’s why you see lapse rates going below 1%, because [policyholders have] figured, ‘I may as well hold on to this because there’s no economic gain if I terminate this now.’ ”
Toney says he’s run his numbers by presidents of insurance carriers and they say the 80% sounds “about right.”
The Canadian Institute of Actuaries has conducted lapse rate studies on T100 and LCOI insurance. The September 2015 studies found the following annual lapse rates for people aged 18-29 (the youngest age group, and the population most likely to lapse), duration one to five years:
- on T100 for male non-smokers, 3.8%;
- on T100 for female non-smokers, 3.8%;
- on T100 for male smokers, 7.5%;
- on T100 for female smokers, 8.1%;
- on LCOI for male non-smokers, 4.6%;
- on LCOI for female non-smokers, 5.2%;
- on LCOI for male smokers, 10.3%;
- on LCOI for female smokers, 10.9%.
Lapse rates generally fell as age of issue and duration rose.
“T100 has no cash value on it, so it usually doesn’t make sense [for the insured] to terminate the policy,” says Chris Fievoli, CIA’s resident actuary. “If you have a more traditional whole life policy, they actually do have cash values; then you can expect to see lapse rates that are a little higher.” Same thing with YRT universal life policies, he adds.
Using LCOI male non-smoker data, and ignoring mortality, Fievoli calculates that for 10,000 policies in force for a cohort aged 18-29, after 76 years, 3,221 policies would remain in force – a lapse rate of 68%. The policyholders would be aged 94+ after 76 years. Again, lapse rates fell as policyholder cohorts aged.
“Higher annual lapse rate[s] could get up to the 80% level,” he says, “but we don’t have experience that would replicate that scenario.”
4. Clients may want a simpler donation
It seems LifePoint’s ideal donor is someone who will eventually have enough taxable income to use the large credit that would result from a life insurance donation but who also can’t afford to, or doesn’t want to, continue paying premiums.
If your clients go this route, make sure they can use the full donation tax credit, since they can only deduct up to 75% of net income each year while alive and can only carry the credit forward for five years.
And while philanthropy experts agree donations of life insurance can provide outsized returns for charities, they are more cautious about using a middleman.
Says charity lawyer Adam Aptowitzer: “If I’m a donor to the [end charity], why am I giving money to an intermediary? I want to give money to the charity I support. That problem is exacerbated when I hear that, not only am I not making my gift out to the charity I support, but the charity I support will not be getting all the money right away.”
Clients looking to donate life insurance have several alternatives to using a middleman:
- donating paid-up policies, where no more premiums are outstanding;
- naming their charity of choice as beneficiary, but retaining ownership and continuing to pay premiums; and
- approaching the end charity to see if they’ll accept the policy directly (provided the insurer allows the ownership change).
Another option, says advisor Jack Bergmans, is for clients to convert existing insurance to paid-up policies that have reduced death benefits. So, say the death benefit on a policy is $1 million. “It’s possible to be fully paid up if we reduce the [death benefit] value to [for example] $800,000. That should be close to the fair market value anyway, so it’ll be almost a wash in terms of what your tax receipt’s going to be.” Then, there are no more premium obligations. Bergmans says this is his preferred method for working with clients who want to donate existing life insurance policies.
Consider also the example of Toronto-based Link Charity. Link also accepts donations of life insurance where it becomes owner, beneficiary and premium payer. But, the majority of Link’s work involves accepting securities and managing charitable annuities, says Harry Houtman, Link’s chair.
For each life insurance donation, Houtman says Link typically creates a 10-page supporting legal document, which the donor pays for (the tax credit is usually much larger than the legal fees). Link also codifies its administration fee in the document, which Houtman says is currently 50 basis points.
While alive, donors can ask for ongoing statements of premiums and fees paid against the death benefit, so they can approximate how much will go to the end charity.
To ensure accountability to the donor’s estate, the donor’s executor receives a copy of the paperwork so he or she can follow up with Link upon the donor’s death. (The original is in a fireproof vault.) Houtman says he’d then ask the end charity or charities to “please acknowledge this gift to the executor to corroborate our gift to you.”
And how long it would take for a death benefit to get to the end charity? Houtman says that, once Link receives the death benefit from the insurer, “within two weeks the end charity would have your money. It’s in our bank account, we write a cheque and a cover letter, and it’s in the mail.”
Over the last five years, Houtman says his charity has facilitated fewer than 10 life insurance donations involving ownership changes.
Conclusion: Donate with eyes wide open
“The pool of lapsing policies is the single-largest missed philanthropic opportunity in the country, every single year,” says Dale Toney.
And he’s willing to take on insurers to ensure people can transfer policies to LifePoint smoothly. “We’re helping donors fulfill an estate [planning] desire,” he points out.
How does Toney respond to a prospective donor concerned about a potential delay between her death and the end charity receiving the full amount? “Keep paying the premiums, and name the charity as a beneficiary,” he says. “We have a business model, and you either buy into our business model or not.”
He concedes, “I don’t know when all of [the death benefit] will get paid to the charity. It’s a function of the mortality pool.” Regardless, he says, “We will only accept [a donated] policy if you’re willing to accept our model and you’re old enough to fit into our model.”
His charities are just getting started in both the U.S. and Canada, he says, and he’s optimistic.
“I think Canadians will be on board, just like the folks in the U.S. are. It’s a legitimate strategy to try to fulfill your charitable desires.”
That may well be, but advisors owe it to clients to ensure their donations meet their philanthropic intentions, and that they enter donations with eyes wide open.
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