Life Insurance Regulation and Unclaimed Property Audits

Marlys A. Bergstrom

Phillip E. Stano

Steuart H. Thomsen

Mary Jane Wilson-Bilik

May 22, 2012

ALIC Annual Meeting: Navigating Through

Uncertainty: Life Insurance Regulation and

Unclaimed Property Audits

Contributing Authors

Marlys A. Bergstrom

Attorney

404.853.8177

marlys.bergstrom@sutherland.com

Phillip E. Stano

Partner

202.383.0261

phillip.stano@sutherland.com

2

Steuart H. Thomsen

Partner

202.383.0166

steuart.thomsen@sutherland.com

Mary Jane Wilson-Bilik

Partner

202.383.0660

mj.wilson-bilik@sutherland.com

©2012 Sutherland Asbill & Brennan LLP

3

Overview

• Where are we now?

 Audits, market conduct exams, settlements and AG subpoenas

 Conflicting guidance: the New York 308 Letter vs. the Verus

Settlements

• Two worlds collide – Insurance law vs. unclaimed property law

• What to consider if you are under, or may be under, an unclaimed property audit, market conduct exam and/or AG subpoena on these issues

• Where are we headed?

 State Treasurers/Comptrollers

 NAIC/State Insurance Regulators

 State Attorneys General

 Litigation/Legislative (NCOIL)

• Questions?


4

WHERE ARE WE NOW?


5

Where Are We Now? A Timeline

• 2008: Verus starts unclaimed property audits of life insurers

• April 2011: First unclaimed property settlement announced

• May 2011: NAIC forms Executive Task Force to coordinate multistate exams of claim settlement practices

 Florida and California conduct hearings

 California DOI appoints Verus as market conduct examiner

• June 2011: New York AG subpoenas

• July 2011: New York 308 letters

• October 2011: First multi-state market conduct exam (FL lead)

 MN administrative subpoena and MN DOC/AG unclaimed property letter

• November 2011: NY AG and Controller announce largest investigation of life insurance industry

 CA Controller hires major law firm


6

Where Are We Now? A Timeline

• January 2012: Second unclaimed property settlement

• February 12, 2012: First multi-state market conduct exam settlement with 20 states

• February 14, 2012: MN DOC/AG issues follow-up letters

• February 2012: Massachusetts AG issues subpoenas

• February 2012: NCOIL does not approve model

• April 2012: Third unclaimed property/regulatory settlement agreement

• April 2012: Mayor Cuomo announces results of NY

308.


7

Where Are We Now?

• Verus Unclaimed Property Audits

 Verus Financial LLC is comprised of plaintiff attorneys and financial services and life insurance professionals

 More than 35 states have hired Verus to conduct unclaimed property audits

 Approximately 25 life insurance companies are currently under audit

 Since the inception of the audits, two settlements have occurred

 Verus has been hired by 30+ states to conduct market conduct exams


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• Verus Unclaimed Property Audits



Nondisclosure agreements

 Permits sharing of data with “other agencies”

 Addition of states can be ongoing



Document and data requests

 Processes and procedures for life, annuities and retained assets over the period 1996 - 2011

 Unlike “standard” unclaimed property exams, requests are related to general processes, not just unclaimed property

 Data requests encompass life, annuities and retained asset accounts

 All policies, contracts and accounts in-force and out-of-force from

1996 -

2011 are reviewed on an “actual basis”



More than 100 data fields for each policy, contract or account

 System programming frequently necessary to gather data



Dormancy trigger

 Date of death


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• The Social Security Death Match – Verus Style

 Run the entire data file against the Social Security Death

Master File (SSDMF)

 Applying proprietary algorithm to determine “matches”

 Actual matches and “fuzzy” matches on four categories

 SSN, DOB, Last Name, First Name

 Potential matches equal potential unclaimed property liability

 Four-point exact match

 Three-point exact plus fuzzy

 Two-point exact plus two fuzzies

 One-point plus three fuzzies

 Four-point fuzzies


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• Unclaimed Property Audits – Verus Style

 Dormancy trigger

– “date of death”

 Limited time to search for the beneficiary

 Risk of early escheatment

 Threat of large interest payments

 Use of “fuzzy matches”


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• NAIC Executive Task Force formed May 17, 2011

 Florida Insurance Commissioner Kevin McCarty, current

NAIC President, announced NAIC Task Force called

“Investigations of Life/Annuity Claims Settlement Practice

(D) Task Force”

 Purpose.

Coordinate targeted multi-state exams of life insurance companies on claims settlement practices

 Membership.

Florida, California, Illinois, Iowa, Louisiana,

New Hampshire, New Jersey, North Dakota and

Pennsylvania


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• NAIC Executive Task Force formed May 17, 2011

 Focus.

Initial focus is top 40 life insurance writers, comprising 92% of U.S. life insurance market

 Potential liability. North of $1 billion

 No guidance expected.

NAIC leadership has “no appetite” for guidance

 Prefer to wait for the result of coordinated market conduct exams

 Coordination with Verus

 Work papers of unclaimed property audit become the work papers of the market conduct exams


13


• Tallahassee, Florida, Hearing on May 19, 2011

 Insurance Commissioner McCarty, the FL State Controller and the FL Attorney General conducted evidentiary hearing

 Representatives of MetLife and Nationwide were subpoenaed to attend

 Controversial positions of regulators:

 Claim is matured on “knowledge” of death.

Even if a claim for a death benefit is not filed, a claim is matured on the insurer’s books and records for UP purposes, if a company “knows” the insured has died

 “Asymmetrical” use of DMF is problematic.

Use of

DMF to stop annuity payments to deceased annuitants, but not identify life insurance deaths to pay benefits


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• Controversial positions of regulators:

 Taking premium and fees (or lapsing a policy) after death is problematic. Focus on whether insurers “true-up” on paying claim

 Dormancy period begins on date of death, not when insurer

“knows” of a death, receives a claim or “proof of death”

• Sacramento, California, Hearing on May 24, 2011

 Similar to Tallahassee hearing

 CA DOI appointed Verus as market conduct examiner

 Examine 10 life insurers on:

 Use of DMF

 Practices for paying benefits under insurance policies and annuities, and

 Payments to holders of retained asset accounts


15


• New York Attorney General Subpoenas:

 On June 21, 2011, the NY AG issued subpoenas to nine life insurers on their use of the DMF and their compliance with the NY unclaimed property laws

 Two weeks to comply

 Look-back to January 1, 2001, to present

 All documents and communications on insurers’ policies and procedures for:

 Determining when to cease making payments of benefits due to a death

 Use of death record databases, like the DMF

 Locating and notifying owners, insureds and beneficiaries of matured policies


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• New York Attorney General Subpoenas:

 All documents and communications on insurers’ policies and procedures for:

 Identification of policies without an address for any owner, insured, annuitant or beneficiary

 Tracking and monitoring returned mail

 Payment of death benefits

 Allowing term policies to lapse

 Wide range of documents on these topics, as well as unclaimed property filings and set asides/reserves to cover shortfalls in unclaimed property filings

 Documents identifying senior and middle management

 Documents on media coverage of shortfalls in unclaimed property payments in any state



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• New York 308 Letter

 Following week, on July 5, NY DOI issued “308” Letter to

172 companies

 Ordered life companies to cross-check all life insurance, annuity contracts and retained asset accounts on their administrative files against the DMF

 Look-back 25 years to 1986

 NYS issued four sets of guidance on use of DMF

 Two-stage reports

 First stage report.

Due October 31, 2011. Must complete the cross-check, categorize and report results electronically on spreadsheet using the Department’s portal


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• New York 308 Letter

 Methodology required to do cross-match

 If SSN : one-point check of SSN against DMF

 Exact match only – no “fuzzy match”

 If no SSN: match first and last name and date of birth against the DMF

 Must verify the death

 Second-stage progress updates on the last day of each month

 From November 2011 through March 2012

 Progress updates must be cumulative

 Show matches eliminated because previously paid or not inforce at death, where locating beneficiary or still investigating

 Very labor intensive


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• Proliferation of uncoordinated state market conduct exams, surveys, audits and subpoenas since May

2011

 Inquiries from DOI in at least ten states, such as CT, CO,

IA, IL, KS, LA, MI, MA, MN and OH

 Market conduct single state exams by at least nine states:

CA, FL, NE, ND, MA, MD, MN, NY and PA

 FL and CA appointed Verus as market conduct examiner

 Multi-state market conduct exams from seven states on

NAIC EX Task Force signed by FL, plus 23 others

 Materials provided to Verus in unclaimed property audit are working papers in market conduct exam


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• Ongoing Escalation of Unclaimed Property Probes

 On October 28, 2011, the MN AG and State Commissioner of

Commerce issued a letter requiring insurers to perform a comprehensive review of internal records and policies on unclaimed property

 Certify compliance with unclaimed property laws by November

30

 On October 31, 2011, MN DOC issued subpoenas – like NY AG – but going back 20 years

 On November 4, 2011, the NY AG and Comptroller jointly vowed

“to undertake the largest and most comprehensive investigation of life insurance practices in the country”

 To make sure life insurance companies “make good on their promises to beneficiaries and their obligations to the state of

New York”

 In February 2012, MA AG issued subpoenas, even though MA is a

Verus state for unclaimed property and market conduct exam purposes


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• Class Actions

 Four class actions filed in Ohio state court; all removed to federal court under CAFA

 One state remanded to state court

• Plaintiffs’ Theory

 Insurer duty to affirmatively determine whether any insured with greater than 70% (or 60%) chance of having died has in fact died and to pay benefits without proof of claim

 Seek classes of all insureds for past 15 years with > 70% (or 60%) chance of death – including those who have died

 Defenses including lack of legal support for alleged duty and absence of injury/standing for living plaintiff where no benefits are due

 One motion to dismiss granted by state court on basis of these defenses; on appeal

 One case voluntarily dismissed; motions pending in two cases


22


• Illinois False Claim Act Lawsuits – Sealed Lawsuits

 alleged insurers’ failure to transfer policy proceeds to state

 Alleged 4,766 policies valued at $524.3 million

 More than $1 billion counting alleged penalties

 Whistleblower plaintiff receives 15%-30% of proceeds recovered

• New York Securities Derivative Suit

 Asymmetrical use of DMF

 Alleged breach of directors’ fiduciary duties to insurer

 Alleged breach purportedly caused devaluing of stock; increased regulatory exposure to insurer


23


• Regulation by Settlement

 Industry standards developed from company-specific settlements

 Huge regulatory fees; no clear authority

 Inherent uncertainty after settlement

 No finality


24


• Settlements: Unclaimed Property and MCE

 Date of death is dormancy trigger on unclaimed property audit settlements (no basis in law)

 Possible conflicts of law issues on “ beneficiary presumption ”

 “Settlement” is a misnomer : Verus will present “fuzzy matches” to insurer at a rate of 10,000 or more per month for a year or so, for validation or proof that match is invalid, which must be provided to

Verus within 30 days

 ERISA annuity contracts are carved out of UP settlement, but not market conduct settlement

 Insurer agrees to conduct quarterly searches of DMF using unproven “fuzzy match” algorithm to obtain “notice” of death

 Once insurer receives “notice” of valid death, must conduct a

“thorough search” for beneficiaries – or escheat

 Market Conduct Exam Settlement continues for an additional 8 years, with payments to Verus and the states for administering the exam throughout that period.


25

TWO WORLDS COLLIDE –

INSURANCE LAW VS. UNCLAIMED PROPERTY LAW


26

Two Worlds Collide – Insurance Law vs.

Unclaimed Property Law

• Conflicting demands and tensions resulting from different approaches of

 Insurance regulation and traditional insurance practices

 Unclaimed property law and positions staked out by auditors and unclaimed property administrators

• Conflicting objectives of regulatory schemes

 Insurance regulation – insurer solvency and protection of insureds and beneficiaries

 Unclaimed property – earliest possible escheatment of funds to state


27



• Insurance regulation

 Unfair Claims Practices Act

 What constitutes a claim

• Unclaimed property laws

 General concept – if property is unclaimed for full dormancy period, report it and escheat it to state

 Outside of insurance, generally based on loss of contact with property owner

 Different dormancy period triggers for insurance

 Typically when (i) proceeds became due and payable or

(ii) insured reaches or would have reached limiting age

 Some states have knowledge of death trigger


28



• Proof of death vs. knowledge of death

 What constitutes knowledge of death

 What constitutes a claim

 What triggers statutory interest


29



• Time limits

 Insurance – often no time limit for submission of death benefit claim

 Unclaimed property

 In some states, escheatment is required at the end of a dormancy period triggered by knowledge of death, without regard to submission of any claim for benefits

 Verus contends that the dormancy period is triggered by date of death, without regard to any claim for benefits or even any knowledge of death


30



• Impact of knowledge of death

 In less than half of states, knowledge of death an express dormancy trigger

 In more than half of states, not an express dormancy trigger

 Arguably no dormancy period triggered until limiting age reached if merely knowledge of death without proof of death and no claim

 Not necessarily a good position for insurers to be in

 Consider impact in states where statutory interest runs from date of death

 What position will insurance regulators take?


31



• Date of death as dormancy trigger

 Verus position, citing Connecticut Mutual v.

Moore , apparently for all states

 Not supported by Moore

 Not supported by language of most statutes

 Implies duty to search affirmatively for deaths to avoid unclaimed property penalties

 Duty – Insurance regulators may attempt to impose and/or adopt new statutes


32



• Duty to maintain contact with insureds and beneficiaries

 Insurance law generally does not appear to impose duties to seek out new addresses (although referenced in NAIC Market Conduct Examination

Handbook)

 Relevance of loss of contact under unclaimed property laws

 Relevant to limiting age triggers

 Some duties imposed by 1981 Act

 Loss of contact after submission of a claim


33



• Time period to verify deaths and attempt to pay claims

 Where claim submitted, Unfair Claims Practices statutes typically set time frames

 Verus audit process seeks to impose short period to verify deaths and determine whether policy proceeds may be due and owing

 Insurance regulators may attempt to impose new requirements and/or sponsor new statutes


34



• Protection against liability for early and/or improper escheatment

 Unclaimed property administrators and auditors are urging procedures that may involve escheating early or to the wrong state

 Not clear whether liability relief provisions in unclaimed property statutes apply in such circumstances

 Insurance regulators should be concerned about exposure to insurers possibly created by questionable escheatment procedures

 Unclaimed property administrators and auditors not taking into account federal securities laws


35



• Insurance regulators’ lack of authority

• Contractual obligations

• Unfair Claims Practices Act

• Market regulation handbook

• New York

• Historical perspective


36

POINTERS TO KEEP IN MIND:

UNCLAIMED PROPERTY AND

MARKET CONDUCT EXAMS


37

Unclaimed Property Exams

• How unclaimed property exams differ from state market conduct exams

 No statute of limitations

 Utilizing third-party contingent fee auditors

 Aggressive definitions of unclaimed property types

 Burden of proof is immediately shifted to the company

 Very few administrative remedies

• Preparing for the unclaimed property exam

 Be proactive – determine your potential liability

 Consider running DMF using “fuzzy matches”

 Voluntary Disclosure Agreements

 Process and procedure review


Market Conduct Exam Considerations

38

• Exams will focus on policies and procedures for and results of

 Claims process

 Missing policyholders

 Limiting age and maturity dates

• Steps to consider

 Form your team (compliance, legal, unclaimed property) to do internal compliance review under attorney-client privilege

 Know whether you have used the DMF in your business and evaluate your processes for paying death benefits

 Evaluate how you identify and locate beneficiaries

 Evaluate what you do to find missing policyholders, see if insured on lapsed policy died, determine if the missing person is deceased, treat maturity date

 Examine your processes around escheatment


Market Conduct Exam Considerations

39

• Confidentiality of market conduct exam papers

 In 2004, the NAIC adopted Model 693, which has been adopted or is consistent with a majority of state laws

 Strong confidentiality protections in the Model.

Section

7.A. of Model 693 requires that “all documents, including but not limited to working papers” be kept confidential

 But confidentiality provisions of Model 693 are not uniformly adopted. Not all state laws treat market conduct materials as confidential or prohibit states from disclosing those market conduct materials

 Some states make disclosure of market conduct materials permissible at the discretion of the commissioner

 Get legal advice because litigation may be a real possibility


40

WHERE ARE WE HEADED?


41

Where Are We Headed?

• State Comptrollers and Treasurers

 Reducing budget deficits

 Unclaimed property is a proven revenue raiser

 States are holding more than $6 billion in unclaimed property

 Companies remit hundreds of millions a year

 States return only a fraction of the amount collected

 States benefit from poorly documented beneficiary information

 Third-party unclaimed property audits are a win-win for the state


42


• Unclaimed Property Administrators

 Continue to utilize unclaimed property as a revenue generator

 Creative theories of what is unclaimed property

 Changes in state laws regarding dormancy trigger

 Uniformity?

 Lack of knowledge of insurance law

 Willingness to enter into voluntary disclosure agreements

 Improved procedures for returning escheated property to beneficiaries


43


• NAIC/State Insurance Regulators

 Likely require a DMF match at regular intervals across the business

 Require investigation of matches under the Unfair Claims Practices statutes

 What level of “match” will be required?

 Single point match of SSN like New York 308 guidance?

 “Fuzzy matches” under the Verus algorithm?

 Model Law and/or 50 state variations?

 What level of proof of death will be required to pay and/or escheat a “claim” and trigger “interest” on death proceeds?

 Model Law and/or 50 state variations?

 Existing contract language?

 Variable contracts?

 What types of duties will be imposed?


44


• NAIC/State Insurance Regulators

 Multi-state exams are likely

 Multi-state MCE for top 40 life insurers

 Coordinate with multi-state unclaimed property audit so data from audit becomes market conduct work papers

 Prepare

 Remediate

 Legal defenses


45


• Potential Challenges with Unclaimed Property/Market

Conduct Exams/Settlements

 Lack of authority

 Violates existing authority

 Conflict of interest

 Confidentiality of records

 Examiner qualifications

 Insurer privileges

 Sampling

 Credible match criteria


46


• State Attorneys General

 More subpoenas or inquiries possible

 Unclear whether AGs are coordinating with each other or with

 Unclaimed property administrators

 Insurance regulators

 Can be very onerous in scope


47


• Possible Further State False Claims Act Litigation

 Cited in Minnesota Attorney General Letter

 32 states and DC have False Claims Acts

 Six apply only to Medicaid

 Most modeled after federal statute

 Most have qui tam provisions

 Most apply to reverse false claims


48


• Unclaimed Property Claims Litigation – Beyond Ohio

 Duty to search

 Beneficiary as plaintiff

 Negligent escheatment

 Consequential damages

 Improper calculations of benefits


49


• NCOIL Legislation

 Will an alternative to the Verus Settlement emerge?

 Current draft legislation uses 308 Model and may be opposed by the Verus states


50


• Considerations

 Review policies and procedures

 Consider VDAs

 Conduct remediation in advance of audit

 Fuzzy matches – test credibility; determine exposure


Life Insurance Regulation and Unclaimed Property Audits

• Proof of death vs. knowledge of death

POINTERS TO KEEP IN MIND:

UNCLAIMED PROPERTY AND

MARKET CONDUCT EXAMS

WHERE ARE WE HEADED?

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Life Insurance Regulation and Unclaimed Property Audits

• Proof of death vs. knowledge of death

POINTERS TO KEEP IN MIND:

UNCLAIMED PROPERTY AND

MARKET CONDUCT EXAMS

WHERE ARE WE HEADED?

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