Edward A. Zurndorfer, Certified Financial Planner

August 17, 2010

As a result of a Bloomberg Markets investigation, both the Veterans Administration (VA) and New York Attorney General Andrew Cuomo are investigating a number of insurance companies' use of "retained asset" accounts for beneficiaries of these insurance companies-issued life insurance policies.

With a "retained asset" account, when the insured individual on a life insurance policy dies, the insurance company who issued the policy temporarily holds onto the life insurance proceeds. Instead of paying the death benefit proceeds in a lump sum payment to a beneficiary, the company keeps the claim money in an account. The insurance company invests the cash (thus the term "retained asset") and makes a small interest payment to the beneficiary while temporarily holding onto the insurance proceeds until the proceeds are paid in full to the beneficiary.

On Thursday, July 29, 2010, Cuomo began a fraud probe into the use of "retained accounts". He subpoenaed the records of Metropolitan Life Insurance and Prudential Financial and six additional insurance companies for information about profits on death benefits retained from the families of deceased policyholders. These policyholders including beneficiaries of deceased military personnel who owned life insurance policies issued through Prudential.

Metropolitan Life Insurance Company has a contract with the federal government to offer life insurance as a group term life insurance policy for federal employees and annuitants (the Federal Employees Group Life Insurance program, or FEGLI). Prudential Insurance Company has had a contract with the Veterans Administration since 1965 to offer life insurance to members of the military. As will be explained below, both Metropolitan and Prudential insurance companies are being somewhat evasive with respect to the safety of these "retained asset" accounts, the competitive interest rates paid on these accounts, and in the case of Prudential, to the general access to these accounts.

Before discussing in more detail, it is important to review how insurance companies can profit from the rise of retained asset accounts. The following is a typical sequence of events leading to the establishment of a "retained asset" account.

Step 1: An individual purchases a life insurance policy with a face amount of, for example, $250,000, with the XYZ insurance company.

Step 2: Upon the death of the policyholder, the XYZ insurance company notifies the beneficiary that it has deposited the $250,000 into a retained asset account. This account is typically invested in a non-FDIC insured money market account paying in today's current low interest rate environment, as little as 0.5 percent. The insurance company sends out a checkbook with check writing privileges on the retained asset account.

Step 3: The XYZ insurance company actually holds the $250,000 in its own general account and earns about 5 percent on the account, a result of investing from in bonds investments that are not FDIC-insured.

Step 4: When the beneficiary writes a check, the XYZ insurance company releases money to cover amounts up to the $250,000 face amount of the policy.

The beneficiaries of Metropolitan Life Insurance ("MetLife") Company life insurance policies - and this includes beneficiaries of federal employees and annuiatnts who are insured through the FEGLI - receive the following standard letter upon the death of MetLife policyholder:

"To help you through what can be a very difficult, emotional and confusing time, we created a settlement option, the Total Control Account Money Option. It is guaranteed by MetLife."

But Met Life's company letter omits that the money is in fact in MetLife's corporate investment account, not in a bank savings account and most important, with no FDIC insurance. In other words, any guarantees set forth by MetLife are subject to the financial strength and claims paying ability of Metropolitan Life Insurance Company.

At the very least, MetLife's practices may be deceptive in the sense that it mentions that the "checkbook accounts pay competitive rates". MetLife pays 0.5 percent to beneficiaries of FEGLI. Many banks today offer money market accounts paying more than twice that amount - and insured up to $250,000 through FDIC insurance.

Because the unregulated quasi-banking system operated by insurance companies has none of the protection (such as FDIC) of the actual banking system that covers federally chartered banks, the potential collapse of the financial institutions in which the retained asset or total control account funds are invested could result in a financial catastrophe. Furthermore, if one insurance company is unable to meet its obligations on its retained asset accounts, individuals could lose faith in other insurance companies, possibly triggering a panic.

The FDIC was established in 1933 after frantic bank depositors tried to withdraw their money from banks. But the federal government has no FDIC-type program for "death benefit" accounts.

Sheila Bair, the head of the FDIC, said on August 12 that her agency is reviewing the disclosures life insurance companies sent to beneficiaries to determine if they mislead consumers about whether her agency backs their accounts. Ms. Bair cited "potential confusion" by consumers as the reason her agency will be reviewing so called "retained asset" accounts.

Several insurance companies with retained asset accounts indicate that instead of the $250,000 guarantee that backs FDIC-insured accounts, funds in insurance company retained asset accounts are backed by state insurance guaranty funds. These funds typically offer protection up to $300,000. But some critics of the retained asset accounts question whether the state guaranty funds would back the retain asset accounts if an insurance company would fail, suggesting the accounts could be separate from the insurance company's other obligations to policyholders. Another question: What happens to the insurance proceeds in the event the face amount of a deceased policyholder's insurance policy exceed the maximum state guarantee fund of $300,000?
    
Also, the financial regulatory legislation passed by Congress and signed into law by President Obama in July does not address retained asset accounts. The legislation creates a new federal insurance office that will not be a regulator.

At the very minimum, the Office of Personnel Management (OPM), has an obligation to clear up the misleading language in its FEGLI Handbook which states that FEGLI beneficiaries get a money market account -- the Total Control Account - that contain the life insurance proceeds resulting from the death of a FEGLI-insured employee or annuitant. A statement needs to be inserted in the handbook that the assets backing the Total Control Account are initially maintained in MetLife's general account and are subject to MetLife's creditors.

In the meantime, Sen. Charles Schumer (D-NY) has introduced legislation that would require insurance companies to immediately pay the death benefits in a single lump sum payment unless a beneficiary requests otherwise.

About the Author

Edward A. Zurndorfer is a Certified Financial Planner, Registered Health Underwriter, Registered Employee Benefits Consultant and Enrolled Agent in Silver Spring, MD and the owner of EZ Accounting and Financial Services, an accounting, tax preparation and financial planning firm also located in Silver Spring, MD.  He is an instructor at federal employee retirement seminars throughout the country for the National Institute of Transition Planning, Inc. and writes numerous columns and books on federal employee benefits.

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