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Life-Insurance Companies: Bad-Faith Policies

You have to pay attention more than ever these days if you have a life-insurance policy or if you shop for one. Insurance companies use a variety of tactics to delay death-claim payments to increase their profit. And as insurers increasingly use the Internet to expand sales efforts, consumers should watch out for a web of potential problems. 


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The life-insurance industry likes to tell you that it pays 99 percent of its claims. It’s an impressive and accurate figure—and one that suggests that life-insurance companies have your best interests at heart. But life-insurance companies also disputed or delayed payments of $343 million in 2010, which is the most recent year for which statistics are available. And that’s just a sliver of the abundant evidence that suggests that insurance companies are putting their own interests first while they come up with new ways to get your premiums faster at less risk to themselves.

Faced with sharply declining sales—and profit—U.S. life-insurance companies today employ a range of strategies that delay payment of death benefits, so the companies can maximize their profit on the premiums that you pay to them, experts tell Consumers Digest. 

For instance, at press time, insurance commissioners in at least 35 states were investigating evidence that insurance companies willfully ignored information about customer deaths to postpone paying claims—sometimes for years.

At the same time, life-insurance companies are eager to speed up the amount of time that it takes to determine the risk factors for life-insurance applicants, which means that you can get a life-insurance policy a lot quicker these days. But these changes come with a cost to consumers. The use of online applications can compress the underwriting process from weeks to mere minutes but could raise your premiums and restrict your benefits. 

And life-insurance companies seem poised to track your footprint by looking at what you buy and what you post on social-network sites to determine what risks that policy applicants pose. Critics say that approach should raise privacy red flags for consumers.

Life insurers want to accelerate the sales process and hold on to your money for as long as they can, because consumers are buying far less life insurance than they used to. Individual life-insurance premiums fell by 19.2 percent between 2009 and 2010, according to industry figures that were compiled by American Council of Life Insurers (ACLI), which is an industry trade group. Insurance-company revenue that comes from the sale of individual life-insurance premiums dropped by 2.5 percent from 2000 to 2010, industry figures show.

Unfortunately, life insurers have no federal oversight, so it falls to states to look out for consumers and make sure that insurance companies have enough money to back up the claims on the policies that they sell. Limited oversight sometimes translates into a raw deal for consumers, whose best interests can be trampled by a rush to satisfy what’s best for life-insurance companies.

DIMINISHING RETURNS. At press time, we still awaited fallout from a multistate investigation into most large life-insurance companies’ neglect to use a key tool when it comes to handling death-benefit payments. The continuing investigation centers on why insurance companies don’t use a massive government database of U.S. deaths—Social Security Administration’s Death Master File—to determine who should receive unclaimed benefits. At least 30 states are conducting investigations into the practice, but that number could be higher, because many states aren’t discussing what actions they were taking at press time. 

State officials argue that the information that’s in the database, such as a customer’s Social Security number and last known address, would help insurance companies to determine whether a life-insurance policyholder has died—and that a claim should be paid out to the policyholder’s beneficiaries. What infuriates regulators and consumer advocates is that insurance companies use the same database to determine whether customers who purchased annuities from the same insurers have died. If a person who had an annuity shows up on the list, life-insurance companies promptly stop making annuity payments.

By not using the death database to determine whether a policyholder died, insurance companies can delay making payments on a life-insurance policy—sometimes for years—if surviving family members don’t know about it and don’t file a claim for payment, says Kevin McCarty, who is Florida’s insurance commissioner. In some cases, companies also continue to subtract premiums from lapsed policies until the policies’ cash value has run down to zero, at which point the policies are canceled, according to Lisbeth Landsman, who is an attorney for California’s Department of Insurance. 

The companies’ selective use of the death database has allowed them to hold on to as much as $1 billion in death benefits, McCarty says. (Life-insurance companies paid out $58.4 billion in claims in 2010.) Most of the unclaimed policies are in the $10,000−$20,000 range and were purchased by working-class consumers to cover their funeral expenses, McCarty says. Their heirs are less likely than are more-affluent consumers to know about the policies, because such customers are unlikely to have a paid financial adviser to keep track of investments and notify survivors about any policy. 

QUICK-CLICK COVERAGE: You can apply for a life-insurance policy on the Internet. Doing so saves time but also includes restrictions that traditional policies might not have.

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Life-insurance companies insist that they have done nothing wrong. They argue that their obligation is to pay claims, not to investigate deaths. ACLI spokesperson Whit Cornman says state laws are “clear and consistent” that it falls to beneficiaries to make a death claim and submit required proof of death, which must include a death certificate. But state regulators say life-insurance companies are violating state laws by acting on information about a customer’s death when it benefits the companies but ignoring the information when it means that they would have to pay a claim.

“It’s bad faith, flat out,” to access the death database to stop payment benefits to consumers who have annuities but avoid using it to pay life-insurance claims, says Amy Bach, who is executive director of United Policyholders, which is a consumer-advocacy group that focuses on insurance issues. Adds McCarty: “We’re saying, ‘Send a letter, make a phone call, don’t just ignore the information you’ve got about a death.’ I think a person on the street would say that is reasonable.”

It’s unclear how many life-insurance companies are being investigated by states, but experts whom we interviewed say virtually all of the 20 largest U.S. life-insurance companies by policy volume use the death database to benefit themselves but not consumers. 

In California, the 10 largest life-insurance companies that do business in the state are under investigation. And New York has ordered all 172 of the life-insurance companies that do business there to submit regular reports about what steps the companies take to determine whether a policyholder has died—including how the companies use the death database.

The controversy likely will prompt new state laws that will give explicit orders on how life-insurance companies can and can’t use the death database, Bach says. But it could be months before details about any state’s legislation or other actions materialize. State regulators also might fine life-insurance companies if they conclude that companies acted in bad faith. In 2011, life-insurance company John Hancock paid a total of $3 million to three Florida agencies to settle the company’s dispute with the state over its use of the death database. John Hancock also put $10 million in a fund to locate beneficiaries and adopted policies that ensure that its annuity and life-insurance divisions share information from the database. The company also paid $20 million for unpaid death benefits to California’s controller, who will work with the company to locate beneficiaries.

Other insurance companies are bracing for the cost of dealing with the matter. Metropolitan Life Insurance set aside $117 million in connection with the death-database investigation, according to its Oct. 27, 2011, quarterly report. Prudential and U.S. government-owned American International Group increased financial reserves by about $100 million in anticipation of unpaid claims and other costs that are related to the probe, according to company filings. 

In the meantime, consumers can take action to avoid problems. McCarty says the first step is to ask parents or other family members whether they have a life-insurance policy, so survivors will know what company to contact after the policyholder dies. Survivors also can contact state unclaimed-property departments for free assistance in locating a policy in the state or states where their relative lived. Private companies also can help you to track down a policy, but they will charge you $50–$75 for the service. Potential beneficiaries also can contact insurers to ask whether a deceased relative had a policy with the company, because the life-insurance companies have a legal obligation to follow up, McCarty says. 

DELAY OF GAME. Another way that life-insurance companies can hang on to customers’ money is to hold claim payouts in interest-bearing retained-asset accounts rather than make a one-time lump-sum payment. The accounts are marketed as a good deal for beneficiaries, but they aren’t a good deal. Retained-asset accounts allow life-insurance companies to hold on to your money and pocket nearly all of the investment gains while they pay you a much lower interest rate in an account that poses risks to you.

A retained-asset account works like this: Life-insurance companies send beneficiaries a “checkbook” that gives them access to their funds. But the “checks” can’t be used at retailers. They are drafts that beneficiaries submit to banks, which in turn submit them to the insurer for cash. The insurer keeps beneficiaries’ money in their general corporate account until the beneficiary requests the full amount weeks, months or sometimes even years later. That leaves the life-insurance companies free to invest the funds at maximum profit to themselves while they pay beneficiaries a rock-bottom rate of return, which typically is about 0.5 percent.

Retained-asset accounts also are risky for consumers, because they aren’t insured by Federal Deposit Insurance Corp., which means that the money likely is unrecoverable if the life-insurance company goes out of business. State insurance guaranty funds provide some protection if a life-insurance company can’t pay claims, but those protections are well below that of the federal backstop, which provides $250,000 of insurance per account. 

Nevertheless, life-insurance companies continue to market retained-asset accounts as a “service” for consumers. ACLI’s website, for instance, says the accounts allow survivors “to delay major financial decisions during an emotional and vulnerable time.” National Association of Insurance Commissioners and ACLI say few if any consumer complaints have been made about retained-asset accounts since they were created in 1982. 

But it’s clear that retained-asset accounts benefit life-insurance companies more than they do consumers, says Bob Hunter, who is director of insurance for Consumer Federation of America. He says the accounts were created as a way to allow companies to hold on to customer payouts longer. “It’s revisionist history to say otherwise,” Hunter says. 

At press time, at least 14 states—Alabama, California, Connecticut, Illinois, Iowa, Kentucky, Maine, Montana, Nebraska, New Hampshire, New Jersey, North Carolina, Ohio and West Virginia—had taken steps to provide more consumer protection against the misuse of retained-asset accounts, but none had prohibited insurance companies from using the accounts. The new law in California, which went into effect Jan. 1, is the most helpful to consumers, because it’s the only law that prevents life-insurance companies from automatically putting beneficiaries’ money in a retained-asset account; it requires them to ask beneficiaries how they want their money, including as a lump-sum payment. Life-insurance companies still can open a retained-asset account for beneficiaries if beneficiaries don’t respond to the company’s question about their preferred payment method.

But there’s little chance that consumers will be given a similar option across the country, because no one is pushing for it at the state or federal level, experts tell us. 

Nonetheless, consumers can take several steps to protect themselves after they file a life-insurance claim. For starters, if a consumer receives a retained-asset account “checkbook” instead of a check after a death claim is made, “they should assume someone is trying to hold on to their money,” Hunter says. They also should recognize that they can write a single check from the “checkbook” to get the entire lump sum from the company at any time, he says.

Bach says consumers never should keep money in a retained-asset account for an extended period. “If you want to make anything other than a terrible return, you need to request the full amount and do something else with the money,” she says. Bach recommends that consumers consult a certified financial adviser who has a good track record for recommendations on investments and other financial-services options.

EYE ON THE WEB. Life-insurance companies also are putting technology to new uses so you don’t have to jump through so many hoops to qualify for a policy. That might sound like good news, but the combined use of technology and increasingly massive amounts of electronic data about your health and lifestyle raise troubling questions about privacy and the potential misuse of your sensitive personal information. 

At least three life-insurance companies use online applications, or so-called rapid e-underwriting. The approach allows insurers to determine whether you qualify for coverage and to sell you a policy in as little as 15−20 minutes. That compares with the 4−6 weeks that you typically would wait for a decision when life-insurance companies use human underwriters to collect your medical records and evaluate how much of an insurance risk that you are. The online application requires you to complete a detailed questionnaire about your health history and lifestyle instead of having to undergo a medical exam or give blood and urine samples.  

For instance, Prudential’s My Term online-application process can lead to an approval in as little as 3 minutes, says Joan Cleveland of Prudential. The online-application feature is available for policy applicants who are ages 18−65, and it has a coverage limit of $250,000, which is lower than what you could get through a traditional underwriting process. MetLife and Farm Bureau also offer online applications for life-insurance policies. The cost of buying a term-life policy through this automated route is about 10 percent higher, Cleveland says.

But the speed of online applications reflects the expanding role of data-collection companies that share your pharmacy records, medical records and driving records. Data-collection companies share this information with life-insurance companies, so insurance companies can run immediate checks on those records and determine your risk within minutes.

You also should understand that life-insurance companies can continue to scrutinize your medical history for 2 years after a sale is complete. Any missing or misleading application information can nullify the policy during that period, says Ed Graves, who teaches insurance at The American College in Bryn Mawr, Pa. Consumers who are confused about how to answer vague health-related questions might jeopardize their coverage if an insurer later turns up information that seems to contradict their response, Hunter says. He says consumers simply should avoid using online applications. “You almost never need life insurance in a hurry anyway,” he says. “Consumers need to take their time and shop around.”

Meanwhile, the life-insurance industry is examining how it can use personal information that’s gathered from social-networking websites and your credit-card purchases to streamline the application process. Life-insurance-industry officials and consultants say companies merely are “testing” the use of such information, but it’s obvious that life-insurance companies could use this information in the years ahead to help to determine a policy applicant’s risk and premium costs.

Data-collection companies compile vast records on U.S. consumers, from credit-card purchases to magazine subscriptions and hobbies, which they then sell to other companies mostly for marketing purposes. Life-insurance-industry officials say such personal information has the potential to replace costly medical exams and other time-consuming elements of traditional underwriting. The idea is that such personal information about your lifestyle might be as good as is your medical history or traditional procedures, such as taking a blood sample from you, in helping life-insurance companies to predict how long that you might live.

For instance, by evaluating a person’s personal-information data, a life-insurance company can tell in minutes whether you flirt with danger because you own a lot of guns and get a lot of speeding tickets, or whether you’re a better insurance risk because you belong to a health club and purchase smoke alarms for your home, says Joel Winston of AnnualMedicalReport.com, which compiles consumers’ medical reports.

In addition, life-insurance companies are likely to start using data from social-networking websites within 3 years for similar purposes, says Mike Fitzgerald, who is an analyst with Celent, which is an insurance-industry consulting firm. Fitzgerald says information that’s gleaned from social-networking websites can give a real-time glimpse into the lifestyles and health habits of users. And that information, in turn, can tell insurers whether the applicants are a good or bad underwriting risk. “Your behavior is a reflection of your risk profile,” he says. 

It’s important to note that data-collection companies can bypass privacy settings that are on social-networking sites. So, for instance, if you post lots of pictures of particularly unhealthy or risky activities on Facebook, data-mining companies can find them and share them with insurance companies, regardless of whether you made those pictures “private.” Under such a scenario, you’d be considered a higher risk than would someone whose social-networking website profile is flooded with evidence that he/she exercises a lot. 

But New Jersey Insurance Commissioner Tom Consadine says “it’s a quantum leap” to assume that the information that comes from social-networking websites can provide the same insight into the riskiness of coverage as a life-insurance applicant’s prescription-drug history does. Consadine says state regulations don’t explicitly prevent life-insurance companies from using social-networking website information in their underwriting decisions. And it’s unclear whether any states will prohibit life-insurance companies from using such information in the years ahead. 

For consumers, this maneuver by life-insurance companies could lead to quite a tangled web. 

Freelance journalist Sara Bongiorni is a regular contributor to Consumers Digest.