Tread carefully when you help clients decide what to do with their life insurance proceeds after a loved one dies. The use of a “retained asset account,” one of the most popular methods of taking the money, has come under fire by a host of state and federal regulators.
A retained asset account is a temporary investment of death benefit money in the insurance company’s general account. After a beneficiary files an insurance claim, the insurance company, instead of sending a check for the lump-sum benefit, sends a checkbook. The checks, though, are not linked to an FDIC-insured bank checking account, but rather are non-FDIC-insured “drafts,” much like checks that access money market mutual funds. The insurer, which guarantees the funds, sets the interest rate on the account, which currently runs about 50 basis points. Survivors can write checks on the account to pay bills, or cash out the account when they wish.
Here’s the rub. New York Attorney General Andrew Cuomo has launched a major fraud investigation to determine whether insurers are making big profits off the accounts at the expense of beneficiaries. His concern: While the insurance companies pay beneficiaries low interest rates, they invest the proceeds in the financial markets at high rates. It’s been estimated the insurers have earned about 4 percent on the retained asset funds, while paying survivors less than 1 percent on their accounts.
Also at issue: Whether terms of the non-FDIC-insured checking account are adequately disclosed and whether the beneficiary is adequately informed of other options.
Amid disclosure concerns expressed by the FDIC, the National Association of Insurance Commissioners and the National Conference of Insurance Legislators called for greater disclosure on the interest rate paid on the account. They also called for people to receive the cash in other ways, such as in a lump sum.
In addition, New Jersey Banking Commissioner Thomas Considine has called for an increase in that state’s guarantee association insurance protection on retained asset accounts to $500,000 from $300,000 for life insurance death benefits.
Cuomo last July announced that Prudential Financial Inc. and MetLife Inc. had been subpoenaed in conjunction with his investigation. Since then, published reports have indicated that the investigation has widened substantially.
Bob DeFillippo, spokesperson for Prudential Financial, counters: “If beneficiaries don’t want their money to remain in the retained asset account, they may deposit the funds, at any time, in a financial institution of their choice. Beneficiaries who find a better interest rate can move the money simply by writing a draft.”
“Retained asset accounts provide the benefit of time,” adds the American Council of Life Insurers. ”They allow grieving beneficiaries to make financial decisions at the time they choose to make them, while providing interest income that compares favorably with many on-demand deposits.”
Published reports also indicate that a number of federal judges have rejected claims that insurance companies were acting inappropriately because beneficiaries have immediate access to withdraw their money in the account.
“The use of a retained asset account is a temporary repository of funds,” says Thomas R. Sullivan, commissioner of the Connecticut Insurance Department in a press release discussing pros and cons of retained asset accounts. “The use of a RAA (Retained Asset Account) provides you the flexibility to make the right decision regarding your long-term financial needs while earning interest on the life insurance proceeds.“
Some 130 insurance companies are holding about $28 billion in death benefits in retained asset accounts, Bloomberg Markets Magazine has reported.
The retained asset account is the most popular way survivors get insurance proceeds industry wide, says Prudential’s DeFillippo. Forty percent of the money held in Prudential’s "retained asset accounts" is withdrawn within the first two months, he says. And nearly three of four people write at least one check in the first three months that they have the account.
Not all financial advisors recommend these accounts. Larry Elkin, financial planner with the Palisades Hudson Financial Group, Scarsdale, N.Y. recommends that beneficiaries put the entire cash settlement in a federally insured bank account. Or, they might select a well-diversified money fund with an average maturity less than 40 days. He then works on the individual’s financial plan to determine the best use of the insurance funds.
“I recommend people take their time deciding what to do with the money,” he says. “They need to put it in a safe place. If they use a retained asset account, they are making an unsecured loan to the insurance company.”
On the other hand, a client in financial hot water may be better off leaving the proceeds with the insurance company. Depending upon state laws, beneficiary insurance proceeds that are left with the insurance company in the form of retained asset accounts or installment payments accounts are protected against creditors’ claims, says Gideon Rothschild, a New York asset protection attorney with Moses & Singer.
Besides a retained asset account, there are several other ways beneficiaries can receive their life insurance money. Among those:
The fixed period payout option. Both principal and interest can be paid out in installments over a specific term, typically up to 30 years. This option works well for someone who needs the money for a specific time frame.
Interest-only payout option. The insurance company holds the money and pays the beneficiary interest exclusively. Currently, the interest rate on these accounts is about 3 percent, according to the Insurance Forum, an Elletsville, Ind., report.
The “Fixed-amount option.” A specific amount may be paid out monthly until principal and interest are exhausted. With this option, beneficiaries can adjust the monthly payout, based on financial condition.
Life annuities or fixed immediate annuities. Beneficiaries invest the lump sum insurance benefit in return for insurance company-guaranteed income, generally monthly, for as long as they live. If the policyholder dies, the insurance company keeps the balance of the proceeds—unless arrangements are made to pass proceeds to loved ones, typically in exchange for lower monthly payouts. But Elkin, of Palisades Financial, cautions against giving a large sum to the insurance company when interest rates are as low as they are today.