For Charities, a New Twist in Raising Money:
Corporate Investors in Life-Insurance Policies
By DEBRA E. BLUM
The Christian
Medical & Dental Society, in
In the program -- which its promoters say is risk-free for charities and easy
for them to participate in -- the medical group uses money collected from
corporate investors to purchase thousands of life-insurance policies. All the
group has to do is pay about $100,000 in administrative costs and recruit
people to allow it to buy life-insurance policies in their names.
So far, 3,500 people have volunteered. The medical group will earn its money as
those people die, and their heirs will get a small slice of the death benefits
from the insurance policies as well.
Also standing to gain: Capital Partners Funding Group, the
The program is the latest example of a growing number of plans marketed by
for-profit financial companies that use insurance policies to earn money for
charities.
In recent months, the Internal Revenue Service has cracked down on at least one
controversial scheme -- known as charitable split-dollar insurance -- in which
charities and wealthy donors divide the proceeds of life-insurance policies
bought with tax-deductible dollars. Congress also is moving to outlaw the
practice.
Programs like those promoted by Capital Partners operate very differently from
the split-dollar plan. Most significantly, they don't offer any of the
participants the option of a charitable tax deduction -- which in part caused
the split-dollar plan to come under attack.
Nonetheless, legal experts say that, depending on exactly how the deals are
structured, some elements of programs like the one promoted by Capital Partners
may run afoul of charity, insurance, and securities laws. And financial
analysts say charities need to be very careful to determine whether the plans
-- even if they pass legal muster -- will really be able to back up their
promises with sound financial returns.
Though Capital Partners has yet to publicly unveil its plan, it says at least
nine charities, including the
While Capital Partners is just about to announce its insurance plan, another
California company, FOLI, four years ago introduced a plan with some similar
elements, such as the purchase of life-insurance policies in the names of
charity supporters, and a couple of key differences. Among the differences:
Instead of counting on investors, the FOLI plan calls for the charity to
provide or borrow the money needed to pay for the insurance policies.
The Palm Desert, Cal., company says the initials in its name stand for
"foundation-owned life insurance."
In 1995, FOLI signed its first client: the Osteopathic Medical Center of Texas.
Earlier this year, it attracted the
The animal group has borrowed $6.9-million to buy 1,000 life-insurance
policies. So far, the charity has recruited 700 people -- chosen according to
their age, gender, and how they fit into the insurance company's predictions of
when people will die -- who have agreed to let it buy policies in their name.
Robert L. Sandifer, head of the group, says the
charity, which is new and has plans to build an animal shelter, anticipates
earning $64-million over 60 years.
The
"It seems on the surface too good to be true," says Mr. Sandelin. "But the concept is simple: If you pay the
premiums on your policies, the money will come."
Some observers fear that the new insurance plans are indeed too good to be true
-- and could cause a lot of trouble for charity participants. It is hard to
judge the situation fully because few people have seen all the details of how
the plans are structured. In the case of Capital Partners, the company requires
its charity clients to sign confidentiality agreements promising not to reveal
details of its program, called the LIFE (Life Insurance for Endowment) Heritage
Plan.
Although Capital Partners wouldn't provide all the details to The Chronicle,
it did provide an example of how it promises to generate $1-million a year for
a charity.
The company says it would set up a trust in a charity's name and, with the help
of investment managers, arrange for corporate investors to buy shares in the
trust worth, in this example, a total of $205.2-million. The trust, which would
be owned and controlled by the charity, would then use the money to buy
life-insurance policies -- with a death benefit of $250,000 each -- on 5,000
participants who had agreed to have policies purchased in their name.
The charity, which would pay $100,000 in start-up administrative fees, would
get $1-million a year for 30 years, plus, in the first year, the return of its
initial investment. One or more beneficiaries named by the participants would
receive a total of $10,000 upon the participant's death. The rest of the
benefit money would be returned to the trust, and, in most cases, added to that
portion of the insurance policies that could be used to make investments.
At the end of 30 years, investors would expect to receive $2.2-billion -- or a
return of 8.3 per cent. What the investors receive can vary, though, as the
cash value of the policies would depend on investment performance over 30
years.
Capital Partners would net a total of $1.4-million as soon as the plan was in
place.
While the dollar figures may be enticing, legal experts say charities ought to
be sure that the companies promoting the plans have found a way to deal with
potential problems. Among the issues to consider:
Eligibility to buy insurance. The concept behind life insurance is that
policies are purchased only by people or institutions that have an interest --
such as a relative, a business partner, or the like -- in the life of the
insured. In many states, charities have the right to buy life insurance on
their supporters and, in some cases, any potential supporters, too. Since state
laws vary, however, the plans have to be sure they comply with "insurable
interest" laws.
In addition, it may be illegal to circumvent insurable-interest laws by
allowing a group of investors -- who otherwise could not buy life insurance on
a random group of people -- to, in effect, buy the policies through a charity.
Securities. Because the Capital Partners
plan calls for the charity to sell shares, or notes, to investors who are
promised a rate of return on their investment, the trust created by the charity
might be considered a security. As such, it would be subject to regulation
under state and federal securities laws.
Taxes. Charities have to pay taxes on
income that comes from a trade or business that is not related to their
missions. Revenue from the investment plans may be deemed taxable and, more
important, some charity lawyers say, a charity's tax-exempt status could be
jeopardized if the income-producing business was found to be the charity's
primary activity.
Undue financial benefits. Federal laws
prohibit a charity from providing financial benefits to someone outside the
organization -- unless that benefit is given as part of the charity's mission
or as payment for a job performed for the charity.
Some lawyers say charities that engage in the plans might be violating that law
by allowing the heirs of the charities' supporters to get the death benefits
from the insurance policy. And, depending on the structure of the deals, the
benefits received by the companies that broker the business, and the benefits
received by the investors or lenders, might also be construed as illegal gains.
Beyond such legal issues, observers say that charities should consider some
financial questions: Are the earnings projections offered by the companies too
rosy? Are they using sound actuarial tables -- the projections of when people
die that are the basis for the price of premiums and the schedule of
death-benefit payments?
Eric Swerdlin, the president of Swerdlin
White Huber, a Cedar Knoll, N.J., company that manages planned-giving assets
for non-profit groups, says he has a lot of questions about the plans.
"If they are promising these fantastic results for
everybody, who is at risk?" Mr. Swerdlin
asks. "It has to be a zero-sum game, so off of whose backs are the returns
coming? If it is the insurance company, maybe it won't be so solvent after 20
years. It looks like something would have to give. You just have to look for
what."
Richard C. Johnson, head of FOLI, says that with his company's plan it is,
indeed, the insurance company that is making less-than-usual profits on the
deals. But, he says, the companies benefit from the increased business and the
up-front payment of premiums that allows them to invest more money.
Allin M. Karls, chairman of
Capital Partners, says his company's plan wouldn't have been feasible unless it
had found a way to offer investors something beyond the promise of an
8-per-cent return after 30 years. Because of the way his plan is structured, he
says, companies that invest in the program are able to take advantage of
accounting rules that can help improve their financial picture. He declined to
specify what those advantages were.
Mr. Karls also declined to describe exactly how the
company plans to structure the charity- owned trusts. But, he says, the trusts
in each case will be designed so that the charities involved will not have to
pay unrelated-business income tax; that the money paid to the insured's
beneficiaries or the investors will not be construed as a private benefit; and
that insurable-interest laws are followed. In addition, he says, the company
and the trust will be prepared to comply with securities laws if necessary.
Capital Partners' reluctance to reveal details of its plan has frustrated
observers, including at least two state regulators. Frank M. Fitzgerald,
"The information could leave questions in your mind of what is really
going on," Mr. Fitzgerald says. He says his agency is still waiting to
hear from the company, which had promised to contact the agency before it
continued to market its program in
Two years ago, in a letter to a charity considering the Capital Partners plan,
Mr. Karls of Capital Partners says that the company's
closed-mouth policy and the confidentiality agreements are meant to protect the
plan's business secrets against potential competitors. He points out, however,
that when necessary, the company will willingly share information with
government officials, such as the insurance regulators from four states with
whom, he says, Capital Partners is now working to make sure its plan is legal.
Mr. Karls declined to name the states.
Once the program is in place for at least several charities, Mr. Karls says, he and his company will be more forthcoming
about the plan. In the meantime, he says, what is important to know is that the
company -- after 12 years of work to develop the plan -- has not lost sight of
its original goal: to help charities raise money.
"This is not geared for the investors to use the charity," says Mr. Karls, who has served on the boards of several non-profit
organizations. "It's the other way around. Our clients are the charities,
and we go out and find the investors that put up the money and wait 30 years to
get their money, while the charities are taking their $1-million a year."
Officials at the Christian Medical & Dental Society simply hope that the
Capital Partners plan works. The group spent two years and $20,000 checking out
the company, working with lawyers, accountants, and auditors to determine if
the plan made sense.
"We don't have a question of whether this is right or wrong," says
Colette Davis, the society's finance director. "We do have some worry,
though, whether this will be a sound investment that will pay off."