Track the companies that matter to you. It's FREE! Click one of these fan favorites to get started: Apple; Google; Ford.



Why Your Life Insurer May Not Be as Healthy as It Seems

Don't let it get away!

Keep track of the stocks that matter to you.

Help yourself with the Fool's FREE and easy new watchlist service today.

Life insurance companies have been treading water lately, beset by low returns on investments and an aging North American population. Now, a recent news item indicates that these entities may be even less robust than they claim.

New York's Department of Financial Services has initiated an inquiry into the use of captive insurance companies, according to The Wall Street Journal. The state is seeking answers regarding how life insurers use these companies to manage risk.

Captive insurers are proliferating
Captive insurance, a type of reinsurance, is nothing new. Large insurers make use of it for various reasons, primarily to make capital reserves look bigger. Also, when a company sets up its own captive subsidiary, fees paid by the parent company can be expensed, lightening the overall tax burden.

Once upon a time, most of these reinsurance subsidiaries were located overseas, usually in the Caribbean. In the early 1980s, Vermont led the way in allowing these entities to do business in that state, once it discovered how lucrative the sector could be. Other states are doing the same, and Prudential (NYSE: PRU  ) opened the first captive insurance company in New Jersey last summer, noting that its purpose was to "manage risks in its life insurance and annuity businesses."

Tighter reserve requirements are spurring the largest insurers, such as Metlife (NYSE: MET  ) , Lincoln National (NYSE: LNC  ) , and Genworth Financial (NYSE: GNW  ) , to make greater use of captive insurance, since they can transfer some of their liability to those subsidiaries, making the parent company look more solvent.

Metlife and Lincoln, which have been targeted in the investigation along with 78 other insurers, may have both used letters of credit from major banks to pad their balance sheets. Metlife's Vermont subsidiary hosted a $2.4 billion line of credit with Deutsche Bank in 2008, and Lincoln's captive holds a $550 million letter of credit from Credit Suisse (NYSE: CS  ) .

In some states, these letters of credit are sufficient to guarantee the parent company's access to capital if needed. However, some worry that drawing on the line of credit could cause the bank to require repayment, possibly putting the insurer in default.

Fool's take
An article in The New York Times last year referred to the captive insurance industry as "shadow insurance," since, like shadow banking, it is largely unregulated. Though the captives are audited, most states allow those records to remain confidential. This lack of transparency, along with the fact that parent companies setting up captive subsidiaries in other states can bypass their home state's reserve rules, doesn't create a very comfortable environment for either life insurance customers or investors.

If you fall into either of these groups, you'd do well to keep informed regarding the ongoing investigation, as well as do your own due diligence. Who knows? Your favorite life insurer may not be as lively as you thought.

If all of this insurance and reinsurance sleight of hand makes you feel as if your company's dividends may be at risk, take a look at The Motley Fool's special report in which we vet nine rock-solid dividend stocks for you to consider. This report is free, so start securing your future now by clicking here.

Fool contributor Amanda Alix owns no shares in the companies mentioned above. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

Read/Post Comments (0) | Recommend This Article (1)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

Be the first one to comment on this article.

Compare Brokers

Fool Disclosure

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 1977237, ~/Articles/ArticleHandler.aspx, 10/28/2016 12:51:58 PM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

Today's Market

updated Moments ago Sponsored by:
DOW 18,241.72 72.04 0.40%
S&P 500 2,139.22 6.18 0.29%
NASD 5,225.88 9.91 0.19%

Create My Watchlist

Go to My Watchlist

You don't seem to be following any stocks yet!

Better investing starts with a watchlist. Now you can create a personalized watchlist and get immediate access to the personalized information you need to make successful investing decisions.

Data delayed up to 5 minutes

Related Tickers

10/28/2016 12:36 PM
LNC $50.17 Up +0.46 +0.93%
Lincoln National CAPS Rating: ***
MET $47.50 Down -0.19 -0.40%
MetLife CAPS Rating: *****
CS $14.14 Down -0.01 -0.04%
Credit Suisse Grou… CAPS Rating: ***
GNW $4.15 Down -0.16 -3.71%
Genworth Financial CAPS Rating: ****
PRU $85.31 Up +0.54 +0.64%
Prudential Financi… CAPS Rating: ****