by John Darer CLU ChFC CSSC RSP CLTC
Efforts to create an offshore alternative to a Section 130 qualified assignment (with the same tax treatment) for tort victims and structured attorney fees using structured settlement payment rights may ultimately put a dent in the rampant mischaracterization of structured settlement payment rights as annuities by the merchants of such financial investments. The effort purportedly creates an offshore
assignment corporation in Barbados [which would take over future periodic payment obligations from qualified settlement funds (or defendants ) and fund assumed future periodic payments to plaintiffs using a"patchwork quilt" of structured settlement payment rights in lieu of traditional structured settlements annuities], has apparently uncovered that structured settlement payment rights would be treated as investments and not an annuity, according to our source.
Evolution of Offshore Assignment Companies for Certain Types of Structured Settlement Transactions
IRC 72(u) Annuity Ownership | Non-Natural Person Rule
Generally, subject to IRC 72(u), income from an annuity owned by a non-natural person (e.g. trust, entity, corporation) does not qualify for the same favorable tax treatment as an annuity owned by an individual. IRC 72(u) was part of the Tax Reform Act of 1986 and was the result of Congressional belief that prior law gave companies the opportunity to fund large amounts of deferred compensation for selected employees on a discriminatory basis. This situation created a disincentive to provide employees qualified plans (which must follow ERISA guidelines [ see H.R. Rep. No. 426, 99th Cong., 1st Sess. 703 (1985); 1986–3 (Vol. 3) C.B. 703]
Structured settlements that were entered into prior to the Periodic Payment Settlement Act of 1982 were funded on a "buy and hold basis". Defendants or their insurers owned the annuities, were subject to taxes on investment income and retained the contingent liability on their books until the future obligation was complete. Arguably aspects of this were problematic for some plaintiffs, defendants and insurers. The plaintiff, as a general creditor had to have an ongoing relationship with the tortfeasor and had their future tied to the financial viability of the defendant or its insurer.
The Work Around to the Non Natural Person Rule | Periodic Payment Assignment
A work around to the non-natural person rule for settlements where damages were excludable under IRC 104(a)(2), was already in place in the Periodic Payment Settlement Act of 1982, which created IRC 130 and the so-called "qualified assignment". A qualified assignment creates a substitution of periodic payment obligors. The assignment company takes on a periodic payment obligation from the defendant or insurer in exchange for consideration, the plaintiff consents to the assignment and agrees to look only to the assignment company for the future payments. The defendant and/or its insurer, gets a novation and can take down its reserves as a paid loss. In the case of a qualified assignment the plaintiff can also obtain a security interest in the annuity contract. Generally qualified assignments are only possible on damages for physical injury, physical sickness, wrongful death and post August 5, 1997 worker's compensation.
Non Qualified Assignments
At the time a tremendous gap existed between structured settlement solutions that could be done for plaintiffs and defendants in settlements where damages where excludable from taxable income and those settlements that involved taxable damages. Some defendants or insurers do not want to carry a contingent liability on their books as opposed to having a closed file.
Setting aside contingent liability, the IRC 72(u) non-natural personal rule was a potential barrier due to the taxability of income from the annuity. There was less flexibility in what could be offered because income payments had to be substantially equal and begin within 13 months, while qualified structured settlements could have multiple periodic payment streams to address multiple needs.
SAFECO and Liberty Mutual were the Early Movers on Non Qualified Assignments
SAFECO offered a domestic non qualified assignment through its SAFECO National subsidiary, funded with annuities from SAFECO Life Insurance Company, now Symetra Life Insurance Company. The SAFECO National programs limitations meant that perioidc payments were restricted to being "substantially equal" and had to "begin within 13 months"
In or about 1996, Liberty Mutual introduced an innovative non qualified assignment program through Barco Assignments Ltd. Liberty Mutual initially used it as a alternative, more flexible method to settle its own worker's compensation liabilities prior to August 5, 1997 (when IRC 130 was amended to include worker's compensation). Liberty Mutual discovered that the Section 18 A2 of the Tax Treaty Between Barbados and the United States permitted the ownership of annuities to be taxed in the state of beneficial ownership. To wit, see excerpt immediately below:
"Annuities derived and beneficially owned by a resident of a Contracting State shall be taxable only in that State. The term "annuities" as used in this paragraph means a stated sum paid periodically at stated times during a specified number of years, under an obligation to make the payments in return for adequate and full consideration (other than services rendered)."
Liberty Mutual and BARCO subsequently expanded the scope of liabilities accepted by the non qualified facility and funded with annuities from Liberty Life Assurance Company of Boston. As it stands today the Liberty/BARCO Assignment program features a Notice of Financial Commitment from Liberty Life Assurance Company of Boston and a guarantee of Liberty Life Assurance Company of Boston by Liberty Mutual. It is critical to note that both Liberty Life Assurance Company of Boston and Liberty Mutual Insurance Company, which has existed since 1912, are insurance companies subject to the scrutiny of an annual audit by state insurance regulators in all 50 of the United States. The program is only offered through licensed insurance agents and brokers. who are subject to regulation of sales practices, audit and enforcement by the insurance commisoners in each state that they are licensed.
A healthy dose of skepticism was exhibited by a few Liberty Mutual competitors following the introduction of the BARCO non qualified assignment program, but it was not surprising that Allstate and Prudential entered the non qualified structured settlement market. Prudential's was a brief sojourn, it withdrew in 2009. Allstate aggressively and creatively expanded the application in 2011 to include structured oil & gas lease bonus, structured celebrity endorsement fees before withdrawing from structured settlelments altogether in March 2013, so it could focus on its core property casualty business.
Other Third Party and/or Structured Settlement Broker Driven Assignment Companies Spring Up
- Structured Assignments,Inc. (formerly TreasuryFunded Structured Settlements International or TFSS-I), offering treasury funded structured settlements and a structured attorney fee product called fee structured plus which marries the Structured Assignments Inc. deferred payment facilty with Vanguard mutual funds on the Midwest Trust advisor platform. While it was initially only available through IFS subsidiary companies the program has rolled out to a wider distribution in the last year.
- Kenmare Assignments Ltd., a deferred payment facility, domiciled in Ireland, started by several Chicago based settlement advisers, marries the Kenmare deferred payment facilty with investment Managers like Goldman Sachs, RBC and Morgan Stanley .
- Havelet Assignment Company, Barbados based non qualified assignment company, with $500,000 minimum. Participants select from a small stable of money managers and there is a private placement annuity wrapper.
- United States Periodic Payment Assignments, LLC (DE), started by a Buffalo based structured settlement broker in 2013. The company also advertises that it has a Barbados based assignment company. I have seen the brochure and heard that the company was offering a deferred payment mechanism for attorneys that would permit their own advisers to handle the investments and purportedy, structured attorney fees funded by structured settlement payment rights at the most recent AAJ meeting in Baltimore. I contacted Milestone's John Bair seeking to confirm this however, when I spoke with him, he refused to comment.
- This author understands that another primary market structured settlement broker is exploring a domicile for an assignment company in the United States Virgin Islands.
To the best of my knowledge, at this time few US based property and casualty insurers are participating in assignments to entities that do not use regulated insurance products or the SAI Treasury Funded Structured Settlement product. Moreover, there appears to be no life insurer issuing structured settlement annuities today, whose qualified or non qualified assignment company will accept a qualified or non qualified assignment from a single claimant QSF
Some Settlement Planners Not Concerned With IRC 130 or Structured Annuities
Settlement planners with their own assignment companies are left with a complex multi step process that first attempts to use qualified settlement funds to segregate the assets from the defendant or insurer and then enter into assignments from the qualified settlement fund. Some settlement planners I have spoken to seem unconcerned about IRC 130 since they intend to use non traditional products to solve the plaintiff's needs, including structured settlement payment rights [reminder that we've already established that structured settlement payment rights are not an annuity] One settlement adviser who is appointed by many of the life insurance companies that issue structured settlement annuity contracts was heard to be bashing structured settlements at a meeting of Pennsylvania Association for Justice, according to our source.
Innovation is great but the intellectual challenge comes with a cost and 7 figure investments have been already been made by multiple people at the time of writing who seek to change the paradigm. One participant has gone to incredible lengths to chase down everyting that could go wrong and will not make the facility available for rollout until satisfied. After an hour of intellectual stimulating conversation yesterday we both agreed that structured settlement payment rights are not annuities, they are an investment.
Some settlement planning solutions are taking on the air of a "flux capacitor", the fictitious heartbeat of energy "that made time travel possible" in the Back to the Future trilogy.
The devil IS in the details. What this means is that those who propose these non traditional solutions must be well schooled, properly licensed, regulated and insured, and not only be to identify and show an understanding of the risks, but be able to articulate them to clients and their advisors. In New York , for example the General Obligations Law Section 5-1702 expressly requires certain disclosures by the Defendant or the Defendant's legal representative to the plaintiff when a structured settlement is placed, there is no such obligation on the plaintiff adviser. A $1 million errors and policy limit will be woefully inadequate to cover the risks associated with these types of transactions, in my opinion.
In particular the use of structured settlement payment rights to finance structured attorney fees may involve a multi step process that includes a QSF, assignments to entities that have no regulated insurance company guaranteeing their performance, acquistion of structured settlement payment rights from unlicensed and, in some cases, unregistered companies, with the attendant risk of an excise tax on the investor, as settlement purchaser, if the deal is not done properly. Acquistion of rights from a third party needs careful vetting to be sure that there has been no illegal forum shopping or fraudulent approach to the seller. As I have previously written bribes are rampant in the structured settlement secondary market. If such has been the case where the structured settlement payment rights have been used to fund an attorney fee structure, how does the seller get their money back and how does that affect the tax status of the attorney?
To be continued...
Risks of Investing in Recycled Structured Settlement Payment Rights October 1, 2012
Factored Structured Settlements Come With Significant Risks | Atlanta Lawyer November 16, 2012
PLR Sought on Tax Status of "Recycled" Structured Settlements? April 2, 2012
Havelet Assignment Company
Havelet is an independently owned assignment company that provides periodic payment solutions to attorneys who wish to arrange the receipt of their contingency fees, personal injury or otherwise, in a tax-efficient manner.
Havelet also provides solutions to claimants who wish to arrange their qualified and non-qualified settlements in a tax-efficient manner.
Independent from any insurance company, Havelet has no conflicts of interest and is able to offer flexible and competitive structures utilizing a number of world class legal, tax, investment management and fiduciary counterparties including Withers Bergman, FGL Holdings, The Blackstone Group, and most major invesment firms and trust companies.
We offer flexible solutions and allow a variety of deferral and payment options to our clients. There is no upside limit on the account size and as Havelet satisfies IRS s72u, our clients may receive distributions before age 59 1/2 without penalty.
Havelet is not licensed to provide independent legal and tax advice however we have engaged outside counsel to opine on our strategies from both Havelet's and our client's perspective.