Tom Mahana tells his tale from a wheelchair in a remote hamlet of northern Washington State. He invested $131,000–about 75 percent of a legal settlement he got from a car accident that left him disabled–in a company called Personal Choice Opportunities.
PCO offered a return that was really too generous. But Mahana thought he had done his homework, going so far as to drive his specially-equipped van two days down the coast to Hollywood, Calif., in order to meet the company’s principals and escrow agents.
Finally convinced, he invested–and even talked others into doing the same. Now, through puffs of cigarette smoke, he rasps: “It was an outright fraud. I got hooked like a salmon.”
Mahana was far from alone. PCO collected a remarkable $91 million in a nine-month period, before regulators swooped in and shut the whole operation down. Some 1,600 investors, many of them elderly, await repayment as regulators liquidate the defunct Palm Springs, Calif., company, which once advertised “safe” 25 percent returns from the pages of Investors Business Daily and the Wall Street Journal.
The story of PCO is, perhaps, the most dramatic illustration of the risks investors face when they buy into the burgeoning “viatical settlement” industry. However, it is by no means the only example of viatical investments gone sour.
Viatical settlements are life insurance policies that are sold to investors much in the same way as a zero-coupon bond. Viaticals are sold at a discount, paying the face value when the investment “matures.” You figure your average annual return based on what you get at maturity, minus what you paid, roughly divided by the number of years it took to pay off. In this case, however, there is no set maturity date. The investment matures when the policyholder dies.
“They’re death futures,” says Barry Fisher, an attorney in Century City, Calif., who is acting as the receiver in the PCO bankruptcy. “You are betting on when somebody is going to die.”
The viatical settlement industry sprung up during the height of the AIDS crisis, when thousands of young gay men became too sick to work and quickly ran through all their other savings. Often, their last remaining asset was a life insurance policy, which struck them as cruel irony. Few had children or spouses that relied on them for financial support. In fact, the person who needed the death benefit most was the policyholder. He had to die to get it.
The solution: Sell the policy to an investor at a discount to the death benefit. In other words, if you owned a $100,000 policy, you might sell it for $70,000. You got money today, which was often desperately needed to help pay your living expenses and for your medical treatment. In return, the investor got paid the death benefit when you died. If you died quickly, the return could be generous.
It seemed the perfect combination of social responsibility and investment savvy, says Freda Ganem, a 67-year-old from Tucson. Ganem bought three viatical settlements after seeing a news magazine show interviewing an elderly cancer patient who claimed that money from the settlement had vastly improved the quality of her life.
But Ganem, who also talked several of her friends into investing, now believes that something is terribly wrong. Why? Her group of Arizona seniors bought about 15 policies among them, all supposedly on AIDS patients who had less than 18 months to live. Five years have gone by and not one of these AIDS patients has died.
Certainly, Ganem has heard about medical advances that have improved the survival chances of AIDS patients. But what are the odds that all of these terminally ill policyholders got cured, she asks?
“We just lost two great friends with AIDS. God knows that the miracle didn’t take place with them,” she says. “I have to tell you from the bottom of my heart that I believe this is a fraudulent game.”
Ganem did purchase a piece of a real policy. She is one of the few investors in this industry able to check. That’s because the company that sold her the policy, Life Partners of Waco, Texas, actually provides investors with the name of the “viator” (the ailing individual who sold his policy), the name of the company that insured him and the policy number. As a result, a Los Angeles Times reporter was able to reach the insurer on one policy and confirm that this individual does exist and does have an in-force policy. Technically, however, the policy is owned by Life Partners, which sells interests in it to individuals like Ganem and her friends.
“It sounds to me like they have elected to purchase policies on people who just happened to beat the odds,” says R. Scott Peden, vice president and general counsel of Life Partners. “In the big scheme of things, folks normally die early or on time. But it is a natural process. There is nothing we can do to hasten the death of the insured, which would enhance the value of the investment.”
It was impossible to check on the existence of the other two policies that Ganem owns, though. The insurer, UNUM Insurance in Portland, Maine, believes insurance privacy statutes preclude the company from divulging any information about policyholders–including whether or not they’re policyholders. That leaves some viatical investors in the uncomfortable position of not being able to directly check on their investment.
In fact, the bulk of viatical investors are in this position for a simple reason: Privacy and protection of the policyholder.
Most viatical settlement companies have erected firewalls between policyholders and investors purportedly in an effort to protect the privacy (and even the lives) of policyholders from impatient investors. However, because of the fact that some key details of the deal–usually, the name of the policyholder–are kept secret, many viatical investors simply can’t know whether they’ve purchased a real investment or simply bought attractively packaged pieces of a Ponzi scheme.
Such was the case with Personal Choice Opportunities, says Mahana.
Three years ago, Mahana saw an advertisement in Investors Business Daily that promised guaranteed returns ranging from 21 percent to 25 percent. He called the toll-free phone number and got a smooth and compelling explanation about why this investment was so safe yet so high-yielding.
They sent him brochures. They told him about life insurance guarantee funds, which ensured that death benefits were paid even if an insurance company failed. They supplied him with information about a doctor who verified all the terminal illness diagnoses for the company. And they told Mahana how they secured the whole operation by having an escrow company handle the money and verify the insurance policies.
There was just one thing that they couldn’t tell him, Mahana says: That’s who was insured. Naturally, the identities of the policyholders had to be kept secret to protect their privacy.
Mahana checked everything else. Not only did he drive out to meet the principals of the company, he called insurance regulators; the escrow company and escrow regulators; he called the Nevada medical regulators to make sure there was no negative information logged about PCO’s doctor; he called the bar association to ensure that the company’s attorneys were all licensed and in good standing. He even called local chambers of commerce, which had apparently worked with some of the PCO principals in the past.
“I did everything that a non-professional investor could do to check things out,” he says. “I thought I had everybody working for me–a doctor, two attorneys, an escrow. And I know that viaticals are backed by insurance and insurance is as secure as you can get. Since the money, in the meantime, was supposed to be held in escrow, I thought I can’t lose.”
But the facts that Mahana couldn’t check–the specifics of the policyholders and policies that were being sold to PCO–turned out to be the pivotal ones: In reality, there were no policyholders and no policies. The whole operation was a massive, fast-moving scam, according to court documents filed in Los Angeles and New York, where many of PCO’s principals were indicted.
Could Mahana have done more to discover the scam before he invested? Perhaps, says attorney Fisher. Some of the PCO principals had criminal records. But who would have imagined that so many professionals would have conspired to defraud investors? Mahana sighs. “I can’t think of somebody that I didn’t call looking for a red flag. I had extreme faith in this program.’
