By Stephen C. Baker, Katherine Villanueva, Nolan B. Tully and Leslie J. Coletti
On August 28, 2013, the Dallas Court of Appeals ruled that investments in life settlements sold by Life Partners, Inc. (Life Partners) are “investment contracts” and therefore subject to the Texas Securities Act (TSA). In doing so, the court departed from decisions of the Waco Court of Appeals and the D.C. Circuit, which have deemed such investments not subject to securities regulations.
In Arnold v. Life Partners, Inc., the plaintiffs, who invested in life settlements, alleged that Life Partners’ life settlements were “investment contracts” and therefore securities requiring compliance with the TSA. Because Life Partners had not complied with the TSA, the plaintiffs argued they were entitled to rescission or damages. The Dallas Court of Appeals agreed.
The court applied a four-factor test in concluding that the settlements constituted securities. According to the court, a security transaction must exhibit: (1) an investment of money; (2) in a common enterprise; (3) with an expectation of profit; (4) solely from the efforts of others. In applying these four factors to the settlements at issue in Arnold, the court focused on the fourth factor – whether profits were acquired from the efforts of others.
The court recognized that other courts have deemed the profitability of the interests in life settlements as dependent on the insureds’ mortality, not the efforts of others. But the court concluded otherwise and found that the profits depended on the efforts of Life Partners. The Arnold court noted Life Partners’ control over and expertise in selecting policies, measuring life expectancies, determining prices, and overseeing the policies’ in-force statuses. The court explained that “[t]he efforts of Life Partners are undeniably significant ones which affected the success or failure of the enterprise.” Although the TSA excludes from the definition of “security” insurance policies issued by life insurance companies, the court stated there was “no evidence Life Partners was such a company” – even if the products at issue were insurance policies. The court further noted decisions in Arizona, Colorado, Indiana, Georgia, and the Eleventh Circuit as interpreting securities laws to include life settlements.