What is “stranger originated life insurance” (STOLI) and why has it been in the news of late?
Stranger originated life insurance (STOLI) refers to a situation in which a third party without an insurable interest in a prospective insured convinces that person to purchase a life insurance policy. Once purchased, the third party, “stranger,” becomes the policyowner and beneficiary of the policy. The stranger pays or finances the policy premiums for much or all of the two year contestability period and then attempts to sell the policy in a secondary market life settlement transaction for a profit. When the policy is sold, a portion of the profit is shared with the insured. These transactions are more common than you might imagine. When these transactions are discovered by the insurance companies, they are investigated (A) for fraud at the time of application, and (B) death benefit payments are withheld because the policyowner did not have an insurable interest in the insured, (e.g. the policyowner is not a relative, employer or trust related to the insured), a requirement under law
