According the FCIC report, in the late 90s, AIG leveraged its superior credit rating—its “most valuable asset”—to branch out beyond standard insurance products and become a major over-the-counter derivatives dealer. Through its subsidiary AIG Financial Products, AIG eventually amassed a derivatives portfolio with $2.7 trillion in notional value.

A significant portion of AIG’s derivatives business was devoted to credit default swaps (CDS’s) that “insured” debt held by financial firms and institutional investors. A CDS is a contract under which the party writing the CDS agrees to reimburse the party purchasing protection if there is a default on the underlying debt. In exchange, the party purchasing protection makes a series of payments to the issuer of the CDS—essentially premium payments.

AIG’s credit protection business grew rapidly, swelling from $20 billion in 2002 to $211 billion in 2005 and $533 billion in 2007.

Although insurance policies and CDS’s are similar, crucial differences between the two played a critical role in the crisis. An insurance company is obligated to set aside reserves to balance against potential losses; but a credit default swap, not being an insurance policy, is not subject to a reserve requirement. As a result, AIG was not required to put up collateral when it issued hundreds of billions in CDS’s. What the company did do, however, was promise to post collateral if its credit rating was downgraded.

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Federal interference in the regulation of the insurance industry could be around the corner, but the states are not going to cede their authority without a fight.

State legislators fear that “important funds and jobs could be lost if Congress authorizes a federal insurance charter and creates a new bureaucracy to regulate insurance.” According to a letter sent by NCOIL (The National Conference of Insurance Legislators) to every member of the 112th Congress, a federal insurance charter could cost states as much as $16 billion in revenue annually—representing lost fees and taxes generated for the states by insurance business. ….

Although the FIO itself is not given regulatory authority by the Wall Street Reform Act, the studies mandated by the Act may signal that the Feds are interested in expanding their reach into the insurance industry. And, it would be naïve to think that the FIO studies will find that federal regulation of insurance companies is absolutely unnecessary—given the role of insurance companies like AIG in the financial crisis.  Read this complete analysis of the impact at AdvisorFX (sign up for a free trial subscription with full access to all of the planning libraries and client presentations if you are not already a subscriber).

For previous coverage of the Federal Insurance Office in Advisor’s Journal, see The Federal Insurance Office (CC 10-55).

For as long as life insurance has existed, con artists and murderers have sought payouts from policies on the lives of their victims. Tomisue Hilbert, wife of insurance giant Conseco, Inc.’s founder Stephen Hilbert, suspects that her mother, Suzy Tomlinson, was a victim of one such schemer.

She looks to hold AIG responsible for her mother’s untimely death, believing that a high-value policy issued by American General (an AIG subsidiary) on her mother’s life was the impetus behind a scheme that ended with her mother’s death.  The life insurance policy at issue in the case is a $15 million policy on Tomlinson’s life naming Indiana businessman J.B. Carlson as its beneficiary. Policy premiums were paid with premium financing.

On September 29, 2008, Suzy Tomlinson drowned in her bathtub, fully clothed, after a night of drinking. Tomlinson’s death occurred right before a $1.27 million payment was due on the premium finance loan. Tomisue Hilbert’s lawsuit notes the fortuitous timing—for Carlson—of her mother’s death, Carlson’s debts of $5.9 million and the fact that Carlson may have been the last person to see her mother alive.

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