Stranger-Originated Life Insurance (STOLI)

Stranger-originated life insurance schemes emerged as a significant industry concern in the early 2000s and prompted a strong regulatory response from state insurance commissioners, the National Association of Insurance Commissioners (NAIC), and the life insurance industry. The basic structure involves a promoter approaching elderly individuals — often seniors in their 70s or 80s — with an offer to receive cash or other compensation in exchange for applying for a large life insurance policy, with the understanding that ownership of the policy will be transferred or assigned to the promoter or investors after the contestability period (typically two years) expires.

The legal principle underlying the objection to STOLI is the insurable interest doctrine, which requires that the person or entity purchasing life insurance must have a legitimate interest in the continued life of the insured — meaning the owner would suffer an economic or emotional loss upon the insured's death. Insurable interest prevents life insurance from being used as a speculative instrument, akin to a wager on the timing of a person's death. Life insurance issued without a legitimate insurable interest at inception has historically been treated as void as a matter of public policy in most U.S. jurisdictions.

STOLI arrangements attempt to circumvent the insurable interest requirement by exploiting the two-year contestability window. Under most state laws, an insurer must contest a policy's validity within two years of issue or generally loses the right to deny a claim on most grounds. STOLI promoters structured transactions to maintain the appearance of legitimate ownership during the contestability period, then transfer or sell the policy into the life settlement market after that window closes.

State insurance regulators responded aggressively, with most states enacting specific STOLI prohibition statutes or amending their insurable interest laws to include a five-year or longer holding period requirement before a policy can be sold to a party lacking an insurable interest. The NAIC also adopted model legislation addressing STOLI and life settlement transactions more broadly. Courts in various states have ruled that STOLI-tainted policies are void ab initio (from inception), and insurers have successfully denied claims on policies identified as STOLI through post-claim investigation.

Legitimate life settlements — where a policyholder sells a policy they no longer need to an investor for more than the cash surrender value — are distinct from STOLI and are regulated in most states through life settlement licensing requirements. The key distinction is that a legitimate life settlement originates with an insurable interest at inception and the owner independently decides to sell a policy they genuinely owned for personal reasons, whereas STOLI involves a third party orchestrating the issuance of insurance without a genuine insurable interest from the start.