34 Willamette L Rev

Willamette Law Review

Spring, 1998

34 Willamette L. Rev. 357

Comment: Why Viatical Settlements Constitute Investment Contracts

Within the Meaning of the 1933 and 1934 Securities Acts

Dave Luxenberg *

* Third-Year Student, Willamette University College of Law. Mr. Luxenberg received his J.D. in 1998 from Willamette University College of Law.

I. Introduction

Shortly after Rosemary Paul retired, her doctors diagnosed her with Lou Gehrig's disease. Rosemary realized she would incur enormous medical expenses. To exacerbate the problem, Rosemary did not have health insurance. She feared her treatment would exhaust her and her husband's lifetime savings. However, Rosemary discovered a potential solution for people in her situation: a controversial investment known as a viatical settlement. n1

A viatical settlement is an investment in which an "investor acquires an interest in the life insurance policy of a terminally ill person, typically an AIDS victim, at a discount... depending upon the insured's life expectancy." n2 After an insured terminally ill person dies, the investor receives a portion of the insurance proceeds. n3

The viatical settlement industry began in the latter half of the 1980s. n4 The primary stimulus for its development was the AIDS epidemic that developed in the western part of the United States in 1988. n5 Since its inception, the viatical settlement industry has been embroiled in various controversies. These controversies revolve around the ethical and moral issue of profiting from another person's death, n6 and whether the sale of viatical [*359] settlements constitutes the sale of insurance policies n7 or securities. n8 This Comment focuses on the controversy surrounding whether the sale of viatical settlements constitutes the sale of securities and thus is subject to federal securities regulations. n9

This Comment begins by defining and describing the burgeoning viatical settlement industry. The remainder of the Comment establishes why viatical settlements fall within the definition of an "investment contract," n10 notwithstanding a D.C. Circuit case that arrived at the opposite conclusion. n11

II.

Defining a Viatical Settlement

The word "viatical" stems from the Latin word "viaticum." n12 In ancient Rome, a viaticum consisted of money or supplies given to a traveler embarking on an arduous journey. n13 Today, the term "viatical settlement contract" n14 describes a transaction [*360] in which a terminally ill person, known as a "viator," n15 assigns his or her life insurance policy to a "viatical settlement provider" n16 in exchange for a lump sum payment. The "viatical settlement" is the actual payment the viator receives. n17 These investments provide terminally ill persons with a mechanism for receiving the majority of their life insurance proceeds before their death. n18

Types of Viatical Settlement Companies n19

There are basically two types of viatical settlement companies. n20 The first type buys life insurance policies directly from terminally ill people, using either private funds or money received through the sale of company stock. n21 These companies themselves hold all the rights to the insurance policy and act as the designated beneficiary of the policy. n22 The viatical settlement industry deems these transactions "nonbrokered" because the viatical settlement provider purchases the policies directly. n23

The second type of viatical settlement company acts as a middle person or broker who matches a group of potential buyers with a life insurance policy available for sale, rather than directly purchasing the policy itself. n24 The majority of companies [*361] in the viatical settlement industry fall into this second category; n25 this Comment focuses primarily on these types of transactions. The viatical settlement industry refers to these transactions as "brokered viatical settlements." n26 The broker does not own the insurance policy. n27 Instead, the settlement contract typically entitles the broker to a percentage of the death benefit, usually four to six percent, as compensation for its services. n28

Viatical settlement brokers may sell the insurance policies to groups of investors directly, or to a "funding company." n29 The relationship between brokers and funding companies is problematic because brokers may strive to sell the policy to the company that pays the largest commissions, rather than the company who will offer a viator the highest price for the policy. n30 In more egregious cases, brokers may actually work for the funding company. n31 In either situation, a patent conflict of interest exists between the broker of the viatical settlement and the viator's economic well-being. Moreover, the potential for unfair practices lends credence to the notion that Congress should regulate viatical settlements as securities because securities are subject to federal legislation that protects investors from inequitable or fraudulent practices in the purchase or sale of securities. n32 Further, many viators are unaware of the distinction between a "broker" and a "funding company" and thereby cannot assess for themselves whether the entity they are dealing with possesses any potential conflicts of interest. n33

The Mechanics of the Sale of Viatical Settlements

Viatical settlement companies usually purchase life insurance policies only from individuals whose life expectancy is less [*362] than two years. n34 Before a viatical settlement company purchases a policy from a viator in a brokered transaction, it certifies the terminally ill person's medical condition. n35 Then, if the viatical settlement company chooses to purchase the policy, the viator assigns the policy to either a group of investors or the viatical company itself, depending on whether the transaction is brokered or nonbrokered. The assignee subsequently assumes responsibility for the payment of the policy's monthly premiums. n36 Next, the purchasers name themselves as the beneficiaries of the policy and receive the full face value of the policy when the insured dies. n37

The amount of money the terminally ill person receives for his or her life insurance policy from the viatical settlement company is inversely proportional to their life expectancy. n38 Viators usually receive between fifty and ninety percent of the full value of their policy. n39 The shorter the viator's life expectancy, the higher percentage of the policy's full value the viatical settlement provider is willing to pay. n40 Investors derive their profit from the "difference between the discounted purchase price paid to the insured and the death benefit collected from the insurer, less transaction costs, premiums paid, and other administrative expenses." n41 Put bluntly, the investors' rate of return increases in proportion to the amount of time by which a viator falls short of his or her life expectancy. n42

Viatical settlement brokers perform numerous functions when facilitating the sale of the viator's ownership rights in their life insurance policy to a group of independent investors. n43 These functions include, but are not limited to: certifying the seller's medical condition by gathering medical affidavits and records from the seller's doctors and arranging for and reviewing an independent medical examination; pricing the assignment of [*363] the viator's insurance policy; and presenting the fixed purchase price to the viator. n44 Persons investing in a viatical settlement rely completely on the broker to calculate accurately the purchase price for the policy, "thereby relieving the buyer of the responsibility of acquiring and mastering the specialized medical, actuarial, and financial information needed to assess a particular policy's market value." n45

If a viator's capacity to contract is questionable, brokers can request a psychiatric evaluation of the viator. n46 Viatical settle-ment companies also must obtain written releases and consents to the transfer from the person or persons previously named as beneficiaries of the policy. n47 The total process is lengthy and in many cases takes up to four months for the viator to actually receive the check for his or her policy. n48

Current Regulation of the Viatical Settlement Industry

There is no uniform federal regulation of the viatical settlement industry. n49 California was the first state to pass a statute regulating viatical settlements, n50 but California's statute focuses solely on the insurance aspect of viatical settlements and fails to address the securities issue. n51 The National Association of Insurance Commissioners (N.A.I.C), which helps regulate the insurance industry, followed California's lead and promulgated the Viatical Settlements Model Act n52 on September 18, 1994. n53 [*364] However, fewer than one-third of the states adopted the Viatical Settlements Model Act, or similar legislation, and none of these states addressed the securities aspect. n54

III.

Why a Viatical Settlement Should Constitute the Sale of an Investment Contract and Thus the Sale of a Security

Defininition of an Investment Contract

In the landmark case S.E.C. v. Howey, n55 the United States Supreme Court defined an investment contract as:

[A] contract, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party, it being immaterial whether the shares in the enterprise are evidenced by formal certificates or by nominal interests in the physical assets employed in the enterprise. n56

In Howey, the court determined that the test for an investment contract contains the following three prongs: (1) an investment of money with the expectation of profit, n57 (2) in a common enterprise, (3) solely from the efforts of others. n58 The remainder of this part analyzes the application of the second and third prongs of the Howey investment contract test.

[*365] Regarding the second prong of the Howey test, either horizontal or vertical commonality can satisfy the requirement of a "common enterprise." n59 Vertical commonality exists when investor profits depend on the promoter's expertise. n60 A typical manifestation of vertical commonality is an arrangement wherein investors share a percentage of their profits basis with the promoter of the investment. n61 Vertical commonality does not re-quire multiple investors. n62

There are two types of vertical commonality, narrow and broad. n63 Both types focus on the relationship between the individual investor and the promoter. n64 "Narrow" vertical commonality requires that the "success or failure of the investor [exactly] mirror the success of the promoter." n65 "Broad" vertical commonality mandates that the success of the investor depend on the efforts of the promoter. n66

In contrast, horizontal commonality focuses on the relationships between the individual investors. n67 Horizontal commonality generally exists when multiple investors pool their funds to participate in an investment. n68 Horizontal commonality consists of three elements: (1) pooling of investors' resources; (2) profit sharing among the investors; and (3) loss sharing among the investors. n69

The federal appellate courts disagree about whether the appropriate test for a common enterprise is horizontal or vertical commonality. n70 Some circuits adopted horizontal commonality as the proper test for a common enterprise. n71 Conversely, other [*366] circuits adopted vertical commonality. n72 In Mordaunt v. Incom-co, n73 the United States Supreme Court declined to decide whether vertical or horizontal commonality, or both, satisfies the common enterprise requirement of the Howey test. n74

Subsequent case law liberalized the third prong of the Howey investment contract test by replacing the phrase "solely from the efforts of others" with "the essential managerial efforts which affect the failure or success of the enterprise." n75 In S.E.C. v. Glenn W. Turner Enterprises, n76 the Ninth Circuit Court of Appeals stated that insisting investors earn their profits solely from others' efforts would result in a mechanical and unduly restrictive view of what constitutes an investment contract. n77 More-over, the Glenn Turner court feared that a literal interpretation of the third prong of the Howey test could provide a promoter or company with a potential loophole to avoid regulation as a security by simply requiring investors to make trivial contributions to the management of the investment. n78 For example, if a promoter required an investor to lick the envelopes the promoter used to mail out information regarding the investment, the promoter might argue the investor did not receive his or her profit "solely from the efforts of others." n79 As a result, Glenn Turner liberalized the third prong of the Howey test and "adopted a more realistic test...." n80

[*367]

Regulation of Investment Contracts as Securities

Transactions classified as investment contracts fall within the definition of a security under both the Securities Act of 1933 (1933 Act) and the Securities Exchange Act of 1934 (1934 Act). n81 As a result, a seller or promoter of an investment contract must file a registration statement as a seller of securities with the Securities Exchange Commission (S.E.C.) n82 In addition, the 1934 Act mandates that a registered seller of securities file an annual report with the S.E.C. and disclose various other documents. n83 This oversight is beneficial because it provides investors with the information they need to make more informed decisions regarding the purchase and sale of securities.

Section 10(b) of the 1934 Act prohibits the use of manipulative or deceptive devices in connection with the purchase or sale of any security. n84 This provision empowers the S.E.C. to promulgate rules and regulations to prevent manipulative or deceptive practices. n85 Pursuant to this authority delegated by Congress, the S.E.C. promulgated Rule 10b-5, which strictly regulates the sale of securities. n86 Therefore, important regulatory [*368] implications occur if investment contracts fall under the auspices of federal securities legislation. n87

Why Viatical Settlements Constitute Investment Contracts

The D.C. Circuit Court of Appeals n88 and one academic commentator n89 have stated that viatical settlements do not constitute investment contracts and thus are not subject to federal securities regulations. The remainder of this Comment demonstrates that this conclusion is erroneous and in contravention of Congress' explicit mandate to apply the securities laws in a liberal, remedial fashion to protect those involved in the purchase and sale of securities.

Viatical Settlements Meet the Three-Prong Investment Contract Test Formulated in S.E.C. v. Howey

A brokered viatical settlement meets the three-prong test for an investment contract formulated in Howey. n90 Investors in viatical settlements clearly invest their money with reasonable expectations of profit, thereby satisfying the first prong of the Howey test. n91 A careful analysis of the second prong, the common enterprise requirement, reveals that viatical settlements satisfy the requirements of both broad vertical and horizontal commonality.

The three elements necessary to establish horizontal commonality are: (1) a pooling of the investors' resources; (2) sharing of profits among the investors; and (3) a sharing of losses among the investors. n92 In brokered viatical settlements, investors [*369] pool their resources in order to purchase the entire insurance policy. Individual investors may purchase a small or large percentage of the policy. Regardless of the percentage of the policy individual investors own, the fundamental point is that in brokered viatical settlements the broker "brings together multiple investors and aggregates their funds to purchase the death benefits of an insurance policy." n93 This aggregation of funds and the resultant interdependency of the investors meets the Howey requirement of pooling. n94

The second and third elements of horizontal commonality, sharing of profits and sharing of losses, are really two sides of the same coin and obviously do not apply at the same time. The date of the viator's death determines whether the investors make or lose money. If the viator "dies in a relatively short time, then the investors realize profits," thereby fulfilling the Howey requirement of a sharing of profits. n95 On the other hand, if the viator "lives a relatively long time, then the investors may lose money," thereby satisfying the Howey requirement of a sharing of losses. n96 Consequently, the investors in a brokered viatical settlement possess the requisite horizontal commonality to constitute an investment contract. n97

Investors in brokered viatical settlements also possess broad vertical commonality because their profits depend largely on the promoter's expertise. The investors rely on the promoter to perform a panoply of functions. n98 One of the most important functions is the calculation of complex medical, financial, and actuarial information to determine the viator's life expectancy and arrive at a purchase price for the insurance policy. n99 If the promoter fails to compile and analyze this information accurately, the investors stand to lose money on their investment. n100 Moreo [*370] ver, the investors rely on the promoter from the beginning of the transaction until its conclusion, when the viator dies and they receive their percentage of the insurance policy. n101 Because the investors depend on the promoter's expertise in a variety of capacities, viatical settlements satisfy the requirement of broad vertical commonality.

The final prong of the Howey test is that investors' profits must be derived from the essential management efforts of others. n102 A brokered viatical settlement satisfies this prong because investors contribute no significant managerial efforts and rely totally on the promoter throughout the entire investment. Investors simply pay for a percentage of the viator's insurance policy and await the viator's death. Thus, the investor does not contribute any essential management efforts of the investment. According to the S.E.C., viatical settlements meet the third prong of the Howey test because investors in viatical settlements are essentially passive. n103 Moreover, some promoters implicitly recognize that the sale of a brokered viatical settlement does satisfy all three prongs of the Howey test and consequently register with the S.E.C. as a seller of securities. n104

The following catalogue illustrates the investors' complete reliance upon the promoter. The essential management services the promoter performs in conjunction with the viatical settlement include marketing the investment, finding terminally ill people who wish to sell their life insurance policies, determining which policies investors should purchase, conducting a medical (and possibly a psychological) examination of the insured, determining the insured's life expectancy, n105 compiling and calculating complex medical, financial, and actuarial data to arrive at a purchase price for the insured's policy, negotiating the pur [*371] chase price with the insured, assembling investors to purchase the policy, monitoring the insured's health, and dispensing checks to investors after the insured's death. n106 In addition, the viatical settlement company might even perform controversial services on behalf of its investors, such as attempting to prevent viators from receiving palliative treatments designed solely to prolong life, rather than cure their illness, and attempting to prevent viators from receiving extraordinary or experimental medical treatments. n107

The D.C. Circuit Court of Appeals' Distinction Between Pre- Purchase and Post-Purchase Services is Erroneous

In S.E.C. v. Life Partners, n108 the D.C. Circuit Court of Appeals concluded that viatical settlements do not satisfy the essential management efforts prong of the Howey test and thus are not investment contracts. n109 The viatical settlement company in this case, LPI, received roughly ten percent of the purchase price of the insurance policy as compensation for its services as a broker. n110 LPI sold fractional interests in viators' insurance policies to groups of investors. n111 All the investors shared in the subsequent profits or losses of the investment. n112 As an inducement to potential investors, LPI emphasized in its promotional materials its expertise in the viatical settlement industry, particularly in regard to its detailed assessment of the viator's medical condition to accurately calculate his or her life expectancy. n113 The court found the sale of these viatical settlements satisfied the first two prongs of the Howey test. n114

[*372] Regarding the third prong of the Howey test, the majority in Life Partners drew a distinction between the pre-purchase and post-purchase services provided by the promoter. n115 The court held that a viatical settlement company must perform significant post-purchase services in order to establish the fact that the investor's profits flowed predominantly from the essential management efforts of others. n116

This "bright-line" distinction between pre- and post-pur-chase services is both unfounded and overly formalistic in light of the plain language of the Howey test and the clear statutory purpose of the 1933 and 1934 Acts, both of which seek to protect investors from misrepresentation and fraud. n117 The dissenting opinion in Life Partners correctly asserts that the common law does not support the majority's distinction between a promoter's pre- and post-purchase services. n118 Further, the United States Supreme Court has held that investors need full disclosure throughout the process, including pre-purchase protection. n119

Congress promulgated comprehensive securities regulatory legislation in the aftermath of the stock market crash of 1929. n120 The legislative intent behind these laws, which regulate the sale of investment contracts and other forms of securities, is explicit. The drafters of the statutes sought to compel full and fair disclo [*373] sure in the issuance of the various types of securities. n121 Congress wanted to eliminate the abuses of the nation's financial market that had occurred prior to the stock market crash. n122 In addition, Congress strived "to substitute a philosophy of full disclosure for the philosophy of caveat emptor and thus achieve a high standard of business ethics in the securities industry." n123

The disclosure requirements of the Securities Acts seek to prevent unscrupulous and unethical behavior during the sale or purchase of securities. n124 Thus, the 1933 and 1934 Acts "embody the belief that information is the most important form of investor protection." n125 In order to achieve these goals, Congress drafted the Securities Acts to represent "a flexible rather than a static principle, one that is capable of adaptation to meet the countless and variable schemes devised by those who seek the use of the money of others on the promise of profits." n126

When analyzing the third prong of the Howey test, courts should adhere to the United States Supreme Court's mandate that ""a thing may be within the letter of the statute and yet not within the statute, because [it is] not within its spirit, nor within [*374] the intention of its makers.'" n127 Moreover, when interpreting the Securities Acts, a court should not bind itself by legal formalisms, but rather should analyze the underlying economics of the transaction at issue. n128 In summary, to remain consistent with the Congressional intent to provide investors with an umbrella of protection, courts should apply the Howey test liberally for investment contracts. n129

The laws governing the regulation of securities are remedial in nature. n130 A familiar canon of statutory construction states: "remedial legislation should be construed broadly to effectuate its purposes." n131 Furthermore, a long line of case law mandates that when a court determines whether a particular investment constitutes a security, it should disregard form and place emphasis on substance and economic reality. n132 Thus, a court should look beyond any label the promoters place on the investment and analyze the pragmatic effects of the investment's actual operation and management.

A literal application of the Howey test would frustrate the remedial purposes of the Securities Acts. n133 In order to comply with the purposes of the Acts, courts must use a functional application of the Howey test. n134 However, when the majority in Life Partners drew a distinction between pre- and post-purchase services, it placed a greater importance on the form of the investment than on its function and substance, thereby undermining the United States Supreme Court's announced policy regarding securities regulation. n135

The Ninth Circuit Court of Appeals applied a functional approach when it stated:

[*375]

The reach of the Securities Acts does not stop with the obvious and common place. Novel, uncommon, or irregular devices, whatever they appear to be, are also reached if it be proved as a matter of fact that they were widely offered or dealt in under terms or courses of dealing which established their character in commerce as "investment contracts," or as "any interest or instrument commonly known as a "securi-ty.'" n136

Viatical settlement contracts are exactly the type of "novel, uncommon, or irregular devices" the Ninth Circuit described. They are schemes that are not easily anticipated, and they are offered widely in American commerce under terms that fulfill the requirements of an investment contract. n137 In summary, a review of the case law after the 1945 Howey decision illustrates that courts have construed the definition of a security or investment contract broadly to protect investors and to comply with the legislative intent underlying securities regulation. As a result, the Life Partners decision is a maverick and should be afforded minimal precedential value.

As argued by the S.E.C. and supported by the dissenting opinion in Life Partners, distinguishing between pre- and post-purchase activities creates a loophole in securities regulation that promoters could exploit and circumvents the entire purpose of the securities legislation. n138 An unscrupulous promoter easily could take advantage of this loophole by performing the majority of its managerial services around the time of investment. Despite the fact that a promoter's activities would satisfy all three prongs of the Howey test, the majority's opinion in Life Partners would allow him or her to avoid federal securities regulations because he or she did not perform significant post-purchase services.

While the S.E.C.'s position that viatical settlements constitute securities is not conclusive, a court reviewing any S.E.C. determination should afford it "substantial weight." n139 Taking into [*376] account the S.E.C.'s view and the public policy behind the 1934 Act, the crucial determination regarding the third prong of the Howey test is whether the investor relied on the promoter's essential management efforts, not whether the viatical settlement company provides post-purchase services. Irrespective of post-purchase services, a brokered viatical settlement should satisfy the third prong of the Howey test if the promoter's essential management efforts largely determine whether the investors realize a profit. n140 This analysis preserves the necessary flexibility that Congress intended to encompass within federal securities legislation. n141

A review of the relevant common law buttresses the proposition that the existence of post-purchase services, or lack thereof, is not dispositive in determining whether an investor relied on the promoter's essential management efforts. For example, in S.E.C. v. Brigadoon Scotch Distributors, Ltd., n142 a New York district court held that a company's sale of rare coins to investors constituted the sale of investment contracts. n143 The investors in Brigadoon relied on the company's expertise in selecting the coins but possessed no further obligation to subscribe to any post-purchase services the company provided. n144 Moreover, the court found it irrelevant whether any of the company's post-purchase services affected the value or price of the coins. n145 The court explicitly stated, "Coins do not appreciate in value at the same rate and accordingly their selection is the most crucial factor in determining how much profit an investor in coins will make." n146 Thus, the majority in Brigadoon deemed the selection of the coins by the promoter (a pre-purchase activity) to be the dispositive factor in determining whether the sale of the coins constituted the sale of an investment contract.

Brigadoon is analogous to Life Partners because the investors in Life Partners relied on the promoter to select viators [*377] whose life expectancies were such that the purchase of their life insurance policies would prove profitable. n147 Like Brigadoon, it was the promoter's selection of the policy that determined whether the investors would earn a profit in Life Partners. n148 The holding in Brigadoon "is consistent with the steady judicial widening of the meaning... and reach of the securities laws in general." n149 The majority in Life Partners should have followed suit.

Williamson v. Tucker n150 also lends credence to the proposition that the crucial question in determining whether the sale of a viatical settlement constitutes an investment contract is the investor's reliance on the promoter's essential management efforts as a whole, rather than whether the promoter provides significant post-purchase services. n151 In Williamson, the court held that a general partnership or joint venture interest may constitute a security if

(1) an agreement among the parties leaves so little power in the hands of the partner or venturer that the arrangement in fact distributes power as would a limited partnership; or (2) the partner or venturer is so inexperienced and unknowledgeable in business affairs that he is incapable of intelligently exercising partnership or venture powers; or (3) the partner or venturer is so dependent on some unique entrepreneurial or managerial ability of the promoter that he cannot replace the manager of the enterprise or otherwise exercise meaningful partnership or venture powers. n152

Thus, the Fifth Circuit Court of Appeals held that a joint venture interest could constitute a security and therefore reversed and remanded the district court's decision to dismiss the case. n153

Williamson is analogous to Life Partners because a person who invests in a viatical settlement possesses no actual control over the running of the viatical settlement company. To the contrary, the investor simply relies on the expertise of the viatical settlement company to predict the insured's life expectancy accurately and to negotiate a profitable purchase price for the pol [*378] icy. These investors are equivalent to "partners" in a business who possess no actual control over the business and rely on the essential management efforts of others. Rather than drawing a formalistic and bright-line distinction, the court in Williamson emphasized the substance of the investment, rather than its form, as the court in Life Partners should have done. n154

Williamson and Brigadoon represent the numerous cases in which courts flexibly applied the Howey test to achieve the remedial purpose of the 1933 and 1934 Acts. The Tenth Circuit Court of Appeals provided an excellent summary of the common law's application of the Howey Test when it stated: "In following this flexible approach, interests in a real estate venture, fractional interests in oil and gas leases, and even contracts for the purchase and maintenance of live beavers have been held, in particular factual contexts, to be securities." n155 The following review of pertinent case law illustrates that most courts, when applying the Howey test for investment contracts, do not rely on bright-line tests, such as the distinction between pre- and post-purchase services. Instead, most courts seek to apply all prongs of the Howey test flexibly in order to comply with the congressional intent behind the Securities Acts.

In Bailey v. J.W.K. Properties, Inc., n156 the Court of Appeals for the Fourth Circuit held that the sale of interests in a cattle breeding program constituted the sale of an investment contract. n157 The enterprise in question, as in Life Partners, required participation of multiple investors with coordination by one entity, i.e., the promoter. n158 The court held that this enterprise was an investment contract because the investors, like the investors in Life Partners, possessed no actual control "over the ultimate success or failure of their investment." n159 Nowhere within the [*379] Bailey opinion did the court state that the distinction between pre- and post-purchase services determined whether the transaction constituted an investment contract. To the contrary, the court expressly stated that it considered "the practical limitations faced by the [investors] given their lack of expertise and experience in this area and the need for coordination between investors" as determinative. n160

In Gary Plastic Packaging Corp. v. Merrill Lynch, Pierce, Fenner, & Smith, Inc., n161 the Court of Appeals for the Second Circuit held that Merrill Lynch's program to sell bank certificates of deposit satisfied the Howey test for investment contracts. n162 This case is clearly analogous to Life Partners. The court stated that investors in this program relied on the efforts, knowledge, and skill of the promoter. n163 Further, the court specifically found that a significant portion of the customer's return on his or her investment depended on the promoter's managerial and financial expertise. n164

Notably absent from the court's analysis was a distinction between pre- and post-purchase services. Instead, the court in Gary Plastic Packaging looked at the essential management efforts of the promoter as a whole, rather than adopting a bright-line and formalistic distinction between the promoter's pre- and post-purchase services. n165 In applying the Howey test, the majority analyzed and evaluated the investment on the basis of its characteristics, the purpose securities regulation seeks to achieve, and the factual setting. n166 The court reasoned that if it did not find this investment to constitute the sale of an investment contract, "a gap would exist in the regulatory scheme that would strip the investor of needed federal protection." n167 This analysis runs parallel to the logic underlying the S.E.C.'s argument in Life Partners. Moreover, the holding in Gary Plastic Packaging justifiably recognized and defended the importance of protecting individuals engaged in the purchase and sale of secu [*380] rities. The court's opinion gave proper deference to the legislative intent behind the federal securities legislation, which Life Partners failed to do.

In S.E.C. v. R.G. Reynolds, n168 the Ninth Circuit Court of Appeals found that a promoter's sale of interests in a gold ore refining venture constituted the sale of an investment contract. n169 Again, the court refused to draw any bright-line distinctions. The court reasoned that because the promoter, like the promoter in Life Partners, exercised complete control over the investment, the essential management efforts prong of the Howey test was satisfied. n170 Further, the court in R.G. Reynolds did not find the distinction between pre- and post-purchase services determinative of whether the investment sold by the promoter was, in fact, a security. Instead, the court looked to the purpose of the Securities Acts and the essential management efforts of the promoter as a whole and tailored its decision accordingly. n171

Finally, in Peoria Union Stock Yards Company Retirement Plan v. Penn Mutual Life Insurance Co., n172 the Court of Appeals for the Seventh Circuit found that the sale of group deposit administration annuity contracts to pension trustees may involve the sale of an investment contract. n173 This case also is analogous to Life Partners. Like the transaction in Life Partners, the promoter needed to possess actuarial and investment skills in order to create and administer the investment. n174

However, in contrast to Life Partners, the promoter of this investment actually guaranteed the investment would achieve a certain value. n175 Despite the fact that the investment contained a [*381] safeguard which would guarantee that the investor received at least a minimum return on his or her investment, the court still felt the investors needed the protection of the federal securities legislation. Contrary to Life Partners, but consistent with the majority of case law in this area, the court in Peoria Union Stock did not draw a distinction between pre- and post-purchase services performed by the promoter. Instead, in applying the Howey test, the court noted that "the term "investment contract' is a catch-all to bring within the securities acts interests that have the functional attributes of stock and other formal securities but are not so denominated." n176 Because a brokered viatical settlement meets each of the three prongs of the Howey test, it constitutes exactly this type of interest.

The majority in Life Partners justified its novel distinction between pre- and post-purchase services by citing only two appellate court decisions, n177 Noa v. Key Futures n178 and McCown v. Heidler, n179 both of which are distinguishable from Life Partners. In Noa, the court held that agreements to sell silver bars did not constitute the sale of investment contracts, but rather only the sale of an investment. n180 The court reasoned that after an investor purchased the silver bars, his or her profit depended on fluctuations in the silver market, rather than the managerial efforts of the promoter. n181 In Noa, the court did not draw a rigid distinction between pre- and post-purchase services, but focused on the fact that the promoter's purchase and storage of silver for investors did not rise to the level of significant managerial efforts. n182

Noa is distinguished from Life Partners for two reasons. First, the promoter of the viatical settlements in Life Partners performed numerous sophisticated services on behalf of the investors, which the investors would not have been able to perform [*382] themselves. n183 Second, as the dissent in Life Partners correctly points out, market forces do not play a significant role in whether the investor in a viatical settlement realizes a profit. n184

The only effect market forces have on a viatical settlement is "indirect, in that market forces determine whether investment in policies is profitable compared to other investments... but this effect... is insignificant compared with the effect that LPI's life expectancy evaluation and other services have ...." n185 The investors in Noa relied only on the promoter to deliver "a given quantity of silver at a given price." n186 However, in Life Partners, as in other brokered viatical settlements, the investor's profit depends, in large part, on whether the promoter accurately predicts the viator's life expectancy. n187

Thus, the majority's reasoning in Life Partners is flawed in failing to comprehend and take into account the investor's dependence on the promoter's calculation of the viator's life expectancy in relation to the success of the investment. Thus, Life Partners' reliance on Noa to support its distinction between pre- and post-purchase services is erroneous because the Noa court held that the promoter failed to perform any essential managerial services, rather than that the promoter performed only pre-purchase services. n188

The majority's reliance in Life Partners on McCown to support its distinction is equally erroneous. In McCown, the Court of Appeals for the Tenth Circuit held that the sale of real estate parcels could constitute an investment contract because investors could be relying on the promoter's essential management efforts. n189 The majority in Life Partners stated that the McCown court regarded "the promoter's pre-purchase efforts as insignificant to the question [of] whether the investments... were secu [*383] rities." n190 However, the majority in Life Partners misconstrued the McCown court's analysis in order to arrive at this conclusion. The McCown court focused on the promoter's representations of the investment and essential management efforts as a whole. n191 The factors specifically analyzed by the McCown court were:

What character the instrument is given in commerce by the terms of the offer, the plan of distribution, and the economic inducements held out to the prospect. In the enforcement of an act such as (the Securities Act of 1933) it is not inappropriate that the promoters' offerings be judged as being what they were represented to be. n192

Contrary to the majority's assertion in Life Partners, McCown's analysis supports, rather than detracts from, the conclusion that viatical settlements constitute securities because it looks to the promoter's management efforts as a whole. More-over, at no point in its analysis of the investment in question did the court in McCown state that the promoter's pre-purchase activities were insignificant or even allude to a rigid pre- and post-purchase distinction. In addition, McCown focused on the investor's reliance on the promoter and went so far as to state "reliance of the investor upon the promoter need not be total." n193 Thus, it was inappropriate for the majority in Life Partners to rely on McCown to support its ad hoc distinction between pre- and post-purchase services.

A review of the relevant case law reveals that the court in Life Partners erred in drawing a bright-line and formalistic distinction between pre- and post-purchase services regarding the application of the essential management efforts prong of the Howey test. Further, the sparse case law cited by the Life Partners majority to support its novel distinction fails to withstand careful scrutiny. The only cases cited by the majority in Life Partners are distinguishable and do not stand for the proposition the majority asserts - i.e., that a viatical settlement provider must provide significant post-purchase services in order to satisfy the third prong of the Howey test.

[*384]

Viatical Settlement Providers Perform Significant Post-Purchase Services

Assuming arguendo the essential managerial efforts prong of the Howey test does require the promoter of the investment to perform significant post-purchase services, brokered viatical settlements still satisfy this prong. Viatical settlement brokers perform several vital post-purchase services on behalf of their investors. These services include: monitoring the viator's health; filing the death claim; collecting the death benefit; assisting an investor who wishes to resell his or her interest in the insurance policy; drafting assignment contracts; and arranging, if necessary, for former beneficiaries of the policy to consent to the assignment. n194

The majority in Life Partners erroneously dismissed these types of post-purchase services as merely "ministerial." n195 However, a recent addition to the Texas Administrative Code illustrates the importance of post-purchase services performed by the promoter. This new rule states, "No person shall contact a viator or the viator's designee... for determining the viator's health status, unless that person is registered as a viatical settlement company or broker in this state." n196 As a result, an investor in a viatical settlement lacks the ability to effectively retain any control over the management of his or her investment. Therefore, investors are forced to rely on the viatical settlement broker to perform the post-purchase service of monitoring the status of the viator. This service is obviously of the utmost importance to all investors in a viatical settlement because it determines when they will receive a return on their investment and guides their decision to assign or retain their interests.

In summary, the post-purchase services performed by the viatical settlement company, in conjunction with the numerous [*385] other services it performs in a brokered transaction, should satisfy the essential management efforts prong of the Howey test. This conclusion is bolstered by the fact that the United States Supreme Court recognized that investors who lack actual control over the management of an investment need the full and fair disclosure required by the federal securities laws in order to protect their interests effectively. n197 As a result, courts facing this issue in the future should reach a different conclusion than the D.C. Circuit did in Life Partners.

Additional Policy Considerations

Because of the flexible and remedial nature of the Securities Acts, the United States Supreme Court acknowledged it is appropriate for a court to take policy considerations into account when applying the 1933 and 1934 Acts. n198 A plethora of policy considerations illustrate the need for uniform national regulation of brokered viatical settlements as investment contracts subject to the Securities Acts. David Walsh, N.A.I.C.'s President and Director for Alaska, provided an insightful comment regarding these policy concerns when he stated, "The issue surrounding viatical settlements couldn't be clearer. This is, plain and simple, a matter of consumer protection." n199 This part of the Comment illustrates how this need for consumer protection, as well as other policy considerations, extends to both viators and investors in brokered viatical settlements.

One of the primary ways federal securities laws protect people engaged in the purchase and sale of securities is by forcing issuers of securities to disclose to the market certain information regarding the security. n200 Congress designed the 1933 and 1934 Acts to promote the disclosure of material information in order to protect the public from misrepresentations made by promoters in the sale of securities. n201 Without these laws, an individual would not be able to compel the issuer of a security to disclose information vital to analysis of that security. n202

[*386] The sale of viatical settlements has proved to be a veritable breeding ground for fraud and deception, thus creating the need for uniform federal regulation of this industry. n203 Lewis Brothers, President of the North American Securities Administrators Association, agreed with this proposition when he stated that the sale to investors of viatical settlements may mislead investors about what they are actually purchasing. n204 In order to remedy this problem, it is of paramount importance that investors receive as much information as possible regarding the viatical settlement company with which they choose to invest.

One of the most important functions a viatical settlement company performs on behalf of its investors is calculating the viator's life expectancy. However, because AIDS is a relatively new disease, calculating a viator's life expectancy, upon which an investor's profits depend, is not a fail-safe enterprise. n205 Further, because most viatical settlements currently are not registered as securities, no regulatory system exists to verify the accuracy of the medical information an investor receives regarding the viator's medical condition. n206 As the dissent in Life Partners explained, "given the pivotal role of the promoter's activities,... the investor [is entitled to know]... what the specific risk factors attached to the investment are and whether there is any reason why the investor should be leery of the promoter's promises." n207 The nature of viatical settlements forces investors to rely on the expertise of the promoter. Thus, it is equitable to demand that viatical settlement promoters comply with the disclosure requirements of the Securities Acts.

The disclosure protections of the Securities Acts would alleviate many of the problems inherent in the viatical settlement industry. These provisions work to "mitigate this bargaining imbalance" between promoters and investors. n208 In fact, the federal securities laws are the only existing regulatory scheme under which investors in viatical settlements could receive protection. n209 If invoked, the disclosure protections of the 1933 and 1934 Acts [*387] would provide an investor in a viatical settlement with greater access to information regarding the viatical settlement company's operations, including how the particular company calculates a viator's life expectancy. This, in turn, would comply with the Securities Acts' goal of substituting the philosophy of full disclosure for the philosophy of caveat emptor. n210

Viators also desperately need the disclosure protections of the Securities Acts. A venture into the viatical settlement industry is fraught with peril for an unwary terminally ill person. Such a person often has a dire need for money to pay mounting medical expenses, which could expose him or her to potential abuses by viatical settlement companies. n211 Further, not all viators possess the capacity to enter into a viatical settlement transaction. n212 It is important to note that the viator contemplating the benefits of a viatical settlement is facing an impending and untimely death and probably is under extreme emotional duress. n213 As a result, the viator's illness may prevent him or her from fully understanding the consequences that will attend the sale of their life insurance policy. n214

The dangers of the viatical settlement business are neither alarmist nor inconsequential. An investigation by U.S. News and World Report confirmed the inherent dangers of the viatical settlement industry when it "uncovered a darker side of the business, marked by conflicts of interest, lack of disclosure, and nonexistent or ineffectual regulations." n215 Further, in 1992, the New York Times described a number of unsavory practices in the industry that were designed to victimize both viators and investors. n216 As a result of these practices, a viator could unknowingly sell his or her policy for far less than its fair market value or assign the rights to the insurance policy without receiving a material benefit.

In summary, the playing field in the viatical settlement [*388] game is grossly uneven. The current lack of regulation of viatical settlements prevents both viators and investors from making fully reasoned decisions in the purchase and sale of viatical settlements because they lack access to all the information in the possession of the promoters. n217 In addition, because viatical settlements are not regulated presently as securities, neither viators nor investors receive federal protection against fraud and misrepresentation in conjunction with the sale of a viatical settlement. n218 This problem is compounded by the fact that only a small minority of the states even regulate viatical settlements. n219 And when they do regulate viatical settlements, these states do so only in the insurance context, thereby leaving promoters with a loophole to avoid both state and federal securities laws.

Requiring issuers of viatical settlements to comply with the federal securities acts will serve the laudable policy of leveling the playing field nationally regarding the information available to all participants who engage in the purchase and sale of viatical settlements. In addition, subjecting issuers of viatical settlements to federal securities statutes will serve the important policy goal of preventing misrepresentation or fraud in the sale or purchase of a viatical settlement, through the application of Rule 10b-5.

IV.

Conclusion

Brokered viatical settlements should constitute investment contracts and thus fall under the auspices of the 1933 and 1934 Securities Acts. An investor in a brokered viatical settlement meets each of the three prongs of the Howey test for investment contracts because he or she invests money with an expectation of profit in a common enterprise from the essential managerial efforts of the promoter.

Regulating viatical settlements as securities is consistent with both the remedial and prophylactic purposes of the Securities Acts. Forcing promoters of viatical settlements to comply [*389] with federal securities regulations will achieve the laudable goal of providing both investors and viators with access to information that will enable them to make a reasoned and informed decision regarding whether a viatical settlement investment is appropriate for their individual situation. Further, this approach is consistent with the congressional intent behind the 1933 and 1934 Acts, which sought "to provide investors with material information and to protect the investing public from the sale of worthless securities ...." n220

It is manifestly inequitable to allow viatical settlement companies to emphasize specifically the numerous managerial services they provide and, at the same time, not hold them accountable for any misrepresentations under Rule 10b-5, as would normally be the case with any sale of a security. However, the distinction drawn by the court in Life Partners condones this practice and hamstrings the S.E.C. in its ability to protect investors and viators. Further, the majority's decision in Life Partners runs directly contrary to the common law. In future litigation concerning viatical settlements, the courts should disregard Life Partners as bad law and an anomaly in securities regulation.

FOOTNOTES:

n1. Abbie Crites-Leoni & Angellee S. Chen, Money for Life: Regulating the Viatical Settlement Industry, 18 J. Legal Med. 63, 63 (1997).

n2. S.E.C. v. Life Partners, Inc., 87 F.3d 536, 537 (D.C. Cir.), reh'g denied, 102 F.3d 587 (D.C. Cir. 1996). AIDS patients currently comprise about 90% of the viatical settlement industry. However, solicitation of persons with terminal illnesses other than AIDS is growing. Crites-Leoni & Chen, supra note 1, at 67.

n3. Life Partners, 87 F.3d at 537.

n4. Peter Kerr, Now, AIDS Patients Lives Are Drawing Speculators, N.Y. TIMES, Aug. 20, 1992, at A1.

n5. Crites-Leoni & Chen, supra note 1, at 65-66.

n6. See, e.g., Crites-Leoni & Chen, supra note 1, at 64 (discussing the following policy concerns: (1) conflicting purposes served by viatical settlement contracts and life insurance policies; (2) possible ethical concerns associated with viatical settlements; and (3) whether the need for regulation outweighs freedom of contract interests); Pamela Sherrid, Enriching the Final Days, U.S. News & World Rep., Aug. 21, 1995, at 56, 57 (stating that early critics of the viatical settlement industry characterized its participants as engaging in the sale of "death futures").

n7. Malcom E. Osborn, Rapidly Developing Law on Viatical Settlements, 31Wake Forest L. Rev. 471, 484-85 (1996) (discussing whether viatical settlements constitute the sale of insurance).

n8. Life Partners, 87 F.3d 536 (discussing whether the sale of a viatical settlement contract constitutes a security); Kerr, supra note 4, at A1. Glen Pomeroy, the Securities Commissioner for North Dakota, stated that "[viatical settlement companies] are asking people to speculate on the life of another.... Not only is the hunt for investors extremely offensive, this scheme is illegal." Id. Pomeroy went on to claim that viatical settlement transactions constitute the sale of securities, and that the people who conduct these sales are not licensed to sell securities. Id.

n9. Whether the sale of viatical settlements also constitutes the sale of insurance is outside the scope of this Comment.

n10. In S.E.C. v. Howey, 328 U.S. 293 (1945), reh'g denied, 329 U.S. 819 (1946), the United States Supreme Court defined an "investment contract" as:

Id. at 299.

n11. See Life Partners, 87 F.3d at 459 (concluding that viatical settlement contracts did not qualify as investment contracts).

n12. The literal definition of a viaticum is "holy communion as given to a dying person or one in danger of death." Crites-Leoni & Chen, supra note 1, at 66 (citing The American Heritage Illustrated Encyclopedic Dictionary 1825 (1st ed. 1987)).

n13. See Sherrid, supra note 6, at 56.

n14. A viatical settlement contract consists of a written agreement between a viatical settlement provider and a person with a terminal illness who owns a life insurance policy or is covered by a group life insurance policy. This contract establishes the terms under which the viatical settlement provider will pay compensation, consisting of a percentage of the expected death benefit of the insurance policy, in exchange for the insured's assignment, transfer, sale, devise, or bequest of the death benefit or ownership of the policy to the viatical settlement provider. See Osborn, supra note 7, at 474.

n15. See Crites-Leoni & Chen, supra note 1, at 66.

n16. The person or institution purchasing the insurance policy is known as the viatical settlement provider. See id. Throughout this Comment, "viatical settlement provider" and "viatical settlement company" are used interchangeably.

n17. See Denise M. Schultz, Comment, Angels of Mercy or Greedy Capitalists? Buying Life Insurance Policies from the Terminally Ill, 24 Pepp. L. Rev. 99, 100 (1996).

n18. See Crites-Leoni & Chen, supra note 1, at 76.

n19. As of 1996, at least 60 viatical settlement companies operated in the United States. Two national trade associations represent these companies: The American Viatical Association and The National Viatican Association. See Osborn, supra note 7, at 472 n.9.

n20. See Shanah D. Glick, Comment, Are Viatical Settlements Within the Regulatory Control of the Securities Act of 1933?, 60 U. Chi. L. Rev. 957, 957 (1993).

n21. See Schultz, supra note 17, at 100.

n22. See Glick, supra note 20, at 957.

n23. See id.

n24. See id.

n25. See Sherrid, supra note 6, at 59.

n26. See Glick, supra note 20, at 957-58. This Comment argues in Part III that these transactions amount to the sale of a security.

n27. See id. at 957.

n28. See Sherrid, supra note 6, at 60.

n29. A funding company buys an insurance policy and holds it until the insured person dies. See id. at 59.

n30. See id. at 60.

n31. See id. at 58.

n32. See Securities Act of 1933, 15 U.S.C.A. 77(a) et seq. (West Supp. 1997); Securities Exchange Act of 1934, 15 U.S.C.A. 78(a) et seq. (West Supp. 1997). Part III of this Comment explores this argument in detail.

n33. See Sherrid, supra note 6, at 60.

n34. See id. at 56.

n35. See Glick, supra note 20, at 957.

n36. See Crites-Leoni & Chen, supra note 1, at 66.

n37. See id.

n38. See Sherrid, supra note 6, at 57.

n39. See Schultz, supra note 17, at 99-100; Sherrid, supra note 6, at 57.

n40. See Crites-Leoni & Chen, supra note 1, at 66.

n41. Life Partners, 87 F.3d at 537.

n42. See Crites-Leoni & Chen, supra note 1, at 66; Kerr, supra note 4, at A1.

n43. See Glick, supra note 20, at 974.

n44. See id.

n45. Id. at 974-75.

n46. See Carole C. Lamson, Legal Introduction in Living Benefits in Life Insurance: New Perspectives and Developments, 65 N.Y. St. B.J. 16, 16 (1993).

n47. See id.

n48. See id. at 16-17.

n49. See Life Partners, 87 F.3d at 556 (Wald, J., dissenting).

n50. See Cal. Ins. Code 10113.1 et seq. (West 1996); see also Crites-Leoni & Chen, supra note 1, at 69.

n51. See Cal. Ins. Code 10113.1-.2 (West 1996).

n52. National Association of Insurance Commissioners Model Laws, Viatical Settlements Model Act 697-1 (1997) [hereinafter Viatical Settle-ments Model Act].

n53. Some of the more important requirements of this Act include:

1. The insurance commissioner must license all viatical settlement providers and brokers.

2. The insurance commissioner must approve all viatical settlement contract forms.

3. The viatical settlement provider must pay the proceeds of the settlement into an escrow account or trust account until the policy is transferred.

4. The insurance commissioner may set standards for evaluating the reasonableness of the viatical settlement payments.

5. Advertisements regarding viatical settlements must be truthful and not factually or implicitly misleading.

Crites-Leoni & Chen, supra note 1, at 69-71.

n54. See Osborn, supra note 7, at 480 (stating that as of 1996 only 14 states adopted some version of the Viatical Settlements Model Act). See Viatical Settlements Model Act, supra note 52, 697-7.

n55. 328 U.S. 293 (1945).

n56. Id. at 299. Investment contracts are subject to federal regulation as securities. See 15 U.S.C.A. 77b(1) (West Supp. 1997); 15 U.S.C.A. 78c(a)(10) (West Supp. 1997). Part III(B) of this Comment explores in detail the regulation of investment contracts as securities.

n57. The "expectation of profit" prong does not require that an investor receive a guarantee as to the return on his or her investment; rather, Howey requires only that the investor possess a reasonable expectation of profit. See S.E.C. v. Int'l Loan Network, 968 F.2d 1304, 1308 (D.C. Cir. 1992).

n58. Howey, 328 U.S. at 301.

n59. See S.E.C. v. R.G. Reynolds Enterprises, Inc., 952 F.2d 1125, 1134 (9th Cir. 1991).

n60. See Mary B. Davis, Comment, What is Common Enterprise? A Question of Legislative Intent, 11 Miss. C. L. Rev. 125, 128 (1990).

n61. See R.G. Reynolds, 952 F.2d at 1130.

n62. See Davis, supra note 60, at 128.

n63. See Glick, supra note 20, at 976.

n64. See id.

n65. See id.

n66. See id.

n67. See id.

n68. See Davis, supra note 60, at 128.

n69. See Life Partners, 87 F.3d at 544.

n70. See Davis, supra note 60, at 127.

n71. See Steinhardt Group v. Citicorp, 126 F.3d 144, 151 (3d Cir. 1997); Curran v. Merrill Lynch, 622 F.2d 216, 222 (6th Cir. 1980), aff'd, 456 U.S. 353 (1982); S.E.C. v. Lauer, 52 F.3d 667, 670 (7th Cir. 1995). See also Davis, supra note 60, at 127-28; John Letteri, Are Discretionary Commodity Trading Accounts Investment Contracts?: The Supreme Court Must Decide, 35 Cath. U. L. Rev. 636, 640 (1986).

n72. See Long v. Shultz Cattle, 896 F.2d 85, 86 (5th Cir. 1990); J.C. Booth v. Peavey Co. Commodity Serv., 430 F.2d 132 (8th Cir. 1970) ("The Eighth Circuit addressed the commonality issue indirectly in [Booth].... This decision has been interpreted as an adoption of vertical commonality.") (citing Davis, supra note 60, at 133); McGill v. American Land & Exploration, 776 F.2d 923, 925 (10th Cir. 1985); Villeneuve v. Advanced Business Concepts, 698 F.2d 1121, 1124 (11th Cir. 1983), reh'g, 130 F.2d 1403 (11th Cir. 1984). See also Davis, supra note 60, at 128.

n73. 469 U.S. 1115 (1985).

n74. See Glick, supra note 20, at 976 (citing Mordaunt, 469 U.S. 1115).

n75. S.E.C. v. Glenn W. Turner Enterprises, 474 F.2d 476, 482 (9th Cir. 1973), cert. denied, 414 U.S. 821 (1973).

n76. Id.

n77. Id.

n78. Id.

n79. Id.

n80. Id.

n81. The Securities Exchange Act of 1934 states:

The term "security" means any note, stock, treasury stock, bond, debenture, certificate of interest or participation in any profit-sharing agreement or in any oil, gas, or other mineral royalty or lease, any collateral-trust certificate, preorganization certificate or subscription, transferable share, investment contract, voting-trust certificate, certificate of deposit... but shall not include currency or any note, draft, bill of exchange, or banker's acceptance which has a maturity at the time of issuance of not exceeding nine months, exclusive of days of grace, or any renewal thereof the maturity of which is likewise limited.

15 U.S.C.A. 78c(a)(10) (West Supp. 1997) (emphasis added). The definition of a security under the 1933 Act also includes an investment contract and is substantially similar in all other respects. See 15 U.S.C.A. 77b(1) (West Supp. 1997).

n82. Id. 77e(c), 78(e).

n83. See id. 78m(a).

n84. Id. 78j(b).

n85. See id.

n86. 17 C.F.R. 240.10b-5 (1997) provides:

It shall be unlawful for any person, directly or indirectly, by use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,

(a) To employ any device, scheme, or artifice to defraud,

(b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or

(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.

n87. See, e.g., Thomas L. Hazen, The Law of Securities Regulation 13.2, at 762-63 (3d ed. 1996) ("The [S.E.C.] has utilized this rulemaking power in a number of instances, with regard to a wide variety of manipulative and deceptive acts and practices and in Rule 10b-5 it fashioned its most encompassing antifraud prohibition.") (citations omitted).

n88. In Life Partners, 87 F.3d at 549, the court held that viatical settlements are not investments contracts within the purview of the federal securities laws.

n89. See Glick, supra note 20, at 984.

n90. See Life Partners, 87 F.3d at 549-57 (Wald, J., dissenting).

n91. See id. at 543; Glick, supra note 20, at 970-71.

n92. See Life Partners, 87 F.3d at 543-44.

n93. Id. at 543.

n94. In Life Partners, the D.C. Circuit Court of Appeals conceded that the sale of brokered viatical settlements satisfied the pooling requirements of horizontal commonality. Id. at 544.

n95. Id. at 543.

n96. Id.

n97. See id. at 544.

n98. See Glick, supra note 20, at 974.

n99. See id. at 974-75.

n100. See Life Partners, 87 F.3d at 542. An insured's life expectancy will affect the investors' profits in two ways: "First, the annualized rate of return depends upon the length of the investment; and second, unless there has been a waiver of premiums pursuant to the terms of the insurance policy, the amount of the investor's outlay for premiums will depend upon the insured's life span." Id.

n101. In Part III(C)(2), this Comment also explores in detail the investors' reliance on the promoters.

n102. See Glenn W. Turner Enterprises, 474 F.2d 476, 482 (9th Cir. 1973).

n103. See Life Partners, 87 F.3d at 545.

n104. See id. at 539.

n105. For example, in determining the life expectancy of a viator with AIDS, the doctor who examines the viator must take into account the viator's T-cell count, the chance of infection, blood platelet count, and pulmonary (lung) studies. See id. at 555 (Wald, J., dissenting). In addition, the viatical settlement company and its physicians must take into account potential advances in the treatment of AIDS. See id.

n106. See id. at 539-40. See also Glick, supra note 20, at 973-75.

n107. See Crites-Leoni & Chen, supra note 1, at 78.

n108. 87 F.3d 536.

n109. Id. at 538.

n110. Id. at 538-39.

n111. Id.

n112. Id. at 543.

n113. Id. at 555 (Wald, J., dissenting).

n114. Id. at 543-44. The majority in Life Partners stated: "The buyer is obviously purchasing not for consumption... but rather for the prospect of a return on his investment....That is enough to satisfy the requirement that the investment be made in the expectation of profits." Id. at 543. The majority went on to hold:

Pooling is in practice an essential ingredient of the LPI program.... Because LPI's viatical settlements entail this implicit form of pooling, and because any profits or losses accrue to all investors,... we conclude that all three elements of horizontal commonality-pooling, profit sharing, and profit loss sharing-attend the purchase of a fractional interest through LPI.

Id. at 544.

n115. Id. at 545.

n116. Id. at 548.

n117. The overall purpose behind the 1933 and 1934 Securities Acts is the protection of investors from false and deceptive practices that might injure them. See H.R. Conf. Rep. No. 73-152 (1933), reprinted in 1933 WL 984; H.R. Rep. No. 73-1383 (1934), reprinted in 1934 WL 1290.

n118. Life Partners, 87 F.3d at 553. Judge Wald, dissenting in Life Partners, stated:

Notably, I have found no case which holds, as the majority here does, that pre-purchase activities alone cannot satisfy Howey's third prong. Even the cases cited by the majority in support of its position do not argue that pre-purchase/post-purchase line has determinative significance. Rather, the decisions in these cases appear to turn on the role that market forces as opposed to the promoter's activities play in the realization of profits.

Id. (Wald, J., dissenting).

n119. See S.E.C. v. Ralston Purina Co., 346 U.S. 119, 124-26 (1953); S.E.C. v. Capital Gains Research Bureau, Inc., 375 U.S. 180, 186 (1963).

n120. Ernst & Ernst v. Hochfelder, 425 U.S. 185, 194 (1976); Gary Plastic Packaging Corp. v. Merrill Lynch, Pierce, Fenner, & Smith, Inc., 756 F.2d 230, 237 (2d Cir. 1985), aff'd, 903 F.3d 176 (2d. Cir. 1990).

n121. See, e.g., Howey, 328 U.S. at 298-99 (stating that Congress designed the Securities Act to "[compel] full and fair disclosure relative to the issuance of "the many types of instruments that in our commercial world fall within the ordinary concept of a security.'); Ralston Purina, 346 U.S. at 124 (stating that Congress designed the statutes to provide investors with the requisite information to make informed investment decisions); Ernst & Ernst, 425 U.S. at 195 (stating that Congress designed the securities legislation "to provide investors with full disclosure of material information concerning public offerings of securities in commerce, to protect investors against fraud and,... to promote ethical standards of honesty and fair dealing").

n122. See, e.g., Ernst & Ernst, 425 U.S. at 195 (stating that "the 1934 Act was intended principally to protect investors against manipulation of stock prices through regulation of transactions upon securities exchanges... and to impose regular reporting requirements on companies whose stock is listed on national securities exchanges"); H.R. Rep. No. 73-1383 (1934), reprinted in 1934 WL 1290 (explaining that "unregulated speculation in securities and in commodities was one of the most important contributing factors in the artificial and unwarranted "boom' which had so much to do with the terrible conditions of the years following 1929"); Gary Plastic Packaging, 756 F.2d at 237 (concluding that by promulgating the Securities Acts of 1933 and 1934, Congress intended to encourage honest dealing in securities and restore public confidence in the financial markets).

n123. Capital Gains Bureau Research, Inc., 375 U.S. at 187.

n124. See Life Partners, 87 F.3d at 539. In passing the 1933 and 1934 Acts, Congress wanted to eliminate the unethical and unsafe practices of banks and corporate officers that were prevalent prior to the stock market crash of 1929. See Gary Plastic Packaging, 756 F.2d at 237.

n125. Life Partners, 87 F.3d at 550 (Wald, J., dissenting).

n126. Howey, 328 U.S. at 299.

n127. United Housing Foundation, Inc., v. Forman, 421 U.S. 837, 849 (1975), reh'g denied, 423 U.S. 884 (1975) (citing Holy Trinity Church v. United States, 143 U.S. 457, 459 (1892)).

n128. See R.G. Reynolds, 952 F.2d at 1132.

n129. See Glenn W. Turner Enterprises, 474 F.2d at 481.

n130. See Ralston Purina Co., 346 U.S. at 126; Tcherepnin v. Knight, 389 U.S. 332, 336 (1967).

n131. Tcherepnin, 389 U.S. at 336; accord Pinter v. Dahl, 486 U.S. 622, 653 (1987).

n132. See, e.g., Tcherepnin, 389 U.S. at 336; Glenn W. Turner Enterprises, 474 F.2d at 481.

n133. See S.E.C. v. Koscot Interplanetary, Inc., 497 F.2d 473, 480 (5th Cir. 1974).

n134. See id.

n135. See, e.g., Tcherepnin, 389 U.S. at 336 (stating that form should be disregarded for substance, and the emphasis should be on economic reality).

n136. Glenn W. Turner Enterprises, 474 F.2d at 481 (emphasis added) (quoting S.E.C. v. C.M. Joiner Leasing Corp., 320 U.S. 344, 351 (1943)).

n137. The fact that participants in the viatical settlement industry bought and sold about $ 400 million worth of life insurance policies in 1995, as compared to about $ 300 million the year before, demonstrates the increasing prevalence of viatical settlements in American commerce. See Schultz, supra note 17, at 100 n.9.

n138. Life Partners, 87 F.3d at 555 (Wald, J., dissenting).

n139. See R.G. Reynolds Enterprises, Inc., 952 F.2d at 1132 n.7.

n140. See Life Partners, 87 F.3d at 550 (Wald, J., dissenting). This approach is consistent with the United States Supreme Court's mandate that regulation of investment contracts should emphasize economic realities over form and comports with the belief that investors are protected by greater access to information. See id.

n141. See id. at 555 (Wald, J., dissenting).

n142. 388 F. Supp. 1288, 1293 (S.D.N.Y. 1975).

n143. Id. at 1293.

n144. Id. at 1291.

n145. Id. at 1292.

n146. Id. at 1293 (emphasis added).

n147. 87 F.3d at 545.

n148. Id.

n149. Id.

n150. 645 F.2d 404 (5th Cir.), cert. denied, 454 U.S. 897 (1981).

n151. Id. at 422.

n152. Id. at 424.

n153. Id. at 429.

n154. Pratt v. Kross, 555 P.2d 765 (Or. 1976). The court reasoned: "An investor who labors without having an opportunity to participate in management is just as helpless to govern what happens to his investment as is a purely passive investor." Id. at 773. In Pratt, the Oregon Supreme Court held, consistent with the reasoning in Williamson, that a limited partnership agreement could constitute an investment contract. Id.

n155. McCown v. Heidler, 527 F.2d 204, 208 (10th Cir. 1975), impliedly overruled on other grounds by Anixter v. Home-Stake Production, 77 F.3d 1215 (10th Cir. 1996).

n156. 904 F.2d 918 (4th Cir. 1980).

n157. Id. at 923.

n158. Id. at 924.

n159. Id. at 923.

n160. Id. at 925.

n161. 756 F.2d 230 (2d Cir. 1985).

n162. Id. at 240.

n163. See id. at 241.

n164. Id. at 240.

n165. Id.

n166. Id.

n167. Id. at 242.

n168. 952 F.2d 1125 (9th Cir. 1991).

n169. Id. at 1130.

n170. Id. at 1131.

n171. Id. at 1130. The court stated:

In passing the Securities Acts, "Congress painted with a broad brush. It recognized the virtually limitless scope of human ingenuity, especially in the creation of "countless and variable schemes devised by those who seek the use of the money of others on the promise of profits.'" Thus, Congress "en-acted a definition of "security' sufficiently broad to encompass virtually any instrument that might be sold as an investment."

Id. (citations omitted).

n172. 698 F.2d 320 (7th Cir. 1983).

n173. Id. at 326.

n174. Id. at 321.

n175. Id. at 324.

n176. Id.

n177. Life Partners, 87 F.3d at 546.

n178. 638 F.2d 77 (9th Cir. 1980).

n179. 527 F.2d 204 (10th Cir. 1975).

n180. Noa, 638 F.2d at 79-80. The majority in Life Partners acknowledged that Noa lent only "implicit" support to its distinction between pre- and post-purchase services. Life Partners, 87 F.3d at 546.

n181. Noa, 638 F.2d at 79.

n182. Id. at 80. Specifically, the court in Noa felt the promoter's act of purchasing and storing the silver on behalf of its investors did not amount to ""undeniably significant' efforts." Id.

n183. For example, the promoter in Life Partners assembled the investors, evaluated the viator's medical condition, reviewed the viator's insurance policy, negotiated the purchase price of the insurance policy, prepared the requiste legal documents, monitored the insured's health, collected the death benefit, and made sure the viator's insurance policy did not lapse. Life Partners, 87 F.3d at 543-44.

n184. Life Partners, 87 F.3d at 556 (Wald, J., dissenting).

N185. Id.

n186. Noa, 638 F.2d at 79.

n187. Life Partners, 87 F.3d at 556 (Wald, J., dissenting).

n188. See Noa, 638 F.2d at 79-80.

n189. McCown, 527 F.2d at 211.

n190. Life Partners, 87 F.3d at 547.

n191. McCown, 527 F.2d at 210-11.

n192. Id. at 208.

n193. Id. at 211.

n194. See, e.g., Life Partners, 87 F.3d at 540, 545. At the time the D.C. Court of Appeals decided Life Partners, LPI claimed it no longer "offered" any post-purchase services. Id. at 546. However, post-purchase services still were available for an additional price through the Sterling Trust Company, which worked hand-in-hand with LPI in administering the sale of viatical settlements. Id. at 540, 546.

n195. Life Partners, 87 F.3d at 548. The court used "ministerial services" in this context to mean "clerical and routine in nature, not managerial or entrepreneurial, and therefore unimportant to the source of investor expectations; in sum, anyone including the investor himself could supply these services." Id. at 545-46.

n196. . Texas Admin. Code, tit. 28, 3.10012(a) (1997).

n197. Howey, 328 U.S. at 298.

n198. Pinter, 486 U.S. at 653.

n199. Osborn, supra note 7, at 479.

n200. See Glick, supra note 20, at 979.

n201. See Davis, supra note 60, at 125.

n202. See Glick, supra note 20, at 979.

n203. See Davis, supra note 60, at 125.

n204. See Kerr, supra note 4, at D5.

n205. See Schultz, supra note 17, at 104.

n206. See Kerr, supra note 4, at A1.

n207. Life Partners, 87 F.3d at 552 (Wald, J., dissenting).

n208. Glick, supra note 20, at 979.

n209. See Life Partners, 87 F.3d at 556 (Wald, J., dissenting).

n210. S.E.C. v. Capital Gains Research Bureau, Inc., 375 U.S. 180, 186 (1963).

n211. See Schultz, supra note 17, at 104; see also Crites-Leoni & Chen, supra note 1, at 67.

n212. See Crites-Leoni & Chen, supra note 1, at 79.

n213. See id. at 64.

n214. See id. at 80. "Empirical research shows AIDS can diminish memory, concentration, decision making capacity, and impulse control." Id. (emphasis added).

n215. Sherrid, supra note 6, at 56.

n216. See Kerr, supra note 4, at A1.

n217. See Davis, supra note 60, at 125.

n218. See, e.g., Gary Plastic Packaging, 756 F.2d at 241 (stating that absent the securities laws, the plaintiff has no federal protection against fraud or misrepresentation by the defendants in the marketplace).

n219. See Osborn, supra note 7, at 480 (stating that as of 1996, only 14 states adopted some version of the Viatical Settlements Model Act); see Viatical Settlements Model Act, supra note 52, 697-7 (1997).

n220. Gary Plastic Packaging, 756 F.2d at 237.