Twisting and churning: replacement sales abuses

Twisting is persuading a policyholder, through misrepresentation or an incomplete comparison, to drop one insurer's policy and buy another's, usually to earn a new commission. Churning is the same pattern of repeated replacement inside the same company, or through repeated surrenders and purchases, so the seller collects commissions again without real benefit to you. Replacing a policy is not wrong in itself; the abuse is in misleading you about it. The safeguard is a rule that gives you the facts before you sign.

Why replacement is risky

A new life insurance policy is not a continuation of the old one. Replacing a policy can:

• Restart the the two-year contestability period and the Does life insurance pay for suicide? The suicide clause explained window, usually two years, during which the insurer can review the application and, in the suicide case, limit the payout.
• Add new life insurance surrender charges explained and new acquisition costs, since the first years of many permanent policies carry the heaviest costs. A seller's commission is often largest in the first year.
• Reset your age and health, so premiums are based on how old and healthy you are now, not when you bought the original.
• Trigger taxes if cash value is surrendered for more than the premiums paid. A properly done 1035 exchanges: swapping policies without tax can avoid this for some transfers.
• Lose guarantees that the old policy had and a new one may not, such as a guaranteed interest rate, an older mortality table or a favorable loan feature.
• Leave a gap in coverage if you cancel before the new policy is in force.

Replacement can still be the right move, for example when your old policy is costly, underperforming or from an insurer in trouble. Our guide to replacing a life insurance policy: when it makes sense covers when it can make sense.

Twisting and churning defined

State laws use these words differently. The NAIC's Unfair Trade Practices Act, the model on which many state laws are based, prohibits "a misrepresentation, including any intentional misquote of premium rate, for the purpose of inducing or tending to induce the purchase, lapse, forfeiture, exchange, conversion or surrender of any policy." The model also provides that a commissioner can order a penalty of up to $1,000 per violation (capped at $100,000 in total), or up to $25,000 per violation (capped at $250,000) for flagrant violations in conscious disregard of the law, and can suspend or revoke licenses. State penalties differ from the model; check your own state's statute.

A separate rule applies to variable products: broker-dealers and registered representatives are bound by FINRA suitability standards, and excessive trading or switching in securities can be treated as churning under securities law. See variable life insurance and the securities rules that govern it.

What the replacement rules require

The NAIC Life Insurance and Annuities Replacement Model Regulation (#613) is the template that most states have adopted in some form. Under the model:

1. The application asks about existing coverage. The producer must submit a statement signed by both applicant and producer saying whether the applicant has existing policies or contracts.
2. A replacement notice must be read and signed. If the answer is yes, the producer must present and read to the applicant a notice about replacement, signed by the applicant and the producer, listing every policy to be replaced.
3. Sales material goes with the application. The producer leaves copies of all sales materials, and the new insurer follows up within ten days of issuing the policy to confirm.
4. The new insurer notifies your old insurer within five business days of receiving a completed application.
5. Your old insurer sends you a letter about your right to receive information on your existing values, including an in-force illustration or policy summary, which it must provide within five business days of your request. See how to request and read an in-force illustration.
6. A 30-day right to return the new policy for a full refund of premiums and charges.
7. Penalties. Failing to follow the rules is treated as an unfair trade practice. Examples listed in the model include misleading sales material, failing to ask the application questions about replacement, and advising an applicant to answer "no" about existing coverage.

The "replacement" definition is broad. It covers lapsing, surrendering or reducing an old policy, and also a financed purchase, where you use a loan against, or a withdrawal or surrender from, the old policy to pay for the new one. In the model, a withdrawal, surrender or loan used to pay premiums on a new policy from the same company within four months before or thirteen months after the new policy's effective date counts as prima facie evidence of a financed purchase.

State versions vary on the free-look period, the form of the notice and which products are covered. Group coverage, credit life and some other transactions are exempt under the model.

Warning signs

• A seller says your current policy is "no good" or "out of date" without showing a written, side-by-side comparison with the real numbers.
• Pressure to cancel before the new policy is approved and issued.
• A pitch that your "premiums" or cash value can be rolled into the new policy for free, without explaining surrender charges, loans or taxes.
• Asking you to leave "no" on the existing-coverage question, or to sign a blank form.
• A comparison that ignores guarantees, costs or the restart of the contestability period.
• Repeated contact to switch policies you have held for a short time, especially in the first years when surrender charges apply.
• Use of a loan or withdrawal from your existing policy to pay for a new one.

How to check a proposed replacement: a checklist

1. Keep the old policy until the new one is issued, accepted and delivered. Do not lapse or surrender anything first.
2. Request an in-force illustration and current values from your existing insurer. The insurer must respond under the model's timeline.
3. Ask the seller for a written, policy-by-policy comparison that shows guaranteed values, charges, the death benefit and cost, and the costs of switching.
4. Compare after-tax outcomes. If you would surrender cash value above what you paid in premiums, ask a tax professional before acting. The keep, surrender or sell your policy? and the annual life insurance policy review checklist help.
5. Check the seller's license and any complaints with your state insurance department; see how to check that an insurance agent is licensed.
6. Understand the commission. Our how life insurance agents are paid guide explains how agents are paid and why a new sale pays more than leaving a policy alone.
7. Use the free-look right after delivery if the numbers do not match what you were told.

If you think you were twisted or churned

Write to the insurer and ask for a copy of the application, the replacement notice you signed and the sales materials. File a complaint with your state department of insurance, which can investigate and discipline licensees. Some states allow a policyholder to recover damages or rescind; a consumer or insurance attorney can tell you what applies. Act quickly, because complaint deadlines and legal time limits vary.

Key takeaways

• Twisting and churning are replacement sales that rely on misrepresentation or give the seller a commission without real benefit to you.
• A new policy restarts the contestability and suicide clauses, adds charges and resets your age and health.
• The NAIC replacement model requires a signed existing-coverage statement, a read-aloud notice, notice to your old insurer and a 30-day return right; states vary.
• Keep your old policy until the new one is in force, and compare guaranteed values in writing.
• Complain to your state insurance department if you were misled.