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Replacement

Replacement is defined as changes in existing coverage, usually with coverage from one insurer being “replaced” with coverage from another. It is a practice that can lead to ethical lapses — though it can equally be argued that failure to replace coverage that no longer meets the client’s current needs may be just as unethical.

Florida’s Definition of Replacement

In Florida, replacement is defined as a purchase of new coverage accompanied by a substantial reduction in the benefits available under an existing policy, such as:

  • Termination of the existing policy
  • Use of non-forfeiture options such as reduced paid-up or extended term
  • Reissuance of a policy with reduced cash values
  • Borrowing more than 25% of an existing policy’s cash value for purchase of new coverage
Agent Responsibilities in Replacement

Agents proposing a replacement policy must provide the prospect with a “Notice to Applicant Regarding Replacement of Life Insurance”. This notice gives the policyholder the option to request a written comparison between the existing policy and the proposed coverage. The agent must indicate on the application that the proposed policy will replace existing coverage.

If the prospect requests a written comparison, the replacing insurer will provide a comparison and notify the existing carrier of the proposed replacement. Insurers must maintain a log of replacement business, which will be reviewed by state regulators as part of the insurer’s periodic audit process.
Required Disclosures in Replacement

A complete comparison with respect to a life insurance policy replacement requires that the consequences be made clear to the policyowner. It must be explained that:

  • The new policy may impose a new suicide and contestability period
  • The policyholder’s cost basis in the policy may be lost
  • Possible adverse tax consequences could result
  • In the case of annuities, new surrender charges may be imposed

Twisting & Churning

⚠ Twisting
Replacing insurance coverage of one insurer with that of another based on misrepresentations. Coverage with Carrier A is replaced with coverage from Carrier B.
⚠ Churning
In effect “twisting” of policies by the existing insurer. Coverage with Carrier A is replaced with new coverage from Carrier A — based on misrepresentation.
While replacement of existing coverage is a perfectly legitimate practice, inducing changes in coverage based on misrepresentation or deception is unethical and illegal in Florida. Both twisting and churning are prohibited.
Note: In the securities industry, “churning” has a different meaning — trades of excessive size or frequency primarily to generate commissions for the registered representative. There is no benefit for the client; it is unethical and prohibited by the NASD. The agent must be guided by the client’s interest with respect to objectives and financial situation.

Proposed Replacement Legislation

Legislation has been adopted in certain states concerning life insurance replacement requirements and is expected to be endorsed by the National Association of Insurance Commissioners (NAIC) as model legislation. This is a significant departure from existing replacement regulations. The following steps must be taken for every life insurance policy replaced:

1
Insurers must have internal procedures in place to handle replacements and a company officer responsible for monitoring and enforcing them.
2
Applicants are given a 60-day cooling-off period following the replacement sale during which they can change their mind and have their initial premium returned. Replacing companies must implement additional disclosure requirements during this period.
3
Agents are required to obtain a list of all existing life insurance and annuity contracts and must provide the applicant with a form defining the scope of the replacement. The form must be signed by both the agent and the applicant.
4
If replacement occurs, the replacing agent must complete a disclosure statement and submit it with the application. An insurer must reject any application not accompanied by the necessary disclosure forms.
5
Replacing insurers must supply the replaced company with copies of the sales materials and proposals used in the new sale and send the disclosure statement to the insurer whose coverage is being replaced.
6
The insurer whose life insurance is being replaced must forward the disclosure statement with both the new and existing policy information to its agent of record and to the new agent for delivery to the policyowner.
7
The applicant receives the completed disclosure statement containing comparative data concerning the existing and replacement policies, enabling an informed decision.
A failure by a replacing agent to make a full and fair disclosure of all relevant information is a practice known as twisting. It is illegal and unethical.

Specific Florida Laws & Rules

Florida’s current replacement rule requires agents to ask prospects if an existing policy’s coverage is reduced as part of the application process. If the agent knows — or should have known — that such a reduction occurs when soliciting new coverage, the agent must complete:

  • OIR-B2-312 — “Notice to Applicant Regarding Replacement of Life Insurance”
  • OIR-B2-313 — “Comparative Information Form” (if requested by the applicant)
Twisting — replacement based on misrepresentations (Carrier A replaced by Carrier B) — is illegal in Florida.

Churning — an insurer replacing existing coverage with a new policy based on misrepresentations (Carrier A replaced by Carrier A) — is also illegal in Florida.
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