Death Care Compliance Law

Death Care Compliance Law

Preneed: A Pandora's Box of Problems

William Stalter is the founder of Stalter Legal Services and the Preneed Resource Company. Bill focuses his law practice on preneed and death care compliance, serving banks, funeral homes, crematories, and cemeteries. He has written multiple published articles

The Cassity Reply to Dismissal: Not Without a Pass for My Son

Posted in NPS/Lincoln, Uncategorized

Doug Cassity has filed a motion to modify the order dismissing him from the SDR’s civil lawsuit.  Mr. Cassity asserts that he and his family should be freed of the reign of terror and wrongdoing of the Texas regulators and their attorneys.  Seeking a dismissal with prejudice, Mr. Cassity seeks to have the SDR’s claims dropped permanently against himself and his son.  While the motion hints at various motivations that Mr. Cassity may have for testifying, he is not inclined to do so if the SDR can reinstate claims after his testimony is given.

The motion and its attachment were prepared by Mr. Cassity, and offer a glimpse of the man and his thought process.  Mr. Cassity offers a unique interpretation of the Missouri preneed law passed in 1982.  We will explore some of Mr. Cassity’s issues in subsequent posts, but the initial issue that caught our attention was the characterization of the Missouri law as a burial insurance statute and the reliance upon Missouri’s cemetery law for deferring trust deposits until a contract was paid in full.  We anticipate that Mr. Cassity is alluding to how endowed care contributions are administered under Chapter 214 because that law did not have a preneed trusting provision until well after the 1992 lawsuit was filed by the Attorney General.  Many Missouri cemeteries assert that an endowed care contribution is not required until the lot sale is completed.  Mr. Cassity asserts that NPS’ attorneys advised that the company could rely upon such an interpretation when addressing an ambiguity in Missouri’s Chapter 436.   Mr. Wittner may have a different recollection of that advice, which gives rise to one of Mr. Cassity’s motivations to testify.   The exhibit indicates Mr. Wittner is now cooperating with the SDR.

The motion reflects a desperate man that still seems prepared to say anything.  Dismissed from the civil suit, Mr. Cassity will no longer be provided pleadings filed with the court.  You could say that Doug has been put into ‘isolation’.  He has been cut off from a legal proceeding that continues to put his son at risk.  There may be no saving himself from the ‘reign of terror’, but we will have to wait and see if the SDR is prepared to offer up Brent for the truth.

Plaintiff’s Star Witness: Doug Cassity

Posted in Insurance Funded, NPS/Lincoln, Preneed Tax, Trust Funded, Uncategorized

The NPS civil trial is scheduled for trial in February 2015, and the SDR’s strategy took a twist when her litigation team filed a motion to dismiss Doug Cassity as a defendant in the lawsuit.  The dismissal probably signals the SDR’s intent to use Mr. Cassity’s testimony.  Now convinced that Mr. Cassity does not have hidden funds that exceed the restitution required by the criminal conviction, the SDR will seek to use his testimony against the various bank defendants. It may not matter whether he is a cooperative witness. Consequently, Mr. Cassity’s testimony could have ramifications for fiduciaries and insurance companies that do business in Missouri, and the regulators who supervise the state’s preneed trusts.

As seller of trust funded preneed contracts, NPS directed the trustees to follow an investment advisor selected by NPS.  That investment advisor then directed the trustees to purchase insurance policies issued by a related company (Lincoln Memorial Life).  The trustees may have also followed the directions of NPS and Lincoln Memorial Life regarding the reporting of trust income.

How far did Missouri law allow the trustee to follow the seller’s instructions with regard to investments, administration and taxation of a preneed trust?  To what extent did the trustees owe fiduciary duties to funeral home providers and preneed contract purchasers?  Will the results of the trial have implications to preneed fiduciaries in other states?

Preneed insurance companies understand the need to offer consumer options, and some have begun to offer hybrid trust programs.  Consumer payments are deposited to a trust pursuant to a contract that requires the trustee to purchase insurance at some future date.  This affords the consumer flexibility in making payments until the insurance is purchased.  The trustee will take a Section 685 election to avoid income reporting to the consumer until the insurance is purchased.  When the contract beneficiary dies, the trustee will collect insurance proceeds pursuant to IRC Section 101 and pay the seller upon proof of performance.  For so long as the trust owns an insurance policy, the seller can anticipate a constant, albeit low, trust return.

For these programs, the NPS civil trial could either clarify or redefine the duties owed by trustees to consumers and third party funeral home providers regarding insurance investments.  Did the NPS trustees have a duty to look behind Mr. Cassity’s polished presentation before purchasing insurance?  Was this a one and done determination of prudence, or was the determination required with each purchase of an insurance contract?  For contracts sold after SB1, there is also the question of whether the investment of trust funds in an insurance product complies with the prudent investor rule, and its diversification requirement.  What was the diversification requirement under the old prudent man standard?

Must the bank also determine the correct taxation of the insurance product when held in trust?  When trusts rushed to insurance products to avoid Rev.Rul. 87-127, there was no Section 685.  Rev.Rul. 87-127 afforded trusts the legal authority to treat the purchaser as grantor, and thus claim taxation pursuant to IRC Section 101.  What happened when NPS rolled over a seller trust that had a Section 685 election in force?  Were the insurance proceeds then taxable?

Mr. Cassity’s testimony may well influence whether trustees can deflect these liability issues back to the seller and the sponsoring insurance company.

Talk of a Lifetime: Restarting the Prearrangment Process

Posted in Non-guaranteed, Preneed, Preplanning, Uncategorized

One message that can be taken from the FAMIC’s Talk of a Lifetime campaign is that funeral directors need to re-think their prearrangement procedures.  Perhaps too much emphasis has been given to preneed, and not enough to the planning process.  Prearrangement marketing and procedures have often been crafted by the funeral home’s preneed funding agent.  What went unspoken in the MBJ article was the impact of poor investment performance on funeral directors’ motivation to promote preneed.  Insurance and trusts are not keeping pace with the costs to perform those contracts.  All funeral directors understand the need to engage families in the talk of a lifetime, but many are not happy with their preneed funding options. Those directors may be reluctant initiating a conversation that will ultimately lead to the topic of preneed.

Preneed Contract Holders: the lonely 5%

Posted in Guaranteed, Non-guaranteed, Preneed, Preneed Development, Preplanning, Uncategorized

The Memorial Business Journal recently reported on findings from the NFDA’s 2014 Consumer Awareness and Preferences Study.   Some of the findings may not come as much of a surprise to funeral directors, such as consumer demands are changing.  But, findings regarding how many respondents have made efforts to prearrange, and prepay, for funerals were surprising.  The article reported that only 19% of Study respondents had made prearrangements for themselves.  According to the article, prearrangement meant decisions and communications regarding the respondent’s final arrangement preferences.  Of those 19% who had participated in prearranging, only 26% had actually made some form of prepayment towards their final arrangement.  As one commentator to the article points out, only 5% of the Study respondents have purchased a preneed funeral contract.  (These statistics seem much lower than those reported by industry sources ten years ago.)

Of the individuals who have prearranged but not prepaid, the article reports the main reasons for not doing so include:

  • Estate or life insurance will cover the costs
  • Can’t afford to prepay
  • The funeral arrangement is not a priority
  • I don’t want a funeral.

Respondents gave similar reasons for not even attempting to prearrange their own funeral.

In an effort to address the need to prearrange, The Funeral and Memorialization Information Council have initiated the “Have the Talk of a Lifetime” campaign.  Members to the sponsoring organizations can access the FAMIC website for more information and documents.

As the campaign is successful in getting funeral directors and families engaged in the talk of their lifetime, the funeral home will still need to address consumer affordability.  On that issue, one commentator offered the observation of how the industry has steered the consumer to paying for the purchase price upfront.  He went on to suggest consumers need payment options.  We agree with his following comments questioning the mixed messages respondents gave concerning the value of price protections.  For too long, the industry has relied on “cost savings” to sell a preneed contract.  Even with an installment payment option, many older consumers cannot afford the required monthly payment.  Without a non-guaranteed contract option, many of these talks will still end in a direct cremation.

We encourage funeral directors to maintain the memberships in the FAMIC organizations, and to subscribe to the Memorial Business Journal.

Cemetery Care Fund Reports: The Operator’s Vicarious Liability

Posted in Cemeteries, Fiduciary, Reporting

Typically, the standard by which a cemetery is judged to be abandoned is whether the grass is getting cut.  But for licensed cemeteries, some states’ laws may also include provisions to deem a cemetery abandoned when regulatory reports are not filed.   Care fund reports are intended to inform the cemetery regulator whether the operator is making deposits to the fund, and how much the trustee is distributing to the operator.   When the reporting required for a cemetery license is neglected by the operator, state law may provide the cemetery regulator authority to bring legal action to declare the cemetery abandoned even though the grass has been cut regularly.  The purpose for such authority is to enable the regulator to determine if the care fund is being depleted by the operator, and to bring action to preserve the fund.

Kansas has had such authority for many years, but an annual reporting system meant the Secretary of State’s office was viewing information that was 15 months old (if operators filed their reports timely and accurately).  When the Kansas cemetery law was amended in 2012, the operator’s annual report was replaced with monthly reporting required from both the operator and the trustee.  The impact of the new reporting requirements were somewhat negated by a change to the abandonment provisions (requiring a proceeding to prove both that reports were not filed and that the grass had not been cut for a year).

In a compromise sought by the Kansas Cemetery Association, the reporting requirements were changed from monthly to quarterly, and the abandonment provisions were changed back to allow abandonment be sought under either condition.  HB 2172 will take effect on July 1st.

While regulators want to determine that care fund contributions are being made when required, recent disciplinary proceedings have been the result of care fund trustees making improper distributions.   Consequently, the Kansas law requires cemetery trustees to file reports directly with the Secretary of State.  Those reports include the determination of distributable income for care funds.   A trustee’s failure to file its quarterly reports could trigger an abandonment proceeding under Section 17-1366.

Kansas’ trustee filings are intended to avoid a situation similar to that reported on the discipline page of the Missouri Office of Endowed Care Cemetery, where a St. Louis cemetery agreed to return almost $190,000 of care fund distributions.

The Fed’s Tapering Plan: A Bumpy Road for Death Care Trusts?

Posted in Compliance, Investments, Master Trusts, Uncategorized

It has been almost ten years since the return on Government bonds fell below 5%.  But bond returns did not hit bottom until four years later when the sub-prime mortgage market collapsed.  Those conditions threatened the nation’s credit markets, and so, in 2008, the Federal Reserve Board initiated a stimulus program involving the purchase of Treasury bonds and mortgage-backed bonds.  For almost six years, the Fed’s stimulus program supplied demand for low interest debt instruments that did not meet most investors’ objectives.  Last fall, the Fed announced its plan to taper the stimulus program by reducing the Federal Government’s purchase of bonds.  While the Fed has taken the position that interest rates may stay low even as unemployment numbers decline, many investment analysts believe rising interest rates are a matter of time.  The rate at which interest rates climb could have a significant financial impact on many death care trusts.

A decade of low yield Government bonds forced many fixed income investors to look elsewhere for returns.  A significant segment of that market includes 401K administrators who manage accounts for retirees. Death care trusts constitute another major investor in Government bonds.  Death care trusts and 401K plans share two crucial investment goals: income and security.  With more baby boomers hitting retirement age, death care trusts will face increasing competition for Government bonds when rates begin to climb.  That demand may play a role in how fast interest rates could rise.

If interest rates experience a gradual increase beginning over the next few years, death care trusts may be able to adapt with little market value loss.  But if interest rate increases rise quickly, the bond holdings of death care trusts could incur significant market value losses if the funds are not actively managed.

When interest rates do rise, bonds with the longer terms will feel the greatest impact from declining values.  The longer a bond’s maturity, the greater its risk is to market value loss when newer bonds with higher yields are issued.  Consequently, the safe and secure investment favored by some states’ death care laws, the long term Government bond, could actually pose a serious risk in terms of value decline.

Some investors can manage market value loss by holding individual bonds to maturity, but this is not an attractive option for preneed trusts that are required to base performance distributions on market value.  Holding an ‘impaired’ bond to maturity would result in a small portion of unrealized value losses being incurred with each contract performed.  In contrast to equities, market value decline of a long term bond will endure for so long as interest rates exceed that bond’s return yield.

Another strategy against bond investment losses would be to keep a substantial portion of trust investments in cash equivalents.  The return on such funds will increase with higher interest rates but there are downsides to this strategy.  Cash equivalents cannot keep pace with inflation, and the trust will lose ground to rising costs of preneed contract performance during the wait for interest rates to rise.

Bonds may be affected most directly when the Fed raises interest rates, but equities aren’t necessarily immune to the Fed’s actions. Companies that did not take advantage of low interest rates by issuing bonds may see their borrowing costs increase, which could cause their stock value to decline. As interest rates become competitive with the return on stocks, the investment demand for equities could also decline.

Fund managers acknowledge that the Fed’s response to the sub-prime mortgage crisis has created a unique investment environment that is difficult to predict.  Preneed fiduciaries accustom to a conservative investment philosophy now face the challenge of how to implement new strategies efficiently and quickly to multiple trusts, many of which may be relatively small.  For one fiduciary client, such circumstances prompted the implementation of a common trust fund.  Another fiduciary client implemented an investment plan to diversify all of its preneed trusts. In the absence of proactive investment management, the next few years could witness an erosion in the value of many preneed trusts.

Qualified Funeral Trusts: once a simple concept

Posted in Master Trusts, Non-guaranteed, Preneed Tax, Taxes, Uncategorized

In has been almost twenty years since the Balanced Budget Act of 1995 introduced the concept of a simplified tax return for preneed trusts.  Initially, the “Qualified Funeral Trust” concept called for a flat 15% tax on accounts with contributions of $5,000 or less.  A conference committee succeeded in getting a higher contribution limitation ($7,000) but the Balanced Budget Act was eventually vetoed by President Clinton.  The 1995 proposal was resubmitted to Congress, and passed, as free standing bill in 1997.  However, the first Form 1041QFT was anything but a simple return with a flat tax.

Instead of a flat tax, the Form 1041QFT included the graduated tax rates imposed on other types of trusts.  The initial tier of trust net income was taxed at 15%, but a preneed trust would quickly climb to the top tier of 39.6%.  As with other trusts, the Form 1041QFT incorporated Schedule D for the reporting of capital gains.  As an alternative to the simple return (and its higher tax liability), the Form 1041QFT allowed a composite return where tax liability was computed on an individual account basis.  When income and expenses were allocated to individual accounts, the size of each such account assured that the lowest tax rate of 15% would be applied.

The Form 1041QFT hasn’t changed much since 1997 except that the Tax Rate Schedule has crept up.  In 1997, when certificates of deposits were paying 5.5%, a modest preneed trust of $250,000 could expect to hit the highest tax rate of 39.6% if it filed a return as the industry had envisioned.  For a trust of $500,000 that had a net return of 4.5%, the trust’s tax liability doubled when a simple return was used in lieu of the composite return.

The IRS hasn’t provided much guidance regarding the Qualified Funeral Trust other than that cemetery merchandise trusts are subject to Section 685 (Notice 98-6) and income and expense allocations to an individual account must cease within 60 days of the preneed beneficiary’s death (Notice 98-66).  To comply with latter notice, many tax administrators use a spreadsheet to allocate income and expenses among the year end active accounts.  So long as the trust was invested primarily in fixed income producing assets, there was no need to address the Schedule D requirements.  Also implicit in this simplified allocation of income and expenses is that all accounts are guaranteed contracts where the seller ultimately pays the taxes.  Serviced contracts have been excluded from income and expense allocations leaving active contract accounts to bear their tax liability.

As we suggested four years ago, trends towards non-guaranteed preneed and diversified investments will complicate the allocations required for Section 685 compliance.  (See our prior post: Non-guaranteed preneed: time to review the duties .)  QFT return preparers will need more than an Excel spreadsheet to properly allocate income and expenses.

Form 1041QFT: Reducing Tax Liabilities

Posted in Uncategorized

Tax day is only a week away, and preneed trust returns will look a little different this year.  As we reported back in December, the IRS took the position that preneed trusts are subject to the Medicare Tax used to fund the Affordable Health Care Act.  Accordingly, Federal Form 1041QFT now requires the reporting of “Net Investment Income” or “NII”.   The NII threshold for the Medicare Tax is $11,950, and most preneed trusts will need to file a composite return to avoid this 3.8% tax.

The composite return requires an individual account to report each character of income and expense, and now a column for “net investment income” or “NII”.   The NII column is also helpful to distinguish an individual account’s gross net income from net taxable income.  With the position taken by the IRS to impose the Medicare Tax on the QFT, preneed administrators can be more confident in applying the Schedule D tax rates on an individual account basis.  For trusts diversified into equities that produce long term capital gains and qualified dividends, the difference between NII and net taxable income could be substantial.

If an individual account’s NII is $2450 or less, long term gains and qualified dividends would not be taxable.  If these two types of income account for half of the trust’s income, the trust’s tax liability is reduced by half.  With a NII threshold of $2450 for the Schedule D rates, most preneed contracts will not be taxable on qualified dividends or long term capital gains.  The challenge for administrators may be documenting that fact.  The Form 1041QFT instructions reference Part V of Schedule D.  It is not practical to prepare a Schedule D for each individual QFT account.

Excess Preneed Funds: The State’s Collection Agent

Posted in Preplanning, Uncategorized

Over the past few months, we have been pressing state officials in Illinois and Nebraska on the issue of who is the state’s collection agent for excess preneed funds.  Is it the funeral director or the funding source (the preneed trustee or the preneed insurance carrier)?

Back in 2010, the Missouri State Board of Embalmers and Funeral Directors ‘adopted’ the policy of MO HealthNet that the funeral home should be the states collection agent.  Illinois and Nebraska seem to be leaning towards making the preneed funding agent responsible.  As counsel for preneed fiduciaries, I have been challenging that duty because of positions like that taken by Missouri and Nebraska on other administrative issues: if trust income is insufficient to pay for an account’s administration, the cost of such services must be charged back to the seller.  With regard to unique services, I disagree.  The costs of collection services should be charged to the excess funds.

If the duty is to be imposed on the funeral home, acting as the state collection agent is not a service that one will find among those included in the non-declinable service charge.  Rather, the state collection services are akin to the services described in FTC Funeral Rule Opinion 13-2, where the funeral home would charge a fee collecting insurance proceeds or trust proceeds.  When funeral directors ask whether they can charge such a fee, it’s difficult to provide a conclusive answer.  Regulators are prone to challenge any fee imposed upon the consumer.  Missouri regulators went so far as to include the following language in their preneed law:

A seller may not require the consumer to pay any fees or other charges except as authorized by the provisions of chapter 333, RSMo, and this chapter or other state or federal law.

If states want either the funding agent or the funeral home to police excess preneed funds, they will have to allow those funds to be tapped for our collection services.

My Preneed Account: Interest Alone Won’t Cut It

Posted in Non-guaranteed, Preplanning, Trust Funded, Uncategorized

Since President Obama unveiled the new MyRA as his plan to revive Americans’ saving habits, we have been making comparisons between funding for retirements and preneed.   Like the MyRA, the non-guaranteed preneed contract could represent more of an introduction to preplanning funding than the final preneed product.  As the AARP acknowledged a few years ago, the guaranteed price contract offers a benefit to the consumer.  However, fewer consumers can afford to purchase their prearrangement without installments.   Low preneed funding returns preclude death care operators from extending price guarantees during installment terms (or from offering any price guarantees).  Consequently, we are seeing a variety of ‘hybrid’ preneed programs that evolve around the non-guaranteed arrangement.  But as critics of the MyRA point out, the new brand of consumers’ preneed accounts cannot survive on interest income alone.

Through the Government Securities Investment Fund (“G Fund”), the MyRA provides a safe, short term savings plan. Chuck Jaffe of MarketWatch suggests that despite such safety, the G Fund has severe limitations as a long term investment vehicle.  While the G Fund is intended to “produce a rate of return that is higher than inflation while avoiding exposure to credit (default) risk and market price fluctuations”, Mr. Jaffe’s analysis shows that the fund has not been keeping pace with inflation as measured by the Consumer Price Index.  Those numbers fall even shorter of the 3% to 4% funeral cost increases reported by industry surveys.

The government bond has long been a staple investment of preneed and care funds, and death care fund managers have been facing difficult decisions whether to assume credit risk (corporate bonds) or market fluctuations (long term government bonds).   The Economic Stimulus Package of 2009 resulted in an extended period of lower government bond rates.  To produce an interest return that paces not only CPI, but also industry cost increases, fixed income portfolios have been forced to assume more exposure to credit (default) risks and/or market price fluctuations.     Now as the Federal Reserve begins to ‘taper’ the program, the value of long term government bonds will decline.  How quickly will depend on the Federal Reserve’s actions.

The court filings made by the receiver for the Wisconsin Master Trust provide a perspective of the preneed fund manager’s dilemma.  Decimated by investment losses and high administrative costs, the program is finding it difficult to produce an “adequate” return from the fixed income market.   But for the Wisconsin Master Trust, the adequacy of investment return does not yet include funeral cost increases or true costs of administration and taxes.

The MyRA critics advise that a true retirement plan must eventually provide an investment return that exceeds inflation.  That cannot be done with an investment plan like the G Fund.  An interest bearing MyPA may serve as a short term introduction to another preneed product, but a viable long term non-guaranteed product will need proactive asset management.