In Wells Fargo Bank v. Estate of Malkin, No. 172 (Del. May. 26, 2022), the Delaware Supreme Court considered two certified questions from the United States Court of Appeals for the Eleventh Circuit. First, the Court considered whether an innocent downstream investor in a stranger-oriented life insurance (“STOLI”) policy who was sued by the deceased person’s estate to recover the proceeds of the policy could assert either a bonafide purchaser defense or a securities intermediary defense under the UCC. The Court held they could not.

STOLI policies exist when a speculator purchases a life insurance policy on the life of a stranger. Under this scheme, if the stranger dies before the value of the premiums paid by the speculator exceeds the death benefit of the policy, the speculator makes money when the policy pays out. The Court explained that such policies are void ab initio in Delaware and will not be enforced. Additionally, 18 Del. C. § 2704(b) allows an estate to maintain an action to recover any benefits paid under a STOLI policy.

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18 Del. C. § 2704(b) is inconsistent with the UCC defenses asserted in the underlying case

The Court held that while 18 Del. C. § 2704(b) is not inconsistent with all common law defenses, it was inconsistent with the UCC defenses asserted in the underlying case. The life insurance policy at issue in the underlying case changed hands many times before the defendants acquired it and thus the defendants argued they were bonafide purchasers for value under the UCC. Additionally, one of the defendants argued that their role was limited to that of a securities intermediary and thus the UCC immunized it from liability. The Court explained that the UCC sets out that both defenses only operate against an adverse claim. The UCC defines an “adverse claim” as a claim that a claimant has a property interest in a financial asset and that it is a violation of the rights of the claimant for another person to hold, transfer, or deal with the financial asset. The Court held that because STOLI policies are void ab initio, no one can have a “property interest” in a STOLI policy or its proceeds. Thus, an action to recover proceeds under 18 Del. C. § 2704(b) is not an “adverse claim” and the UCC defenses are thus inapplicable.

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However, innocent downstream investors in a STOLI policy may recover the premiums they paid if they prove entitlement to the premiums under a viable legal theory

The Court held that when an innocent downstream investor in a STOLI policy is sued by an estate under 18 Del. C. § 2704(b), they may recover the premiums they paid if they can prove entitlement to the premiums under a viable legal theory, such as unjust enrichment. The Court explained that 18 Del. C. § 2704(b) does not foreclose the assertion of common law counterclaims and a claim for unjust enrichment does not facially violate Delaware's long-standing policy of preventing STOLI policies from paying out to investors. However, the Court noted that if the defendant had an adequate remedy at law via a claim against the entity that sold them a STOLI policy, the defendant would not be able to demonstrate they were entitled to a restitutionary offset against the estate for premiums.