GAO-01-990R Briefing Slides on Insurance Scam

August 2, 2001

The Honorable Michael G. Oxley

Chairman

Committee on Financial Services

House of Representatives

Subject: Briefing Slides on Martin Frankel's Alleged $200 Million Insurance

 Scam

As you requested, this report transmits to you our briefing slides describing insurance

regulatory oversight and information sharing in the matter of a highly publicized insurance

investment scam exposed in May 1999. (See enclosure I.) These slides present the results

of our report Insurance Regulation: Scandal Highlights Need for Strengthened Regulatory

Oversight (GAO/GGD-00-198, September 19, 2000). We used these or similar slides in, at

last count, 15 briefings to various federal and state officials and national organizations.

Enclosure II lists the various organizations and dates on which the presentations were made.

These slides detail the alleged embezzlement of more than $200 million in insurance

company assets over nearly an 8-year period by Martin Frankel and associates. Mr. Frankel,

a former securities broker who was barred from that industry in 1992, allegedly migrated to

the insurance industry and continued to operate as a rogue by engaging in illegal activity.

The specific objectives of these briefings were to (1) outline the alleged scam and (2)

describe weaknesses in oversight and information sharing by insurance regulators.

Throughout the 1990s, Martin Frankel, with assistance from others, allegedly obtained secret

control of entities in both the insurance and securities industries. He is alleged to have

anonymously acquired and controlled insurance companies in several states and, despite

being barred from the securities industry, to have exercised secret control over a small

securities firm. Using the name of this securities firm, Mr. Frankel allegedly took custody of

insurance company assets and provided false documents on investment activity to disguise

his actual purpose. Instead of managing these assets in a prudent manner, he allegedly

diverted them to other accounts he controlled and used them to support the ongoing scam and

his lifestyle. The scam was finally exposed after insurance regulators in Mississippi took

enforcement action against three of the Frankel-connected insurers by placing them under

regulatory supervision.

Weaknesses in key insurance regulatory oversight activities, extending over several years,

contributed to delays in detecting the investment scam. We found inadequate tools and

measures for assessing the appropriateness of insurance company purchasers, analyzing

securities investments, evaluating the appropriateness of asset custodians, verifying insurers'

assets, and sharing information within and outside the insurance industry. We also found

United States General Accounting Office

Washington, DC 20548
2 GAO-01-990R Briefing Slides on Insurance Scam

some weaknesses in support services provided by the National Association of Insurance

Commissioners (NAIC), a voluntary association of state insurance regulators. NAIC

weaknesses included weak interstate coordination and weak oversight of entities controlled

by holding companies. We also found gaps in controls that would prevent migration of

unscrupulous securities brokers to other financial services industries.

Our September 2000 report (see enclosure III) included recommendations to help prevent or

detect similar investment scams in insurance companies by proposing the adoption of

appropriate asset custody arrangements, improved asset verification procedures, and the

sharing of confidential regulatory information across industries and agencies. The report also

contained recommendations designed to broaden and help sustain cooperation among

regulators of different financial sectors. Agencies responding to the report generally

concurred with the report's findings, conclusions, and recommendations. We also suggested

that Congress consider requesting periodic status reports on regulatory progress and plans in

these areas. Such reports would enable Congress to monitor progress and would encourage

states to adopt needed reforms.

We plan no additional distribution of this report. However, we will make the report available

to interested parties on their request. If you or your staff have questions regarding this report,

please contact me at (202) 512-8678 or Lawrence D. Cluff at (202) 512-8023. Key

contributors to this report are acknowledged in enclosure IV.

Sincerely yours,

Richard J. Hillman

Director, Financial Markets

 and Community Investment

Enclosures-4
3 GAO-01-990R Briefing Slides on Insurance Scam

Enclosure I

Briefing slides

Insurance Regulation: Scandal HighligNeed for Strengthened Oversight

• What happened?• What are the regulatory weaknesses?• What is being done to minimize future problem
The $200 Million Insurance Scandal

 What happened?

What Happened: Major Events1. 1985-1988: Mr. Frankel works in securities ind

fired from two firms for differences with managand activities leading to an SEC investigation.

2. December 1989: SEC begins investigation of 

Frankel for omissions and misstatements to inabout his investment practices.

3. August 1992: Mr. Frankel settles with SEC an

permanently barred from the securities industr

4. August 1991: Liberty National Securities regis

Tennessee and is allegedly controlled by Mr. F

(continu
What Happened: Major Events5. September 1991: Mr. Frankel allegedly forms 

Trust using nominee grantors and files applicalater buys a Tennessee insurance company.

6. February 1994-March 1995: Thunor Trust pur

four more insurance companies domiciled in MOklahoma, and Missouri.

7. February 1998: Thunor Trust purchases an in

company domiciled in Alabama.

8. February 1999: Thunor Trust purchases an in

company domiciled in Arkansas. 

(continu
Overview of the Scandal 1998 - 19999. Late 1998: Tennessee and Mississippi insuran

regulators become suspicious of insurers’ asse

arrangements.

10. Early May 1999: Mr. Frankel flees the U.S.11. September-October 1999: Mr. Frankel is arre

Germany and indicted in federal court in Conn
What Happened: The Scam

• Frankel gains secret control of a small securitie

and creates a phony trust to purchase an insur

• He converts insurer assets to cash--supposedl

custody of the securities firm for T-bond trading

• Instead, he steals cash and launders through s

accounts.

• Hides theft with false trading records, a stream 

trading 

“profits,

” and complicity of co-conspirato

controlling the insurance firm.

(continu
What Happened: The Scam• Ultimately, Frankel buys six more insurers and 

their assets, each time using previously stolen buy the insurers, maintain the scheme, and sulavish lifestyle.

The Conspirators• Frankel: The alleged mastermind. Jailed in G

in September 1999 and subsequently pleaded German tax evasion. Returned to U.S. in Marcface federal charges of wire fraud, money launsecurities fraud, racketeering, and conspiracy.

• Hackney: Front for insurance activities. In Se

2000, pleaded guilty to RICO conspiracy and mlaundering. Forfeited assets obtained illegally.

• Guyer: Front for securities activities. In Septe

2000, pleaded guilty to securities fraud and tax 

• Others have pleaded guilty or are under invest
The $200 Million Insurance Scandal

 What were the regulatory weaknesses?
The Regulators• Six state insurance regulators had primary juri

over Frankel’s various companies and used re

support services provided by NAIC.

• SEC, NASDR, and state securities regulators 

jurisdiction of the securities firm.

• Scam went undetected by regulators for many yea
Regulatory Weaknesses -- Summary• Weaknesses throughout the insurance regulat

process

– inadequate oversight of changes in owners– weaknesses in routine financial analyses– shortcomings in on-site examinations.

• Repeated instances of inadequate tools, polici

procedures, and information sharing.

• Underlying theme: insufficient professional sk
Change in Ownership• Inadequate due diligence -- trust arrangement 

unique investment strategy not questioned.

– Trust named Mr. Hackney as irrevocable tr– Trust arrangement left supposed 

“grantors

” 

control over their money.

• Inadequate background checks -- e.g., no regu

criminal history checks.

• Lack of coordination both intra- and inter- indu

e.g., interstate coordination not timely.

– Arkansas regulators were unaware of prob

Thunor Trust insurers found in other states
Weaknesses in Routine Financial Anal• Inadequate analysis of securities investments 

example, missed asset turnover ratios.

 (continue

Routine Financial AnalysesIneffective mechanisms to safeguard and monito

held by other entities -- e.g., poor asset custodpolicies and procedures.

-Missed or ignored disclosures on annual and 

statements that bonds were held by broker an authorized trust or depository.

Inadequate securities-related expertise and infor

gathering -- e.g., no communication with state regulators.

-State securities regulators across the hall ha

information about the real Liberty NationalSecurities.
Weaknesses in On-site Examinations• Failure to detect misappropriation of assets -- 

example, inadequate assessment of investmestrategy.

– Four full on-site examinations completed a

exam targeted on the investment strategy.

– Examiners did not realize that the assets h

looted. 

(continu
Weaknesses in On-site Examinations• Inadequate practices and procedures to verify 

legitimacy of asset custodians -- for example, independent verification.

– No effort to identify and verify the legitimac

broker who supposedly had custody of the 

(continu
Weaknesses in On-site Examinations• Limited sharing of information and coordinatio

regulators. For example, no proactive alerts to states.

– When some states began to suspect a pro

failure to communicate with other states led additional $50 million in losses.
The $200 Million Insurance Scandal

 What is being done to minimize future pro
What is Being Done to Minimize FutureProblems?• GAO recommendations• Ongoing NAIC corrective actions/plans• Congressional activity
Summary of GAO Recommendations

• State insurance regulators: Improve asset

verification methods and information sharin

• NAIC: Implement proposed corrective acti

strengthen accreditation program.

• SEC: Improve information sharing with ins

regulators and help prevent the migration o

• FBI and insurance regulators: Establish a 

conducting criminal checks on industry app
Ongoing NAIC Corrective Actions/PlanStemming From Frankel Matter• Strengthen guidance for investment activities.• Set threshold for flagging asset turnover ratio • Improve asset custodian interrogatories and re

procedures.

• Design/implement Form A database.• Require prior notification on significant reinsur

transactions.

• Improve timing of exams/greater use of targete• Improve use of Part I accreditation in reviews.• Develop proposed federal fingerprint legislatio
Congressional Activity• March 6, 2001, hearing by House Financial Se

Committee to begin considering:

• Fingerprint checks in the insurance industr• Improved efficiency in sharing of criminal a

regulatory history information among regula

• More efficient public access to data already 

public domain. (continue
Congressional ActivityH.R. 1408 introduced April 4, 2001

• Purposes: safeguard public from fraud,

improve/streamline regulatory coordinationduplicative information requests, help detecof fraud, and take advantage of advanced dsharing technology/internet.

• Create Antifraud Subcommittee to coordina

and information sharing by regulators.

• Allow SEC to consider disciplinary actions 

regulators.
28 GAO-01-990R Briefing Slides on Insurance Scam

Enclosure II

Insurance Regulation: the Need for Strengthened Oversight

Table 1 shows the various organizations to which we have presented our briefing Insurance

Regulation: The Need for Strengthened Oversight.

Table1: List of Organizations and Date Receiving GAO Briefing Insurance Regulation: The

Need for Strengthened Oversight.

Organizations Date

GAO Advanced Fraud Training October 12, 2000

Women in Housing Finance October 19, 2000

New York Insurance Department December 12, 2000

Federal Bureau of Investigation-Economic Crimes Unit December 13, 2000

North American States Securities Associations January 22, 2001

New York Insurance Department Property and Casualty Division January 22, 2001

Morgan Stanley January 22, 2001

Connecticut Insurance Department January 23, 2001

International Insurance Council January 29, 2001

National Association of Insurance Commissioners Anti Fraud

 Taskforce

March 26, 2001

Tennessee Insurance Department March 27, 2001

Tennessee State Auditors March 27, 2001

Texas Insurance Department April 25, 2001

Casualty Actuarial Society May 8, 2001

Boston Federal Reserve Bank Risk Management Conference May 11, 2001
29 GAO-01-990R Briefing Slides on Insurance Scam

Enclosure III

INSURANCE REGULATION: Scandal Highlights Need for Strengthened Regulatory

Oversight

www.GAO.gov GAO/GGD-00-198
30 GAO-01-990R Briefing Slides on Insurance Scam

Enclosure IV

GAO Contacts and Staff Acknowledgments

GAO Contact

Lawrence D. Cluff (202-512-8023)

Acknowledgments

In addition to Mr. Cluff, James R. Black, Thomas H. Givens III, Rosemary Healy, Barry A.

Kirby, Katherine Raheb, Paul G. Thompson, Karen C. Tremba, and Desiree W. Whipple

made key contributions to this report.

(250036)