Insurance companies and surety providers alike should be wary of clients seeking to purchase lost instrument surety bonds as a result of the recent ZeekRewards fallout.
The U.S. Securities and Exchange Commission (SEC) shut down investment company ZeekRewards.com on August 17 under the allegation it was operating as a $600 million online Ponzi scheme.
Stephen Cohen, an associate director in the SEC’s Division of Enforcement, said in a press release that “ZeekRewards misused the power of the Internet and lured investors by making them believe they were getting an opportunity to cash in on the next big thing. In reality, their cash was just going to the earlier investor.”
Because they want to avoid losing money, those who issued payments to ZeekRewards are looking for ways to stop payment on their checks immediately. Also because they want to avoid losing money, some banks have refused to cancel ZeekRewards checks until investors provide a lost instrument bond. By requiring this type of bond in this situation, banks are essentially reappropriating the bond’s purpose in a way that could result in huge losses for underwriters.
How Lost Instrument Bonds Are Meant to Work
When a financial certificate, such as a check, is lost, a financial institution can issue a replacement for it. Before doing so, however, the financial institution typically requires the client to file a lost instrument surety bond in case the original certificate later resurfaces and is processed for payment. The bond’s funds can be used to reimburse an institution if a replacement check is issued but the original check is still processed later on. This keeps the bank from losing money if it has to make the same payment twice.
How Lost Instrument Bonds Are Being Used for ZeekRewards Investors
In this case, the checks these bonds are backing aren’t actually lost; banks are just trying to prevent having to pay for the same check twice: once to the investor (by cancelling the check) and once to ZeekRewards if the check is actually processed. As such, the potential for financial loss is simply being transferred from investors and banks to the insurance companies that back the bonds.
This means underwriters that issue lost instrument bonds to ZeekRewards investors risk losing the bond amount. In the past few days alone, insurance companies have issued hundreds of lost instrument bonds for ZeekRewards investors, which could mean big losses for underwriters as the situation continues to be legally sorted out.
Check back soon for updates on this situation.