Life Settlement Considerations

A life settlement is the sale of a life insurance policy by the insured person to a third party for a cash payment. The third-party purchaser becomes the owner of the policy, pays all future premiums owed on it, and collects the death benefit when the insured person dies.

A life settlement differs from a viatical settlement, which is a sale of a life insurance policy to a third party by a terminally ill insured person. With a life settlement, the insured person’s health is fine or just beginning to decline.

There are many reasons why a person may sell his or her life insurance policy, but the most common is a need for immediate cash. Although life settlements have become a common financial planning tool, they may also be an avenue for fraud or scams focused primarily on seniors.

Many state insurance departments regulate the viatical settlement market, including life settlement transactions.

LIFE SETTLEMENTS

A life settlement is when a person insured by a life insurance policy sells his policy to a third party, often an investment company. The investment company pays a percentage of the policy’s value in a lump sum cash transaction to the insured. The company becomes the owner and beneficiary of the policy, meaning it pays all future premiums owed and collects the death benefit when the insured individual dies.

In deciding whether to purchase the policy from an insured, the investment company considers the policy’s value, the insured person’s age and health, the amount of premiums payable to keep the policy in force, and when the policy will generate a profit.

Life settlements differ from viatical settlements, in which the insured person selling his policy is terminally ill. With a life settlement, the insured person is either healthy or recently experienced a decline in health.

Reasons to enter a Life Settlement

There are numerous reasons a person may decide to sell his or her life insurance policy. The most common is a need for immediate cash. Some reasons a person may want to sell his policy include the following:

  1. the policy is no longer needed or wanted
  2. to pay for long-term health care
  3. the premiums are unaffordable
  4. no beneficiary (e. g. , beneficiary dies and the insured person has no one else in mind to make as beneficiary)
  5. to receive more money than the cash surrender value of the policy
  6. there is a forced liquidation due to financial hardship or bankruptcy; or
  7. there is a change in estate planning needs.

Options

A life settlement is an alternative option to surrendering a policy or letting it lapse by not paying premiums. Often a person no longer wants to maintain life insurance, even though it has monetary value. A life settlement allows the person to extract at least some value.

Alternative life settlements include taking a loan against the policy cash value or, if the policy has one, make use of an accelerated death benefit provision. An accelerated death benefit pays the insured person a portion of the policy’s death benefit in either a lump sum or installments. This amount is subtracted from the death benefit payable when the insured dies, but provides cash that may be needed for current expenses. The accelerated death benefit is pretty much like entering a life settlement with the company that issued the policy.

Things to think about

Consider several questions before selling your life insurance policy:

1) Do you need life insurance protection

2) Will you qualify for a new life insurance policy in the future

3) Will you lose eligibility for Medicaid if he receives a cash settlement

4) Are the broker and investment company licensed.

Selling a policy may have tax implications, creditors may be able to claim the proceeds, and the insured may have to divulge his or her health status and personal information about himself and his family to the investment company.

Because of the possibility for fraud, it's useful to be sure the buyer deposits the settlement proceeds in an escrow account with an independent bank to ensure the safety of the funds during the policy transfer.

Questions about Life Settlements