If you’re like many permanent life insurance policyholders today, you’ve probably noticed that your policy is hardly earning anything right now. This is because of the low-interest-rate environment, and it shows no sign of changing anytime soon.
That’s why it might make sense for you to sell your life insurance policy to a qualified buyer to earn some real money upfront. It is certainly a preferable alternative to letting your policy lapse. It is also probably much more convenient than having to sell other types of assets such as real estate in order to generate cash. When you sell your insurance policy, you can use the cash payout in any way that meets your financial planning goals, whether that means buying an annuity or paying for long-term care costs.
Whether you no longer have an insurable interest, are tired of paying the premiums, or just need cash now to pay for long-term care or other bills, the sale of a life insurance policy can net you, as the insured, a substantial sum of money in short order. You may just get enough to keep you from having to qualify for Medicaid. Here we will discuss how life settlements work, the parties that are involved, their history, and even taxation.
Does my life insurance policy qualify for a life settlement?
Generally speaking, all types of life insurance policies can qualify for a life settlement. Permanent life insurance policies, including whole life insurance, universal life policy, or variable universal life insurance policy are the most likely to quality for a life settlement. Your policy’s death benefit also usually needs to be at least $50,000 or more before a life settlement company will consider purchasing it.
If you own a term life insurance policy, then the specifics of your policy insurance contract are more important, in particular, whether your policy is a convertible term policy. This type of term policy can be converted into a permanent life insurance and then sold. Many life settlement companies also require you to have owned your policy for at least two years.
How a life settlement transaction works
What is a life settlement? A life settlement is the sale of an existing life insurance policy to an unrelated third-party for cash consideration. The life settlement process is fairly straightforward. Of course, the first step in the process is determining your eligibility for a life settlement. The next steps to selling your policy are listed as follows:
1. Contact a life settlement company
If your cash value life insurance policy qualifies to be sold, then you will simply notify one or more life settlement providers or other third-party investors that you wish to sell your policy.
These companies are often backed by institutional investors (not individual investors) who purchase life insurance policies as a form of investing. The policies that these investors purchase are called stranger-originated life insurance (STOLI), because the investors have no insurable interest in any of these policies.
You can also hire a life settlement broker to help you with this process.
What does a life settlement broker do?
A life settlement broker can act as an advisor to a potential seller. He or she will know which settlement companies pay the most for their policies and what their procedures are. A broker can then act as the go-between for both the buyer and the seller (the insured).
2. Provide a copy of your information
The life settlement company will ask the insured person (you) for a copy of the policy along with all pertinent medical records, a list of health care providers, and any other relevant personal information.
3. Wait for the company to determine the market value of your policy
The life settlement company underwriters will use this information to calculate the current market value of your policy. The underwriting department will use the estimated expectancy of the insured’s life in this calculation along with the policy’s cash surrender value and the amount of the death benefit in order to determine the value of the policy.
4. Evaluate their offer
The life settlement company will come back to you with a hard offer to buy your life insurance policy. This payout will generally be two to three times the amount of the cash value or cash surrender value in your policy but less than the face value.
5. Accept the offer or explore other options
If you accept the cash payout price that they are willing to pay, then you will sign the life settlement contract assigning ownership of your policy over to the life settlement company. You will also need to notify your insurer that you are doing this.
6. Collect a lump sum cash payment
The life settlement company will pay you the life settlement proceeds with a lump-sum cash payment for your policy. You can use this money for anything you want or need.
7. The life settlement company will take ownership of the policy
The life settlement company will assume the responsibility of paying the annual premium payments for the policy. It will also name itself as the new primary beneficiary on the policy. You are unconditionally released from having to pay any future premiums, which the life settlement company will cover until the death of the insured (you). Upon the death of the insured, the company will also collect the death benefit of the purchased policy.
It’s important to know that your original beneficiaries will get nothing when you die, at least from the policy you sold. For this reason, it is important for you to thoroughly discuss the ramifications of selling your policy with your beneficiaries, family members, and other loved ones.
If your policy has accelerated death benefit riders, then you need to compare the benefit amounts of those riders against the amount you’ll get if you sell your policy. Selling your life insurance policy will typically require some additional financial planning on your part.
How does life expectancy impact my life settlement?
In a nutshell, your life expectancy is simply the length of time that you are expected to live. The life settlement company will determine your life expectancy, based on your health status, using actuarial tables. These tables will most likely closely match the actuarial tables that your life insurance company used when you first bought your policy. If you are in poor health, then you will have a shorter life expectancy than if you are fully healthy.
As a result, a 60-year-old policy owner with cirrhosis of the liver, high blood pressure, cholesterol, and triglycerides will probably get a higher offer than someone who does not have those maladies because the ailing one will have a shorter life expectancy. The settlement company can therefore collect the face amount of the policy much sooner, thus increasing the rate of return for the company.
Do I qualify for a viatical settlement?
Viatical settlements are a specialized form of life settlements that are designed for medical patients with terminal illnesses. If a terminally ill patient can produce an affidavit signed by a doctor that says that the patient has two years at most to live, then the patient will most likely qualify for a viatical settlement.
This type of settlement typically pays more than traditional life settlements because of the patient’s short life expectancy. The actual process of a viatical transaction is materially the same as for a traditional settlement.
What are the tax implications of a life settlement?
The tax rules for life settlements were somewhat murky until Congress passed the Jobs and Tax Cuts Act of 2017. This legislation breaks down the taxation of life settlements into three separate tiers as follows:
- The amount of money that is received in the settlement that equals the total amount of premiums paid into the policy is considered a tax-free return of principal.
- The amount of money that is received in the settlement that equals the amount of cash value that exceeds the amount of premiums paid is taxable income. This means that this money will be taxed at the insured’s top marginal tax rate.
- Any money received that exceeds the amount of cash value in the policy is taxed as a long-term capital gain.
Viatical settlements are generally tax-free as long as certain criteria are met. The buyer has to be a regular buyer of life insurance policies as its primary line of business, and the insured cannot have a life expectancy of more than two years. Other conditions apply as well.
How long have life insurance settlements been around?
In 1911, the U.S. Supreme Court unanimously agreed in the case of Grigsby v. Russell that life insurance policies were tangible assets that could be sold in the secondary life settlement market. This secondary market remained largely unregulated in the United States until recently, and the tax rules and other factors pertaining to these early transactions were very much open to interpretation.
But the life settlement industry is much more organized and regulated now than it was before, with regulations focused on providing consumer protections. The state insurance departments and the National Association of Insurance Commissioners (NAIC) acts as the primary regulatory bodies for viatical settlements. Many life settlement companies offer complete turnkey programs that can get insureds their money in just a few weeks. But some transactions take three to four months to complete, depending upon the circumstances of the insured.
Several different organizations now oversee all life settlement transactions in the interest of ensuring that insureds are fairly compensated for their policies while policing life settlement companies that violate the rules. The Life Insurance Settlement Association (LISA) is one of these entities. The National Association of Insurance Commissioners is another. The IRS also has its own set of tax rules for life settlements that must be met in order for them to receive preferential tax treatment.
Get a free valuation of your life insurance policy
Life settlements can give insureds more money for their life insurance than any other method of withdrawal. The amount that is paid will exceed the amount of cash value in the policy by a substantial amount, usually three to four times more. But insureds need to pay special attention to how life and viatical settlements are taxed by their state of residence as well as any other laws that affect these transactions.
Consult your financial advisor, life insurance agent, or tax advisor for more information on life settlements and whether one is right for you. Also remember that transaction costs can vary by state and settlement company. To find out how much you could sell your policy for, try our instant life settlement calculator. You can also call Q Capital at 866-679-9410, contact us here, or email us info@qcapital.com to discuss your situation. Our team is available and ready to explain to you all that you would want to know about life settlements.
Remember: Never abandon a life insurance policy without looking at the life settlement option first!
Author: Steven Shapiro
Steven Shapiro is the founder of the Company and also the President and CEO of Q Capital Strategies, LLC and Life Settlement Solutions LLC. Steven has been active in the life settlement industry for the last 18 years. In addition to his life settlement experience, Steven has expertise in strategic consulting, investment banking advisory services, and private equity investing. Steven holds a B.A. degree in economics from the University of Pennsylvania and an M.B.A. in finance and entrepreneurial management from The Wharton School of the University of Pennsylvania. Steven is also the immediate past Chair of LISA (having previously served as Chair), the Life Insurance Settlement Association, the oldest and largest trade organization in the life settlement industry.
