Occasionally a senior who owns a permanent life insurance policy with cash value will decide that the policy is no longer needed. Lives and goals change and the once important purpose for this policy may no longer be.
When this happens most policy owners either stop paying the premium and receive the cash value from the policy or if the premium payment has become a burden, they work with the insurance company to lower or eliminate the premium in exchange for a reduced death benefit.
For many of these folks, there is a third option, a life settlement.
A life settlements company is a third party that buys the insurance policy from the insured for a higher price than the cash value of the policy. The life settlement company continues to pay the premium and becomes the beneficiary of the policy when the insured dies.
Often, a life insurance agent will shop the client’s policy to a variety of life settlement companies. These life settlement companies value each insurance policy using a variety of factors including:
• The gender, age and health of the insured—to determine life expectancy.
• The size and type of insurance policy—to help determine payout amount.
• The annual payments required to maintain the policy—to manage cash flow.
Then, the companies make independent bids for the policy. Almost always these payment amounts are meaningfully higher than the cash value of the policy. The policy owner picks the best offer and can use the money however he or she sees fit.
The creation of the life settlement business is the result of a 1911 U.S. Supreme Court decision where Chief Justice Oliver Wendell Holmes and the rest of the court agreed that a life insurance policy is a capital asset that is similar to a home, car or an investment portfolio. After the initial placement of the policy, the policy owner does not need to have an “insurable interest” in the insured.
Keeping the policy
Of course, if the cash value is not needed to fund current expenses, it may be wise to hold the policy until death for the death benefit, which will likely be much larger than the life settlement offer or current cash value. If the originally intended beneficiary no longer needs the proceeds of the policy, the beneficiary could be changed to a non-profit organization or community foundation. It’s also important to remember that death benefits from life insurance are generally tax free to the beneficiary (although they are not tax free to investors in life settlement funds.)
Understanding the options of your existing policy is an important first step. Exploring non-traditional options to meet your current financial needs may be a valuable next step.
Before you make a decision, you should speak to your insurance agent, accountant and/or financial advisor to understand the impact on your financial security now and in the future.
~ Brooks, Hughes & Jones, Partners in Wealth Management, Tacoma, WA
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