What is a life settlement?

A life settlement is the sale of an existing insurance policy on the secondary market for a one-time cash payment. This could potentially be a good decision because the payment will be more than the cash surrender value of the policy but less than the actual death benefit. After the sale, the purchaser becomes the policy’s beneficiary and assumes payment of its premiums. By doing so, they receive the death benefit when the insured dies.

The appropriate use of this sales strategy for a consumer is when they have enjoyed the benefits of their policy for many years and find themselves not seeing a purpose for the protection any longer. Additionally, they may not wish to have the expense of the premium (if one is required) and most importantly they can receive additional money over and above their current cash surrender value (the equity in the policy).

As with most things, the devil is in the details, and there is more to consider.

What is your current life expectancy?

The longer your life expectancy the less money you will be offered for the policy. The offer made by the life settlement company is a negotiation and is based on actuarial assumptions. 

What are the tax considerations?

This is a very important factor to take into account when determining if the transaction will be favorable for your circumstances. Keeping the policy will preserve the favorable tax treatment you can enjoy with the policy, however, you must feel certain the policy will stay in force if you use money through the loan provision (which is tax-free) because if the policy subsequently lapses you will be taxed on everything you received above your cost basis. 

Once a life settlement transaction is completed you will be taxed on the gain.

For example, if you have paid $50,000 into a policy and it is worth $70,000 in cash surrender value and you are offered $100,000, $20,000 of the profit will be taxed as ordinary income and the additional $30,000 will be taxed as a capital gain.

The decision as to whether or not this transaction makes sense for you is based on math and your wishes as to who you want to benefit from the policy’s proceeds. If you want to enjoy the benefits of the policy more than your beneficiaries it may be better to do a life settlement transaction, however, if you want to provide a legacy for your beneficiaries keeping the policy will probably make more sense.

Life settlements can be a great alternative to keeping a policy once the protection is not a primary concern of yours, but like all financial decisions you can never say never, never say always, it depends!

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The IFW provides valuable financial education, resources, and services that help people live their best life. 

Please remember, be mindful of the messenger that positions certain products or services as “always” bad or “always” perfect.  The fact of the matter is there are no “bad products” or “perfect products”.   The right product is the one that aligns with your goals and objectives. 

The Institute of Financial Wellness believes when it comes to financial decisions; never say “Never” never say “Always”…It Depends.