Betty White makes it sound so easy to sell your life insurance policy for cash, so you can enjoy the proceeds in later years or use them for financial emergencies. However, no centralized exchange exists for these ‘Life Settlement’ transactions, as they are called. To get a fair payout after all those years of paying premiums, you will have to do a little homework.
Life settlement transactions are so profitable to everyone along the process that private equity, hedge and pension funds are all rushing to buy more policies from aging Baby Boomers. (Today the market has reached over $35 billion; in 2002, it was worth only $2 billion.) You want the greatest payout, so the question is: do you sell direct, or do you go through a broker? Let’s look.
Simply put, a life settlement is when a policyholder sells his or her life insurance policy to a third party for some amount of money. This may be done because the original purpose for the policy no longer exists (such as a spouse having preceded the policyholder in death), the premiums are no longer affordable or the policyholder needs cash to cover expenses.
In a life settlement, the policyholder gets more than the surrender value the insurance company would pay if the policy were turned in but much less than the face value of the policy. The buyer of the policy will get the face value amount, after paying the premiums until the policyholder dies. The buyer’s risk/reward depends on how well the policyholder’s longevity is estimated.
As many of the Baby Boomers reach their 60s and 70s with limited retirement funds, tens of billions of dollars of life insurance policies are lapsing each year for lack of premium payment. A secondary market has emerged, with hedge funds and investment houses stepping in to capture that profitable cash flow. A network of brokers has also emerged.
Typically, your insurance would have to be Whole Life, Universal Life, Variable Universal Life, Term, Convertible Term or Second-to-Die. The face value would be over $100,000, and you would have had the policy for over two years. You would be over age 65, but usually closer to 75. The sales process is complex, so many people use life settlement brokers who have a fiduciary responsibility to you, the seller. They bring value by taking your policy to more potential buyers, but they also take a healthy percentage of the proceeds.Another option is to go directly to a life settlement provider, who works for the buyer or could be the actual buyer.
Upon the sale of your policy, you would receive a lump sum, net of all commissions and fees. Depending on how much you had paid in premiums over the years, some of the payment could be taxable as capital gains or income. Consulting your tax advisor is suggested.Also, if you receive any public assistance, a life settlement can affect your eligibility to receive that assistance.
One downside to life settlements is knowing someone is betting that you die quickly. More important is the fact that your medical information, which helps determine the assessed value of the policy, is no longer under your control, especially if one buyer sells to another. Despite those inconveniences, a life settlement may make sense if you understand how it works, agree with what you will be paid, and are relieved of some heavy financial burden.
You have always had the option of surrendering certain life insurance policies to the company that issued them, for a payout called it's ‘ surrender value.’Also, the right to sell your policy to third parties has been in place since the early 1900sbut did not start growing to today’s popularity until the aging Baby Boom generation began dropping life insurance policies because of their inability to continue paying the premiums.
A full industry has built up around this opportunity, offering profitability to those investors able to buy out the policies, commissions to the go-between brokers and more generous payouts to seniors than they would otherwise receive. Despite the high transaction costs involved, the liquidity can be very important to seniors who no longer have the original motivation to hold on to policies, especially if funds are tight and premiums are consuming too large a part of monthly budgets.
Finding an acceptable payout for the sale of a life insurance policy means having:
- Cash now, when it is needed, for the senior who had paid the premiums over the years;
- The ability to remain independent at home if finances have put that option at risk;
- Funds to cover the costly caregiving expenses for a loved one;
- An alternative to receiving the lesser surrender value the insurance company would pay if the policy were simply surrendered; and
- Myriad other ways to lower the stress of financial difficulties.
However, for any of this to happen, it is vital that you become familiar with your life insurance policy and with the life settlements industry as you shop your policy in search of the best offer. You will want to deal only with reputable and licensed buyers and brokers, and never pay anyone a fee in advance for a consultation or for helping you locate a buyer.
There is a long list of elements you will want to research before selling an existing life insurance policy as a life settlement. Your first criteria will be the cost of the transaction (that is, what fees will be charged), then how easy a successful transaction is to complete, what options you have if you change your mind midstream and how accessible and supportive the company’s customer representatives will be if you have questions or concerns.
If working with a company, you will want to know its age requirements, if it offers estimates, how long the company has been in business, if it offers online tools, if it is a direct buyer or an intermediary in the sale of your policy, and by whom the company is accredited.
A life settlement is not a transaction to be taken on lightly. First, you will want to be certain selling your life insurance policy is not going to leave a loved one at risk, especially if you can afford to maintain the policy some other way.
Your options: You may consider handling the sale yourself, although the process of ‘packaging your policy’ is complicated by having to collect medical records from all your attending physicians, verify policy premium schedules and coverages from your insurer and acquire a formal life expectancy report. You must then figure out to whom you can offer the package to maximize your payout, contact them, propose your policy and follow up until you have an offer or a turndown.
One option is to go to life settlement providers, who work with or are buyers. Another is to use online platforms that match sellers and buyers. A third option is to go to life settlement brokers. While brokers take a healthy portion of the payout they obtain for you, it is said that their fee is compensated by the increase they obtain in gross payout. That may or may not be the case. You will want to become familiar with the calculations on all the options before deciding how to proceed.
Someone may solicit you to sell your life insurance policy. In that case, be certain you know their role in the transaction. Is that person a broker representing you in the transaction, or somehow linked to a specific life settlement provider or investor company? Someone linked to a company will not be shopping your policy to get you the best payout, so you will have no way to know if you are getting a good deal. A broker may be a better option in that case.
Regarding brokers: For life settlement, no national or federal regulations exist. If you opt to use a life settlement broker, once you choose one you will want to determine if that broker is licensed in your state. Your state’s insurance commissioner should be able to answer that question and notify you of any complaints. Not all states require such brokers to be licensed, so you would want to look for adherence to organizations like the National Association of Insurance Commissioners (NAIC) Standards. Some states (such as Texas, Pennsylvania, Florida and Ohio) have strict licensing requirements, so if your broker is licensed in at least one of those states, it bodes well for you wherever you are.
Estimate how much pressure you feel the broker will put on you to make a quick decision. The sale of a life insurance policy is not one to be made under high-pressure tactics or aggressive marketing. Be certain the person you are working with has no fixed relationship with a provider, is willing to answer all your questions to your satisfaction and allows you the time to decide comfortably. A broker needs to earn his or her percentage.
Also, find out the broker’s expectations on turnaround time for the life settlement transaction and be sure that timing works with your requirements. Turnaround is often about 6-12 weeks after the sales process begins. However, the greatest delay may come from a requirement for a full medical examination or the collection of existing medical exam results.
Privacy: Whoever you sell to or through, you will have to provide medical records and sign for their release since the value of your policy is predicated on that information. You will want to read any application carefully: you may need to provide periodic health updates and a buyer may share that personal information with lenders, future buyers or investors if your policy is resold.
You may feel somewhat reassured by asking what will be done with your policy: will it be sold as an individual standalone policy or will it be bundled with others and resold to investors, as was done with mortgages in the early 2000s? Does the company have confidentiality measures in place? Can it be certain those measures will be respected in future sales? Again, your state insurance commissioner may have regulations in place to ensure your privacy.
Payouts:It is important to know how any party you are working with calculates its fees. There tend to be three basic methodologies for any intermediary: as a percentage (generally 6%)of the policy’s face value; as a percentage (generally 25%) of the life settlement amount or as a percentage (generally 30-35%)of the settlement amount less the cash surrender value. The third methodology tends to be the best for the seller, but you would have to do your specific calculations to decide.
You will want to stay actively involved in the sales process, monitoring the bids received if you work with a broker, to be sure enough potential buyers are being approached with your policy. With each bid, you want to know who is in the commission stream and what the net payout would be to you. Remember to factor in any potential tax implication in your calculation if your tax advisor had determined you could be liable.
Flexibility: A life settlement broker may request some form of exclusivity in its efforts to find you a buyer. That is not unreasonable, as the preparation work is not insignificant. However, be certain any agreement you sign indicates that you are not under any obligation to accept an offer to purchase your policy, even if it has been shopped around. Also, research whether in your state you have the right to change your mind within a certain number of days of accepting an offer.
Two areas are important to seniors when making financial decisions: age-friendliness and health-related value.
Age friendliness: A life settlement by nature means you are over age 65, and more likely age 75, therefore all parties along the transaction should be sensitive to your needs for clear information and the reassurance that comes from knowledge. More age-related pressure comes if you are starting to lose focus and clarity yourself. If so, be certain a trusted advisor or caretaker with the appropriate legal powers is involved in each step of the way to protect you from any fraud, abuse or unintended estate issues.
Health-related value: Your health is directly related to a life settlement since its value increases the more certain the buyer is to be able to cash in on the policy without great delay. Your health may be the exact reason you need the funds that can be unlocked by such a payout.
Life settlement payouts are determined by a series of factors, including your age, your life expectancy and the surrender value of the policy. Some sources estimate that a life settlement could pay as much as 2-7 times the surrender value.
The fees involved in life settlements do not come from the insurance company that issued the policy. The policy remains active with the insurance company; the major difference is that someone else is paying the premiums and the beneficiary will change.
However, many people involve intermediaries in the process, usually life settlement brokers, to access the highest payout and to avoid having to get involved in the sales process themselves.
As mentioned earlier, broker’s fees tend to follow one of three methodologies. The broker receives: (1) a percentage of the face value of your insurance policy, usually around 6 percent, which gives the broker no incentive to get you the best payout; (2) a percentage of the full settlement amount received from the buyer, usually around 25 percent, which commissions the broker on the surrender value, which is already available to you; or (3) a percentage of the settlement amount earned above the surrender value of the policy, usually around 30-35 percent. (This is often the best formula, as the surrender value – for which the broker did nothing – comes to you in its entirety.)
Those percentages are negotiable, and you want total transparency in how and when they are determined. Flexibility may be needed as offers are made by different buyers, but remember, you are under no obligation to accept any offer that is received.
On the other hand, you might avoid those large percentages by going directly to life settlement providers, although they have no fiduciary responsibility to you beyond acting fairly. Their goal is to buy your policy for the least possible amount. However, many providers use the same pricing schedule if buying from you or through a broker, especially in regulated states that require detailed reporting from providers to ensure fair pricing practices. Again, check with your state’s insurance commissioner to know the regulations.
The only other fees are those related to putting together your life insurance policy package. Between the fees for copying medical and insurance records, and the cost of life expectancy reports, someone will spend over $1,000 on the appraisal process. What approach you take to marketing your policy will determine who picks up those costs.
In a life settlement transaction, you want to get the highest possible payout with the greatest possible ease. For that reason, the cost of the transaction is important, as is the ease provided by the intermediary regarding convenience, right to reconsider and customer support.
Cost: You will want to have a good understanding of the fees typically involved in life settlement transactions, so you can assess the impact of the fees a broker would be proposing, for example. In any case, you want those costs presented clearly in whatever agreement you establish, to protect you throughout the transaction. Most states do require full disclosure. However, a few states have not adopted measures to protect a seller with such transparency.
Ease: A life settlement transaction can be an emotional decision, as it is typically undertaken after countless years of making premium payments with an expected outcome: a payout to your beneficiaries once you are gone. You are now changing that outcome. Therefore, you do not want the transaction to be made more difficult by an uncooperative, uninformed or unprofessional intermediary or buyer.
Cancellation: You are not obligated to accept any offer made to you to purchase your life insurance policy, regardless how much work was put into obtaining that offer. Be certain that wording to that effect is in any agreement you sign (before the final sales agreement). Also, check whether an agreement addresses your right to reconsider an offer you accept. Your state’s insurance commissioner can also advise if yours is one of the states that requires that you have that right.
Customer support: If you work with an intermediary, that broker should understand how sensitive this transaction is to a senior, and should provide all the support you need to understand the process and to be comfortable making the decision. This is no time for high-pressure sales tactics. If you are being rushed, seriously consider finding someone more supportive with whom you can work.
If you are looking at provider companies, you want to know the minimum age they consider, if they provide estimates, how long they have been established, if they offer online tools, if they buy policies directly and with whom they are accredited.
Remember, life settlements are very profitable for the investors, as well as for the providers and brokers who are involved in the process. Competition for your policy is strong. You are the ultimate decision-maker and do not need to bend to strong-arm tactics.
You also have other alternatives. You may choose to arrange to stop paying premiums until the policy’s cash value is exhausted, in hopes that there is sufficient value to last the rest of your days. Even when the cash value is gone, you can still sell the policy, and you will be closer to the end which means the policy may be worth more.
If you intend to purchase a less expensive policy with some of the proceeds of the life settlement, be aware that you may not qualify for age or health reasons or because your other policy is still in force.If approached, your existing insurer may consider reducing the face value of your policy, or you may want to investigate something called a ‘1035 exchange’ per the IRS code which protects you from the tax implications of taking the profits on your policy as a life settlement. Check with a trusted tax or financial advisor.
If your sole goal is cash, you might prefer to borrow against your policy. Also, if you have a long-term or terminal illness, you might access accelerated death benefits. Talk to your present insurer. Look at all options before deciding. Be sure that if you go for a life settlement, it was a fully informed decision.