A life settlement is a transaction where an existing life insurance policy is sold to a third party for fair market value.
While some people may grimace at the idea of having somebody else own an insurance policy on their lives, others will gladly accept the risk based on how much a buyer may be willing to pay to own the policy.
Who Is a Candidate for a Life Settlement?
The ideal candidate for a life settlement is:
- An individual over the age of 75
- Has a life expectancy of 15-years or less
- A death benefit equal to or exceeding $500,000
Generally, the shorter the life expectancy the greater the odds of receiving an offer.
Most people interested in a life settlement fall into 1 of the following 3 categories:
#1 – No Longer Need the Coverage
Anyone Age 75 or older who is considering canceling or surrendering their life insurance coverage should consider a life settlement. However, before doing so, the coverage should be reviewed by a reputable life insurance consultant to make sure you are aware of all your options prior to surrendering or selling the policy.
#2 – Want to Replace Existing Coverage with Less Expensive Coverage
In some scenarios, it may be possible to take the proceeds from a life settlement, contribute those proceeds to a new policy, and reduce or eliminate the ongoing premiums of a new policy with the same death benefit.
#3 – Term Insurance Coverage Is About to Expire
In many cases, most term insurance policies will allow you to convert to a permanent policy at the lesser of Age 75 or the guaranteed term period. Because of this, anybody in their 70s who has a convertible term insurance policy and is going to let the policy lapse should consider a life settlement.
Since 2008 it has become more difficult to sell a life insurance policy. There are several reasons for this. Many policies will not be eligible for a life settlement. Because of this, it is important to work with a firm that understands the marketplace.
How Does a Life Settlement Work?
Finding out if a life settlement is an option begins with underwriting. Unlike obtaining life insurance, life settlement companies do not require you to complete an examination.
Once the appropriate authorizations have been completed the first step is to obtain the insureds medical records. After receiving all medical records, a third-party company is retained to provide a life expectancy on the insured (most life settlement buyers will require a minimum of two life expectancies).
After life expectancies are complete, interested buyers can get an idea of the ongoing cost(s) of maintaining the policy.
This information allows the buyer to decide if they want to make an offer, and, if so, for how much.
In a perfect world, there are multiple parties interested in purchasing the policy you own.
At no point in the process is the interested seller obligated to sell the policy. In fact, the seller is in complete control until they accept an offer and complete the required paperwork.
What Happens Once a Life Settlement Offer Has Been Accepted?
When a seller of a policy accepts an offer, the buyer places the agreed-upon offer in an escrow account. They then draft closing documents to transfer the ownership of the life insurance policy for the agreed-upon amount.
The owner of the policy then executes and returns the documents to the buyer. Upon transferring the ownership and beneficiary designation of the policy, the life settlement proceeds are released to the seller.
When considering a life settlement, it is important to establish realistic expectations.
As an example, let’s assume you own a home valued at $1 million. You decide you would like to sell the home. However, you explain to the realtor you won’t sell it for a penny less than $1.5 million.
Since the home is valued at $1 million and you will only sell it for $1.5 million – it would not make any sense for an experienced realtor to take on the listing as it would be a waste of their time.
It’s no different with a life settlement. Unless you are terminally ill, you won’t receive a $900,000 life settlement offer on a $1 million policy.
When considering a life settlement, it is important to understand options. Sometimes keeping the policy is the best solution.
Final Thoughts on Life Settlements
It is important to understand there are a few things to be aware of when considering a life settlement.
First, while some of the “ickiness” of having somebody else own a policy on your life is removed when selling to an institutional buyer – the reality is somebody you don’t know has an interest in whether you live or die.
Second, depending on your age and net worth, there is a finite or maximum amount of coverage available to insure your life.
For example, let’s say you sell a $1 million policy to a life settlement company. A couple of years later you decide you’d like to have $500,000 of coverage. Assuming your net worth has remained unchanged, it is likely you would not financially qualify for the new coverage.
Third, insurance companies now include questions about whether you’ve participated in a life settlement in the past or intend to in the future. Most insurance companies will not issue a policy on an individual who has been party to a life settlement in the last 3 to 5 years,
If you have a question about life settlements or would like to discuss a specific situation, please email us at email@example.com.