« »

Wednesday, December 3, 2014

Reasons to consider or forgo a life insurance settlement


Life insurance settlement tips
Life settlements provide cash for insurance, but not necessarily without consequence
Life settlements are an option for life insurance policy holders seeking to cancel, discontinue or monetize an existing life insurance contract without surrendering it. The U.S.Securities and Exchange Commission defines life settlement as follows:
“In a “life settlement” transaction, a life insurance policy owner sells his or her policy to an investor in exchange for a lump sum payment. The amount of the payment from the investor to the policy owner is generally less than the death benefit on the policy, but more than its cash surrender value. The dollar amount offered by the investor usually takes into account the insured’s life expectancy (age and health) and the terms and conditions of the insurance policy.”
Life settlements are a financial option that are not always disclosed by life insurance companies. This is because it is often more valuable for an insurance company for a policy holder to surrender an insurance contract than to sell it. In the latter case, the buyer or new beneficiary becomes entitled to death benefits on the insured, which is an expense to the insurer. Federal and state regulations of life settlements are available at the Life Insurance Settlement Association (LISA) website.

Benefit 1: Alternative to surrender


When an insurance policy is no longer wanted or sustainable via monthly premiums it often becomes more of a financial burden than benefit. In such cases, surrendering the insurance also has little advantage. Life settlements provide an alternative to both keeping an expensive policy going and surrendering it for little or no value. This is because investors interested in the policy are able to purchase third party policies via settlement agreements.

Benefit 2: Investment capital


Another advantage of life insurance settlements is the investment options it opens up. Previously allocated investment capital is able to be re-invested after a life settlement is carried out. Thus, life settlements helps reduce opportunity cost and investment risk. The Life Insurance Settlement Organization describes this advantage in the following way:
“Americans have an extraordinary amount of choice in most products and services. Similarly, they have come to expect the same amount of freedom to maximize value in the realm of life insurance. They are recognizing that life insurance is merely one asset within an estate or financial portfolio that should be managed for optimum outcomes.”
If the return on investment from a life settlement exceeds the growth rate within a life insurance policy with cash value, then that reinvestment or reallocation of assets is quite possibly advantageous, especially if it is made with after-tax dollars in a creditor protected retirement account such as a Roth IRA.

Benefit 3: Financial planning adjustment


As people age, financial objectives evolve and mutate into different goals. These new financial dreams often become dependent on adjustments to financial plans in order to be actualized. In this sense, life settlements provide opportunities to change total asset allocation within and without policies. Being able to reapportion capital by selling an insurance policy helps optimize financial plans for maximum functionality and financial goal seeking capacity.

Benefit 4: Cash-flow management


Life settlements also allow policy holders a way to generate cash-flow. For example, when insurance is sold for a lump sum, then a monthly income is generated if that payment is placed into an interest bearing or dividend paying financial instrument. For retirees with incomes below their pre-retirement working average, extra sources of cash flow often provide a much needed income.

Drawbacks


Life settlements are not without their financial hazards and pitfalls. This is because other options exist that may be more suitable. According to the following FinancialRegulatory Authority (FINRA) excerpt, life settlements have disadvantages that at times, could outweigh the benefits:
“Life settlements can have high transaction costs and unintended consequences. And even if you decide a life settlement is generally right for you, it can be hard to tell whether you are getting a fair price.”
Taking a loan against life insurance and exchanging a policy for a new one are sometimes better choices to make when seeking to improve cash flow or when financial planning. There are also potential tax penalties from a life settlement in addition to policy adjustments that may ultimately provide more value to the policy holders. Some of things to be cautious about and consider before pursing a life settlement agreement are listed below:

  • Tax consequences
  • Opportunity cost
  • Entitlement qualification
  • Low valuation
  • Policy adjustments

As with all financial decisions, there are variables that impact the outcome of life settlements. Financial goals and objectives, budget, tax bracket, cash flow needs, age and net worth are just a few of the factors that influence the need for, and advantage of life settlements. Carefully considering policy terms and options in addition to value of competing financial choices are critical, especially when overlooked. Be sure to have contractual terms spelled out and explained and if at all possible, take time to understand what a life settlement entails and forgoes.

Image: Geralt/Pixabay, US-PD