What is a Life Settlement?
A life settlement (or traded life policy) is simply a US life insurance policy that is sold by its owner to a global investor base for more than the cash surrender value but less than the death benefit value. Sellers are generally in excess of 70 years old with no catastrophic life impairments.
Under US law, a life insurance policy is a transferable asset that contains specific legal rights, including the right to:
- Name the policy beneficiary (provided that the original beneficiary has an insurable interest in the insured’s life)
- Change the beneficiary designation (unless subject to restrictions)
- Assign the policy as collateral for a loan
- Borrow against the policy
- Sell the policy to a third party
In 2001, the National Association of Insurance Commissioners ("NAIC") released the Viatical Settlements Model Act, which laid out guidelines for avoiding fraud and ensuring sound business practices. Around this time, many of the life settlement providers that are prominent today began purchasing policies for their investment portfolios using institutional capital. In April 2009, the United States Senate Special Committee on Aging conducted a study and came to the conclusion that life settlements, on average, yield 8x more than the cash surrender value offered by life insurance companies.
With the increasing emphasis on consumer choice, the life settlement market is now recognized as a sound alternative for consumers who no longer need, or can no longer afford, their life insurance policies. States are drafting, or have already adopted, legislation requiring insurance companies to inform insured parties (who are considering surrendering their policies or whose policies are in danger of lapsing due to non-payment of premiums) of the existence of alternative solutions including the life settlement market.
An emerging use of life insurance policies, which is being encouraged by legislators in a growing number of states, is their sale into the life settlement market for the purpose of funding long term care. Sellers may be given a variety of tax breaks or the proceeds of the sale may be ignored for the purpose of means testing when calculating state aid for long term care needs.