The pros and cons of life regulation

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The term “life insurance settlement” may sound obscure, but it actually describes something quite simple: selling life insurance that you no longer need or can afford. While a settlement is not the right decision for everyone, it does allow you to get money for a policy so that the funds can be used for other purposes.

Conventional wisdom holds that there are only two options for unwanted or unaffordable permanent life insurance i.e. whole or universal types of life insurance, which combine a death benefit with an investment component that has its own distinct value. The policy can be canceled or surrendered in exchange for a return of some of the money you put into it.

Lifetime settlements offer a third option, that of selling the policy to a third party, who pays it to you and then collects the death benefit upon your death. This option promises you a better return than a simple surrender. Settlement is generally limited to policyholders aged 65 or 70 or more who have permanent life insurance or a term life insurance policy convertible to a permanent policy, with a death benefit of at least $ 100,000.

If you fit that profile, here’s what you need to know about Life Settlement, including how to decide if it can match your financial needs and priorities.

Should I sell my life insurance policy?

When life changes, so can your insurance needs. Life insurance is purchased for special reasons, and sometimes those reasons disappear or the policyholder’s circumstances change and the policy benefits are no longer needed.

Chris Huntley, President of AssuranceDodo.com, cites a case where you bought a policy to make sure your spouse could pay off the mortgage or your kids wouldn’t have to drop out of college if you died unexpectedly. Once the mortgage is paid or the kids graduate, you may not need this policy anymore, says Huntley.

If you have purchased term life insurance that you no longer need, you can simply stop paying its premiums without losing any money, as these policies have no residual investment value. But permanent life insurance is structured differently, with part of the insured’s premium being invested. This money, which accumulates throughout a person’s life, is called the “cash value” portion and it remains even after your death benefit need has passed.

You can then preserve the cash value by continuing to pay premiums for coverage you no longer need, or let the policy expire. Lapse of coverage saves you from paying premiums, but all the money you have in the policy is basically wasted.

These options, both unpleasant, are why it makes sense to consider redeeming the policy instead or seeking a life settlement for it.

Policy surrender versus life settlement

If you buy back a permanent life insurance policy, you receive what is called its “cash value”. It is the amount of money that has been earned on the premiums invested in the policy, less any surrender charges or penalties.

While you may not be charged a surrender charge if the policy has been in place for a long time, the fees can be very high – up to double-digit percentages of the cash value – if you cancel a policy in the past. during the first years. after taking it out.

If you opt for the life settlement instead, the contract is not assigned but sold to a third party. The buyer is usually either an investment group or a third party broker. The new owner will then do an about-face and sell your policy to investment firms specializing in this practice.

After the investors pay you for the policy, they take over the payment of the policy premiums until your death, at which time they receive the death benefit. The person selling the policy must allow the purchaser access to their medical records, both at the time of the policy sale and at regular intervals (eg quarterly).

How to Shop for a Lifetime Settlement

The great thing about lifetime settlements is that you, as the policyholder, benefit from a one-time cash infusion that can ease any current financial strain you may be facing. As a general rule, you can expect a lump sum amount greater than what you would get by surrendering the policy, but less than the death benefit of the policy.

According to Huntley, where the offer falls in this range is based mainly on three very variable specifics: the amount of the premium payment, the amount of the death benefit and the health of the insured.

Different life settlement companies can of course weigh these factors differently, and thus arrive at different values ​​for your policy. Since life insurance regulations vary so widely, and buyers’ pricing practices can be opaque, insurance experts say it’s important to shop around to make sure you’re getting the best price available for your policy. or that of a loved one.

In addition, financial regulators call for caution in the face of unsolicited offers to purchase life insurance policies or pressured sellers who demand immediate engagement. The National Conference of Insurance Legislators released a model law which encompasses the disclosures and information that policyholders and their families need to know before purchasing a life insurance policy.

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The disadvantages of a lifetime settlement

Even when dealing with honest life settlement brokers, review the important caveats of these offers for an insured and their family or beneficiaries before accepting one. Here is an overview of the potential drawbacks.

The death benefit disappears

The biggest and most obvious downside to a lifetime settlement is that selling the policy gives the death benefit to the new owner and takes it away from you or your heirs.

Possible tax implications

A one-time lump sum may sound attractive, but it can result in a big tax bill the following April, as the net proceeds are subject to income tax. The calculations to determine these amounts and tax rates can be complex, so it is advisable to consult a tax preparer to ensure that the person selling the account is setting aside enough money to meet their tax obligations.

A potential loss of benefits

Since the proceeds of a lifetime settlement are treated as income, it may compromise eligibility for some programs. In particular, older people who depend on public assistance programs could risk losing these benefits. This loss could, in turn, lead to an additional bad outcome for people who live in apartments with income restrictions, who could then risk exceeding the maximum income allowed for these facilities.

Debts can be collected before your death

Usually, a person’s debts die with them, and with a few exceptions, life insurance benefits cannot be used to pay off the debts of a deceased person. A windfall from a life insurance settlement, however, is a fair game for creditors, so policyholders considering bankruptcy or facing a mountain of debt should consider the implications of selling. a life insurance policy.

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Lifetime settlement or not?

Huntley says the best candidates for a life insurance policy are people whose health profile has changed – or, more specifically, worsened – since purchasing their life insurance policy.

It’s also important to make sure you’re not forgoing any other benefits your policy might include, says Huntley. “You always want to check with your agent or company to verify the benefits of your policy. Sometimes these policies have other benefits, like long term care, home care or nursing, ”he says. In that case, you might be better off hanging on to the font rather than selling it.

Even companies that buy life insurance policies say these regulations are not the right choice for everyone. “We recognize that a lifetime settlement is not the best solution in all cases,” said Brian Barclay, President and Chief Executive Officer of Magna Life establishments, a company that executes life and life settlements. “But for salespeople who can no longer afford the police, whose needs have changed [or] who have immediate cash flow needs… a lifetime settlement is absolutely an option worth exploring, ”he says.

Additionally, Magna, on its website, emphasizes the need to verify the tax implications of a settlement and suggests that the net after-tax proceeds from the sale of the policy should be compared to the after-tax proceeds of the surrender, to see if. the sale makes financial sense.

If neither settlement nor surrender seems like a good choice, you can explore other options with your insurer or financial advisor. You may, for example, be able to leverage the cash value of the policy in the form of a loan, but borrowing against a whole life policy has its own potential drawbacks.

Other options are available if you have not only health issues but a terminal or catastrophic illness that is likely to kill you in a year or two at most. You can look for a type of lifetime settlement designed for such situations, called a viatic settlement, which is often more beneficial for the terminally ill than a lifetime settlement. Plus, if your life expectancy is a few weeks or months, you may be eligible for an Accelerated Death Benefit, which can help pay for end-of-life care.

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