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Settling Up

Felix Steinmeyer

I’M CHIEF EXECUTIVE of Mason Finance, a company that helps people turn their life insurance policies into cash—something known as a life settlement. HumbleDollar’s editor made me this offer: If I could write a balanced article about life settlements, clearly spelling out the pros and cons, he’d consider running it. I took him up on the challenge.

If you aren’t familiar with life settlements, you are not alone. An estimated 1.1 million seniors leave roughly $112 billion a year on the table by not selling off lapsing life insurance policies, largely because they’re unaware they can do so.

Selling your life insurance means you sign over your policy’s death benefit to a third-party investor, known as a life settlement provider. In exchange for the right to collect the benefit, the provider takes over the policy’s premium payments and pays you an immediate cash settlement.

To be sure, the payout you receive will always be less than your policy’s death benefit—usually much less—but it can be significantly more than the policy’s cash surrender value. There are several factors that go into determining the value of each individual life settlement. The most important are the policyholder’s age and health, policy size and current premium level. Industrywide, the average life settlement is roughly 20% to 25% of a policy’s benefit payout. Don’t like the life settlement you were offered? Keep in mind that payouts are often negotiable.

Most policyholders that complete a life settlement transaction are at least age 65 and have a policy size of at least $50,000. While whole life and convertible term policies are potentially sellable, 90% of policies sold today are universal life and variable universal life. For people who are terminally ill, there is often an exception to the age guidelines: These transactions are known as viatical settlements.

Should you consider a life settlement? The core issue: Does it make financial sense to continue the premium payments to maintain the policy’s ultimate death benefit—or is selling a better option? That all depends on your personal situation. If you’re in good health and comfortable financially, it’s probably smart to keep your policy. But not everybody’s so fortunate. Here are four key reasons people opt to sell:

  1. You are about to lapse your policy. This is the most common reason. If you can no longer afford the policy and you’re about to let it lapse, you are very likely leaving money on the table if you don’t sell. You have paid thousands of dollars over the years to keep the policy in force—and you should get as much for it as you can.
  2. Your beneficiaries no longer need protection. Most policyholders purchased the insurance as financial security for their spouse or children. But if they no longer need the protection and you could really use some additional money, selling your policy could be a good move.
  3. You have enough for the premium payments, but they’re a burden—and the burden will likely grow as you’re squeezed by rising costs for medical care, property taxes and other expenses. If you are retired and living off a fixed income, or you haven’t saved enough for retirement, significant life insurance premiums can put a big dent in your budget.
  4. You have large, unexpected medical expenses that you can’t afford. The morbid truth: A serious illness often increases your policy’s value.

Even if selling makes sense, keep in mind the drawbacks. First, if you sell your current policy, it could be difficult and perhaps impossible to get another policy.

Second, with most life settlement contracts, your health status is no longer a private matter: You’ll often be required to give health updates to the purchasing company.

Third, some portion of the proceeds from a standard life settlement will likely be taxable. That tax bill could have been avoided if you had passed away while owning the policy.

Finally, never forget that life settlements is a business—and you aren’t the only one getting money. Indeed, it’s important who you work with to sell your policy and understand how much they’re making. An agent or broker may charge you 30% of the total payout. But such fees are negotiable—and you may be able to pay even less by avoiding middlemen and instead working with one of the many direct-to-consumer companies.

You might also explore other avenues. Depending on how much money you need, you could borrow from the policy. Alternatively, you might talk to your children or other family members about whether they would like to help with the premium payments, knowing they’d ultimately reap the policy’s benefit payout.

Felix Steinmeyer is the founder and chief executive of Mason Finance in San Francisco. He enjoys cooking with friends and hiking California’s gorgeous national parks.

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Langston Holland
Langston Holland
2 years ago

Fascinating article Felix – thank you! This is the first I’ve heard of this “market” and it certainly is a reasonable option for people in appropriate situations.

I consider myself one that it makes sense for and recently surrendered my whole life policy (gasp!) for it’s cash value. I’m 59, my 5 kids are through college and starting families with the help of UTMA investments I had for each of them. I have no need for life insurance anymore, my wife is set with the assets we have, and want to use the CV to add to my Vanguard money market account to offset the risk of my stock funds. I’m aiming at a cash level that will carry my wife and I though 5 years of living expenses per excellent advice from this site.

In the spirit of the amazing humility from Jonathan and others here in divulging their personal financial situations to help readers better grasp the concepts, I offer the numbers behind my recent policy surrender. Hope it’s helpful:

MassMutual Whole Life. I made a one-time payment on 7/23/1987 at age 27 of $25,000 for an initial death benefit of around $273,000. Good thing I didn’t die early – that would have been a bad deal. Part of the CV growth from that one-time payment was used to cover the $822 annual premiums.

I surrendered the policy as of 1/9/2019 and received a check for the CV in the amount of $186,027 for a pre-tax IRR of 6.6% annualized. Death benefit had grown to $426,525, a (happily unused) post-tax IRR of 1.4%. Basis on the CV is $25,000 + (31×822) = $50,482, thus I will be taxed at ordinary rates on the $135,545 gain.

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