The life insurance settlement has come a long way in the past 20 years. It has shed some of its misconceptions while becoming more mainstream, and each year the industry continues its evolution. Today, life settlement companies perform free annual evaluations of policies, and insureds can sell a portion of their death benefit to a settlement company while keeping the remainder for their beneficiaries. Thankfully, the perception of life settlements as a bona fide financial planning tool has gained ground, but questions still remain from some financial advisers and individuals about how life settlements work and what happens when a third party now owns a policy on your life.
With a life settlement, a senior (typically at their financial adviser’s suggestion) enters into an agreement to sell their life insurance policy for immediate cash. The policyholder essentially signs over the policy to an investor who will make all future premium payments and collect the death benefit upon the death of the insured. This strategy has helped seniors fund retirement while getting out from under expensive life insurance policies. Life settlements also offer an alternative to surrendering a policy or allowing it to lapse.
But what about the fact that after a life settlement, someone will profit from the death of the insured? Isn’t that still a bit creepy? I disagree.
First, if a life insurance settlement is ghoulish then so is the whole life insurance industry. Life insurance was first conceived hundreds of years ago as a means to help an individual’s descendants pay for funeral expenses. All along, someone has had to die before any payout changed hands. Just like today, the earliest life insurance companies wanted you to outlive your coverage while the actual policyholders were hedging against a premature grim reality. Life insurance has always been about death, and life settlements offer nothing more than a different perspective.
One could also argue that accidental death and dismemberment insurance is much creepier. Similar to traditional life insurance, AD&D won’t pay out if you die of illness or natural causes. It only pays if something really bad happens such as the insured is killed or dismembered by such things as traffic accidents, exposure, homicide, falls, heavy equipment accidents or drowning. Much more gruesome.
In a life settlement, a third-party has a stake in the insured’s demise, but this is no different than popular key man life insurance. In a key man scenario, the life of an individual is insured by their employer. If the key person passes away unexpectedly, then the employer is compensated for the lost value of the employee. Obviously, the employer wants the employee to live, but they will certainly earn a significant amount if the employee passes. Whether they like it or not, any individual with a key man policy has a beneficiary who may “profit” from their demise.
But a key man policy’s beneficiary is an employer, while the beneficiary in a life settlement is a stranger. This is true, but the stranger is not an individual and is most likely a huge corporation, bank or hedge fund. Large institutions that invest in life settlement policies treat each individual policy as one part of a much larger pool. The insured is merely a number, and the investor is hoping that its portfolio of policies will perform a certain way over time. These institutions have neither the time nor the inclination to delve into the details or private lives of the insureds. Just as the institutional owner of a pool of thousands of mortgages doesn’t worry about single households, the large-scale investors in life settlements don’t focus on individual policies and individual insureds.
Lastly, the identity of insureds within the life settlement transaction is protected by privacy laws. Life insurance settlement companies comply with federal privacy rules including HIPAA. Once a policy is sold, the identity of the insured is virtually unknown to the institutional owners. Yes, insureds are regularly contacted as part of post-settlement tracking, but the details of the policy remain private and secure. The identity and personal information of a person who sells a life insurance policy is protected under the same stringent regulations that govern transactions at the largest financial institutions in the world.
With options like term-to-perm conversions, retained death benefit partial sales and an ongoing dedication to serve seniors and advisers, life settlements continue a healthy evolution. New products, news services and increased sophistication – far from creepy.
Stephen E. Terrell is Senior Vice President of Market Development and Branding of The Lifeline Program, a life settlement provider based in Atlanta, Ga. You can also follow him on Twitter@LifelineProgram