According to Lucas Siegel, CEO of Harbor Life Settlements, 85% of life insurance policies lapse, meaning families don’t get a death benefit.
As people age and their salaries decrease, medical expenses can surpass their income. For older people on a fixed income, insurance premiums may become unaffordable, causing many to cancel their policies or let them lapse.
Normally, if you have a life insurance policy that you no longer want, you simply cancel the policy. But there’s also another option: You can sell your life insurance using a third-party broker for a settlement payment. This option gets you more money than you’d receive from the insurance company, but there is a catch.
Can I sell my life insurance policy
There are two ways you can sell your life insurance policy: (1) a viatical settlement; or (2) a life insurance settlement. They each have different requirements.
For a viatical settlement, the insured individual must have a terminal medical diagnosis. However, a life insurance settlement doesn’t require a terminal diagnosis.
In each instance, the policyholder forfeits any rights and death benefit. Therefore, if you need to leave money to your family, this might not be a good option.
What is a viatical settlement
A viatical settlement is an insured individual with a terminal diagnosis is paid the death benefits from their life insurance policy.
Siegel gave the example of a cancer patient with a $1 million term life insurance policy who was struggling to afford medical treatment. If he simply canceled the insurance policy, they wouldn’t have received any money. However, Harbor Life Settlements offered him $600,000 for his term life policy.
Mark Williams, CEO of Brokers International, told Insider that viatical settlements exploded in the late 1970s and early 1980s due to the HIV/AIDS crisis. Unfortunately, some people preyed on the terminally ill population, and viaticals received a reputation as “ambulance chasers.”
However, Williams said viatical settlements are helpful for terminally ill patients struggling to pay medical bills or wanting to enjoy life before dying. He says policyholders need to understand they lose their death benefit and rights to the policy, so they shouldn’t use a viatical settlement if they want to leave something for their relatives.
What is a life insurance settlement
If you don’t have a terminal diagnosis and you want to sell your life insurance policy, you can use a life insurance settlement. Williams said life insurance settlements are typically targeted to older people in order for the math to work for third-party brokers, because it doesn’t make sense for younger people or someone super healthy with a long life expectancy.
If you have a term life insurance policy and cancel it, you lose all the premium payments you’ve paid and the death benefit. If you stop making payments, the policy lapses and is no longer valid. If you have a permanent life insurance policy and you cancel your policy, it’s known as a cash value surrender. With a cash value surrender, you lose your death benefit but you receive the cash value the policy accumulated, minus fees and tax implications.
Instead of canceling your term life policy or doing a cash value surrender on your permanent life policy, you can get a life insurance settlement. Siegel said people who have term life policies with conversion riders and universal life insurance policies typically apply for a life insurance settlement. A convertible term life policy can be converted to permanent life insurance with a cash value benefit in addition to the death benefit.
Williams said even if you’re not terminally ill, you might want to do a life settlement. For example, if an 80-year-old has a $1 million permanent life insurance policy with $200,000 in cash value, but doesn’t need the policy because his adult kids are independently wealthy, a cash value surrender would only give him the $200,000 cash value less any fees.
However, working with a life insurance settlement broker might give the person $400,000 — the cash value plus a percentage of the death benefit. Williams said in this case, you make more selling the policy, but it would be a taxable event.
In this way, a life settlement looks like a reverse mortgage. Williams said that a life settlement can be a wonderful tool, if it’s not abused. Therefore, it’s important for people to understand that in selling their policies, they forfeit any rights to the policy, especially the death benefit. If they want to leave something for family members, this policy will no longer be available unless they made alternate means of providing for them.
Why are universal life insurance policies common for life insurance settlements
Williams told Insider that universal life insurance was created in the 1980s when interest rates were high, around 8-10%.
Unlike whole life insurance, universal life insurance’s cash value earns interest based on current money market rates, but interest rates fluctuate with the market. Because it’s based on interest rates, there will be varying returns and costs. He said with current interest rates around 2%, many universal life policies opened in the 1980s aren’t funded properly.
Most people rely on the cash value accumulation to pay premiums on permanent life insurance when they retire. Siegel said because there is little cash value, older people with universal life policies have an annual premium they can’t afford.
If an older person with a universal life policy tried to cancel, they would receive nothing under cash value surrender because there is little to no cash value. Siegel said although there’s no cash value, the death benefit is still valid and valuable.
In this situation, there are two options: (1) cash value surrender — which may be small or nothing; or (2) a life insurance settlement — although it will be less than the death benefit, it will be more than a cash value surrender. If you have adult kids that are grown and don’t need the money as a death benefit, then a life settlement may be right for you.
For people choosing a viatical or life settlement, it is important to remember that once you sell, you lose rights to the policy and no longer have a death benefit because the company becomes beneficiary of the policy sold.
How do life insurance settlement companies value a policy
Siegel said traditionally if you wanted to sell your insurance policy, your insurance agent or financial advisor would call a licensed life insurance settlement broker who would reach out to fund providers that might be able to sell the policy. Insurance agents and buyers can’t sell the policies; they need a broker.
Life insurance settlement companies allow insured policyholders to sell their policies to a wider market with major buyers. Harbor Life Settlements uses an online blind-bidding auction for fund providers to purchase your policy.
Siegel said Harbor Life Settlements look at the three things to determine the value of the policy:
1. Insured medical records
2. Insurance premiums
3. Actuarial life expectancy
For example, an 80-year-old who has a universal life policy with a $1 million death benefit (with no cash value) and a life expectancy of five years may receive an offer of $250,000 from an auction buyer to get the $1 million dollar death benefit. The purchaser of the policy becomes the beneficiary and still has to pay premiums. Siegel said even if the premiums are $50,000 a year, at the end of five years the purchaser makes a $500,000 profit.
The insured benefits by no longer making premium payments on a policy that has no cash value and by receiving a percentage of the death benefit in exchange for selling their policy. If the insured tried to do a cash value surrender, they would have received nothing. Siegel says the average life insurance policy sold by brokers gets 20% of the death benefit.
How do I sell my life insurance
If you’re trying to sell your life insurance due to a terminal illness (with a viatical settlement) or you simply want to get rid of a permanent life insurance policy with little cash value, you can contact your insurance agent or financial advisor to initiate the process.
Or, you can reach out to a life insurance settlement company, like Harbor Life Settlements. Be sure to ask about any fees and taxes associated with the sale. It would be beneficial to talk to an accountant and estates attorney to see how this impacts your overall financial plan.
From there, the broker contacts a licensed provider. Siegel said the broker has a fiduciary duty to you as the insured policyholder, but the licensed provider has a fiduciary responsibility to the buyer of policy. He said that every secondary life insurance policy has to go through a licensed provider, which acts like a title company for the sale of the life insurance policy.
Consult an expert before selling your policy
If you’re considering selling your life insurance policy due to terminal illness or because your permanent life policy has little cash value and you can’t afford the premiums, talk to your insurance agent or financial advisor to go over the process including any associated fees or taxes.
Once you sell your life insurance, you lose all rights to the policy, specifically the death benefit. If your family needs the death benefit, this may not be the best option for you. However, if your family is financially comfortable on their own and don’t need the death benefit, then it may work for you.
It is important to consider your financial needs and goals. It’s wise to consult an accountant and financial advisor about your financial situation and goals to determine what is best for you and the tax implications. It’s worth taking the time to find the best option for you, because once you’ve sold your policy, you lose that coverage.
Ronda is an attorney, writer, and entrepreneur. She is a contributing writer for the Huffington Post. Originally from Chicago, she has lived in Los Angeles and New York. She loves to travel and is passionate about education equity, especially for first generation college students.