Alabama Finance

Mar 15 2018

The Life Settlement Industry

What is a Life Settlement

In a life settlement transaction, the owner (who may or may not be the insured) of a life insurance policy generally is paid a lump sum in cash in exchange for transferring ownership and all beneficiary rights of the policy to a new owner/investor. That new owner/investor assumes the future premium payments. The amount paid in a life settlement is based primarily on the life expectancy of the person insured, the face amount of the insurance policy and its projected ongoing premium requirements. From the original owner’s standpoint, a life settlement typically is a more lucrative alternative to letting the life insurance policy lapse or surrendering it to the issuing insurance company, essentially turning a non-productive asset into a productive asset.

Sales of life insurance policies generally are divided into two transaction types: “viaticals,” and “life settlements.” Although the terms “viatical settlement” and “viatical” generally are synonymous with the term “life settlement,” the terms do differ slightly in different states’ laws and in their origins and meaning.

Viatical Settlements – generally considered to involve only those situations in which the insured has a terminal, catastrophic, chronic or life-threatening illness or condition and a life expectancy of less than 2 years. Derivation of the Latin term “via tecum,” which means “provisions for a journey.”

Life Settlements – generally involve the sale of life insurance policies covering insureds over the age of 65 who may not necessarily be suffering from a terminal or chronic illness or condition but nevertheless have a limited life expectancy – generally 20 years or less. Other terms sometimes used to describe life settlements are “senior settlements” and “senior life settlements.” Technically speaking, the term viatical settlement (or viatical) can be applied to either type of life insurance settlement. Regardless of the terminology used, the processes involved in completing either type of life settlement are essentially the same.

The Life Settlement Market – The “Players”

Investor – A financing entity or other business entity that provides capital to a life settlement provider for the purpose of purchasing one or more (typically referred to as a “portfolio”) life insurance policies as an investment. Also sometimes referred to as a “funder” or “financing entity.”

Originator/Provider – A company whose primary business activity involves purchasing life insurance policies through viatical or life settlement transactions. Life settlement providers may purchase policies for their own account or on behalf of their funder clients. Sometimes also referred to as an “originator” when purchasing a portfolio of policies for a funder. Providers generally are required to be licensed by various state insurance commissions, particularly when dealing with original viatications.

Life Expectancy Underwriter – An individual or company that reviews personal and medical information for the purpose of issuing mortality reports and related life expectancy estimates for use in life settlement transactions. Other terms used to describe these companies include medical underwriters and Qualified Consulting Physician (QCP).

Settlement Broker – A party who represents financial advisors, life insurance agents, insurance agencies and consumers with respect to the sale of life insurance policies in the secondary market. A life settlement broker is required to be licensed in many states and generally owes a fiduciary duty to the seller of a life insurance policy. Brokers do not represent life settlement providers.

Financial Advisors/Producers – Typically advisors to the insured/owner, such as their individual life agent, accountant or attorney who might, on behalf of the insured/owner contact a life settlement broker or provider.

Insured/Policy Owner – The insured is the person whose life is covered by the insurance policy that is the subject of the life settlement transaction. The owner is the party that possesses and controls all of the rights and privileges granted by a life insurance policy, including the right to assign, transfer, surrender, sell or otherwise dispose of the policy. The owner may be one or more individuals, a trust, corporation or other business entity and may or may not be the insured (and if not at inception, must have had an “insurable interest” in the insured at that time). The initial seller of a life insurance policy that is the subject of a viatical or life settlement often is referred to as the “viator.”

History of Life Settlements

A 1911 United States Supreme decisions, Grigsby v. Russell, generally is seen as having given birth to the future life settlement industry. That decision gave life insurance policies the characteristics of “property” and upheld the right of individuals or policy owners to maximize the value of their “asset” (the life insurance policy) by selling their policies in the secondary market rather than allowing them to lapse or surrendering them to the insurance company for cash value.

The birth of the viatical settlement industry coincided with the AIDS epidemic of the late 1980s and early 1990s. During this period, AIDS was almost always a terminal illness. Many people diagnosed with AIDS owned life insurance policies that they had purchased before they were diagnosed. Many people with AIDS faced expensive medical costs and other financial pressures as the illness progressed. Viaticals offered them a means of turning an otherwise non-income producing asset, a life insurance policy, into lump sums of cash they could use to provide for their medical and personal needs. In fact, viaticals involving people who had terminal illnesses were eventually granted tax-free status so that if the insured person met certain requirements, the money received from a viatical settlement transaction was not taxable.

The adoption of viatical settlement laws by several states in the 1990’s contributed to the development of a secondary market for life insurance policies. As medical developments prolonged the life expectancy of AIDs patients, the marketplace began to look for policy owners with other terminal illnesses and, subsequently, seniors who wanted to sell their life insurance policies.

Servicing Life Settlements After Purchase

Policy management involves monitoring and managing certain aspects of policies or policy portfolios, including:

  • Premium payment and optimization – i.e. paying the lowest practicable amount of premiums in order to maintain a policy in force so as to maximize the investor’s return at maturity
  • Tracking lives (the insureds) – periodically determining the location and present health of an insured
  • Obtaining death certificates of insureds and collection of death benefits at policy maturity
  • Policy valuation (for accounting or resale purposes)
  • Updating LEs and recalculating projected policy returns
  • Tracking internal policy dynamics over time using our proprietary analytical tools

What is a Life Settlement?

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