Don't be so Quick to Sell that Life Insurance Policy

Do you own a life insurance policy that you no longer can afford or want? Perhaps you’re tempted to sell it to an investor who has offered you a way to get money from this relatively illiquid asset. However, before you take the cash, be sure to get all the facts. You just might be better off keeping the life insurance or surrendering it.

Life settlements are frequently directed towards people over age 65 who own life insurance policies with at least a $100,000 face value, have some health problems, and have a life expectancy of 2 to 15 years. When you sell a life insurance policy to a third party, you will no longer be responsible for the premiums. The investor will make all future payments to the insurance company and collect the death benefit after you die.

This concept could be attractive if you think you don’t need the coverage, your beneficiaries have died, or you want the money for other things, such as long-term care insurance. But what is the cost?

These transactions can possibly have high commissions and tax implications to sellers. A study by Deloitte Consulting and the University of Connecticut found that life-settlement companies, on average, paid only 20% of the face value of the policies to the sellers. Whereas the estimated future returns to investors were 64% of the face amount. Therefore, if you want to pass on the maximum amount to your heirs or a charity, you might be better off keeping the policy.
But suppose you need the money? Instead of selling the policy, a better choice could possibly be selling other assets, such as securities. Or you could take a loan from the policy. Another idea is to have your beneficiaries assume the premium payments—after all they’re the ones who will eventually benefit the most.

So how can you determine if a life settlement company is offering a fair price?
Compare it to your other options, such as the policy’s surrender value. Think about this: You most likely bought the life insurance policy when you were healthy. And the insurance company based the future surrender values on your health at that time. These values do not change, regardless of declining health status. Conversely, the life settlement company will use your present medical condition to come up with their offer. Therefore, as the level of your impairment increases, so should the amount of the offer.

Of course don’t forget about the income-tax free death benefit your beneficiaries won’t receive if you get rid of the policy. And in case you’re still not sure what to do, remember that a seasoned, institutional investor wants to buy your policy. Consequently, it must have a significant value. I always advise clients to consult with their own qualified tax and financial advisor prior to making any investment decisions.