NUMBER 79 / VOL. 2, 2020
Life Settlements: A Unique Financial Tool Designed Specifically for Older Adults Your client may have a life insurance policy worth much more than its surrender value, which can be used to help pay for long-term care and other needs.
By Chris Orestis
www.csa.us Copyright 2020 Society of Certified Senior Advisors
[ financial ]
A Unique Financial Tool Designed Specifically for Older Adults Your client may have a life insurance policy worth much more than its surrender value, which can be used to help pay for long-term care and other needs. BY C H R I S O R E S T I S , P R E S I D E N T O F L I F E C A R E XC H A N G E
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hat if I told you there is a financial tool specifically designed to benefit older adults and people suffering from deteriorating health, which can be a tax-free way to pay for retirement and long-term care? Well, it’s called a life settlement, and it’s been on the market for over thirty years. What started as a financial option for AIDS victims whose health insurance refused to pay for their health care has evolved into a well-regulated, mainstream financial option for seniors. In 2018, $3.8 billion of life settlements were transacted for life insurance policy death benefits that would have otherwise been lapsed or surrendered by the owners (Horowitz, 2019). According to the American Council of Life Insurers (2016), Americans own a total of more than 150 million life insurance policies, but over $650 billion of death benefits are abandoned every year (American Council of Life Insurers, 2018). Of that amount, older adults own $230 billion of death benefit that, on an
annual basis, could potentially qualify for a life settlement (Conning and Co., 2017). The growing number of life settlements being transacted every year indicates this is a market that will keep expanding. Considering the number of policies abandoned every year, and particularly the high amount in jeopardy owned by older adults, the room for growth in this market is almost limitless! More policy owners are becoming aware of life settlements every day thanks to television commercials, positive news articles, and the growth of advisors incorporating life settlements into their practice. In fact, life settlements have become such a wellknown option for policy owners that, if you are not talking to your clients about this option, someone else probably is. But what should advisors know about life settlements beyond the basics, and what should they know about how the life settlement market functions?
CSA JOURNAL 79 / VOL. 2, 2020 / SOCIETY OF CERTIFIED SENIOR ADVISORS / WWW.CSA.US
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Five Facts About Life Settlement 1. What is a life settlement? It is the legal right of every life insurance policy owner to be able to sell their policy, like any other asset, to a new owner who will take over the premium payments and then collect the death benefit years later (Grigsby v. Russell, 2011). 2. Who qualifies for a life settlement? Most often, a life settlement is for adults over the age of sixtyfive with a life insurance policy above $100,000 of face value. The value of a life settlement is based on “reverse underwriting,” so the older and sicker a person is, the more he or she will get from a life settlement. Someone too young and healthy will not qualify for a life settlement. 3. How does a life settlement work? The life settlement process takes thirty to ninety days depending on the type of policy. Thousands of transactions are completed every year. Policy owners tend to receive between 10 percent to 60 percent of the face value by transferring the ownership of their policy through the insurance company to the new owner. 4. What types of life settlements are available? Life settlements provide a number of different financial options to address the unique financial challenges of aging and deteriorating health. Life settlements can be done with universal life, term life, and whole life policies. There are underwritten and non-underwritten life settlements to generate lump-sum cash or ongoing death benefits, fund annuities, and create tax-free, longterm care benefits. 5. What are the tax implications? Life settlements can provide unique tax advantages. If the policy owner is diagnosed with chronic health conditions (affecting two or more activities of daily living) or is medically certified as terminal, the proceeds from a life settlement are tax-free. If the policy owner is not chronic or terminal, then the proceeds from the life settlement are taxed as capital gains for the amount received above the basis the policy owner has in their policy. Basis in this case is measured by the amount of premiums paid over the life of the policy. For example, if a person paid $90,000 in premiums over the years and then received $100,000 from a life settlement, he or she would have $10,000 of capital gains. PAGE 6
Once a life insurance policy is sold through a life settlement, the owner will receive a lump sum that can be used in a variety of ways to meet the unique financial needs of older adults and/or those suffering from health and long-term care needs. The owners of life insurance policies need to be informed of their options to maximize the value of a life insurance policy, instead of allowing it to lapse or be surrendered back to the insurance company. Advisors have a responsibility to understand this option and educate their clients so that they can make well-informed decisions. Industry averages over the years show that life settlement market value can be five to ten times greater than surrender value (NAIC, 2017), and certainly a smarter option than to let a life insurance policy lapse after years of premium payments. The industry average payout for a life settlement is at around 25 percent of the face value for a policy, while the range can be as low as 10 percent or climb as high as 60 percent or greater of the face value (Span, 2017). Qualifying for a life settlement is the opposite of qualifying to purchase insurance. In this case, the older and more impaired the insured person is, the higher the percentage of the death benefit the policy owner will receive in “present-day value.” A person who would qualify to buy a life or long-term care insurance policy would be too young and/or healthy to qualify for a life settlement; a person who would qualify for a settlement would be an automatic decline to buy any type of life and/or health insurance. The typical age range for a life settlement is seventy-five to eighty-nine, but younger or older applicants can qualify based on the type of policy or the severity of their health-related impairments.
Life Settlements for Long-Term Care
For those with chronic or terminal conditions needing to pay for expensive medical or long-term care costs, a life settlement can provide tax-free, lump-sum cash and/or can be used to fund a long-term care benefit account. This is a specific bank trust account set up to hold and administer the funds from the policy settlement for care. As soon as the account is funded, it can begin making monthly payments toward any form of senior living and long-term care services the owner wants. All care options can be covered, including home care, assisted living, skilled nursing care, memory care, and even hospice. But this is not a longterm care insurance policy, and it is not issued by an insurance company. It is more like a long-term care health savings account (LTC-HSA) funded exclusively by the settlement proceeds to be used for care. A certified tax advisor should always be consulted on
MYTHS AND FACTS Life settlements have evolved over the last two decades, while moving very much into the mainstream and public awareness. Today, forty-five states covering 90 percent of the U.S. population have implemented NAIC model regulations with numerous consumer protections, as well as licensing and disclosure standards, in place. Yet myths about the life settlement market still exist. Myth: Carriers can prevent policy owners from selling their policy with a life settlement. Fact: It is the legal right of every policy owner to sell their policy with a life settlement. Life insurance policies are legally recognized as an asset, and protected as personal property of the policy owner.
Fact: A life settlement broker is neither required nor necessary for a life settlement. Agents and policy owners can work directly with buyers to sell a life insurance policy, and in the process remove the need for a brokerage commission being taken out of the offer to the policy owner. Myth: Life settlements are frowned upon by carriers and regulators. Fact: State regulators long ago worked with the industry to implement NAIC model regulations that have been guiding the marketplace ever since. Many carriers actually participate in the life settlement market as buyers, and their opposition to the transaction has reduced over the years, but some resistance by carriers to the transaction still remains.
Myth: Life settlements are not well regulated. Fact: Life settlements are regulated in forty-five states under NAIC model regulations. The NAIC endorsed life settlements as a private market innovation to help policy owners pay for long-term care. Myth: Life settlements lack consumer protections. Fact: Life settlements provide significant consumer protections, and there has not been one consumer complaint or litigation against licensed life settlement companies since 2012.
Myth: Life settlements are not allowed by broker dealers or registered investment advisors. Fact: There are many broker dealers who allow and participate in life settlements. Any type of agent or advisor can work with life settlements. Some must obtain an outside business activity (OBA) waiver, and some fee-only advisors forego compensation. Myth: Taxes are complicated and a problem for life settlements. Fact: There are two ways that life settlements are taxed:
Myth: There is a lack of consumer awareness or interest. 1. Fact: Consumer awareness is at an all-time high, driven by television commercials, news articles, online information, advisor education, and word of mouth. Consumer interest drove $3.8 billion of life settlements in 2018. Myth: Life settlements are viaticals. Fact: Life settlements and viaticals are different transactions designed to help people based on their diagnosis or life expectancy. A viatical is typically for a person who is medically certified with a terminal condition that would indicate a life expectancy under two years. Life settlements are for people who have a life expectancy over two years and would not be considered terminal. Myth: Agents and policy owners need to work through a life settlement broker.
If the policy owner is chronic (two or more affected ADL’s) or terminal, the proceeds from life settlements are tax free.
2. It the policy owner does not meet this standard, the proceeds from life settlements are taxed as capital gain for any amount received above the basis in the policy. Myth: There are no fiduciary obligations surrounding a life settlement. Fact: It is always in the policy owner’s best interest to understand all the options before making a financial decision. There are at least three settled court cases in favor of policy owners suing their advisor and the carrier for keeping information about a life settlement from them, after which they lapsed or surrendered a policy.
CSA JOURNAL 79 / VOL. 2, 2020 / SOCIETY OF CERTIFIED SENIOR ADVISORS / WWW.CSA.US
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tax matters, but the following is generally true regarding the benefit account: • The benefit account is held and administered by the federally chartered, FDIC-insured Bank of Utah. The HSA-style account is a no-fee, noninterest bearing, irrevocable bank trust account. • There are no waiting periods and no claims to file; the account is ready to start making payments toward care as soon it is funded by a life settlement. • The account is flexible, so payments can start at a designated amount for any form of care a person needs, and then can be adjusted to meet changing care needs. There is a final expense cash benefit with the account, or, if the insured passes away before the funds in the account are spent down, any remaining balance will transfer to the named account beneficiaries tax-free if they are below the estate tax threshold. • Because the account is funded by the secondary market value of the policy and then used exclusively for medical and long-term care expenses, it is both tax-free and considered a Medicaidqualified spend-down of the funds. This keeps the person private pay for as long as there are
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funds in the account, but once the account is depleted the person can make a seamless transition over to Medicaid.
NAIC Endorses Life Settlements
A watershed event for the life insurance industry and people in need of long-term care occurred in 2017, when the National Association of Insurance Commissioners (NAIC) released the policy paper “Private Market Options for Financing Long-Term Care.” In this paper, the life insurance secondary market was endorsed as a viable option to help people pay for long-term care through a life settlement. The NAIC also pointed out the disparity between the cash surrender value of a life policy and its much higher secondary market value. “Policy owners who sell their policies receive a lump sum payment that is generally four or more times greater than if they lapsed or surrendered their policy, according to government and university studies,” the report found. “Some elder care providers and professional advisors recommend that their clients consider using life settlement proceeds to fund an account with a bank and trust company to make monthly payments directly to a designated long-term care provider. Upon death, in addition to a modest reserve to defray final expenses, any remaining balance in the account is paid to a designated beneficiary” (NAIC, 2017).
THE LIFE SETTLEMENT EVALUATION PROCESS Step One: Information. Submit policy owner information and a current, in-force illustration. Step Two: Analysis. Policy owner information is reviewed for age, gender, state of residence, and prevailing health impairments impacting remaining life expectancy (the typical qualifying range is two to ten years). Step Three: Results. Longevity/settlement experts present a policy valuation analysis detailing what the owner could expect to receive as a percentage of the death benefit for the policy. The typical time it takes from opening the case to closing the settlement of the policy is thirty to ninety days, depending on the type of life settlement transacted.
Senior Health Planning Account Act
The Senior Health Planning Account Act, introduced by Rep. Brian Higgins (D-NY) and Rep. Gregory Steube (R-FL) in February, is bipartisan legislation that could help millions of older adults pay for health and long-term care needs through a life settlement. Under the Act, gains from a settlement could be used to generate tax-free proceeds specifically designated to pay for health care costs, including long-term care. The Act would make it possible for seniors to roll over the proceeds from the settlement of a life insurance policy, tax-free, into a Senior Heath Planning Account (SHPA). The SHPA would be dedicated to paying health care costs for the older adult and his or her spouse. The SHPA would be exempt from federal income taxation as long as the proceeds were used to pay for qualified health and senior care costs. In this way, the SHPA would function much like a Health Savings Account in that both the funds going in (the gains from the settlement) and the funds coming out (if spent for qualified health care-related needs) would be tax exempt.
Conclusion
It is in the best interest of advisors to be knowledgeable about where this market is today. Life settlements are an effective tool to help clients rescue a policy that would otherwise be lapsed or surrendered, and in the process add another revenue opportunity to their practice. Life settlements play an important role in financial
planning for older adults. A policy owner is always better off to get the highest value for an asset than potentially lapse or surrender it for far less. There are a number of advantages for older adults who utilize a life settlement, including favorable pricing for higher age and more impairments, property ownership rights and protections, tax advantages, and fiduciary considerations. Life insurance policies are one of the most valuable assets a person can own. They are also one of the most misunderstood and wasted. People don’t realize that a life insurance policy is personal property just like their home, and that it has life settlement value while they are alive. Because of this, they too often abandon the policy as older adults, unfortunately after making premium payments for years! Would you abandon your home without selling it after years of making mortgage payments? Of course not, and no one should abandon a life insurance policy after years of making premium payments either. •CSA Chris Orestis, CSA and president of LifeCare Xchange, is a nationally recognized senior care advocate and expert in specialty senior living funding solutions. The author of two books, numerous published papers and articles, and a frequent industry speaker, he is the innovator that brought the LTC life settlement into the market over a decade ago.
■ REFERENCES American Council of Life Insurers. (2016). Annual life insurers fact book. Retrieved from https://www.acli.com/-/media/ACLI/ Files/Fact-Books-Public/2016LIFactBook.ashx?la=en American Council of Life Insurers. (2018). Annual life insurers fact book. Retrieved from https://www.acli.com/-/media/ACLI/Files/ Fact-Books-Public/FullLifeInsurersFactBook2018.ashx?la=en Conning and Co. (2017). Life settlements: Steady growth, growing potential. Download at https://www.google.com/search?client= safari&rls=en&q=Conning+and+Co.:+%E2%80%9CLife+Settleme nts:+Steady+Growth,+Growing+Potential+2017%E2%80%9D&ie =UTF-8&oe=UTF-8 Grigsby v. Russell, 222 U.S. 149 (1911). Horowitz, D. (2019, May 30). Market grew 28% last year due to consumer-direct business. The Deal. National Association of Insurance Commissioners. (2017, July 19). Private market options for financing long-term care services. Retrieved from https://content.naic.org/sites/default/files/ inline-files/cmte_b_senior_issues_related_private_mkt_ options_ltc_svc_0.pdf Senior Health Planning Account Act. (2020, February 25). H.R. 5958. Span, P. (2017, Oct. 13). Wringing cash from life insurance. Retrieved from https://www.nytimes.com/2017/10/13/health/lifeinsurance-policy-settlements.html
CSA JOURNAL 79 / VOL. 2, 2020 / SOCIETY OF CERTIFIED SENIOR ADVISORS / WWW.CSA.US
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