Legal Definitions - life settlement

A life settlement is a financial transaction in which the owner of an existing life insurance policy sells that policy to a third party for a cash payment. This payment is typically more than the policy's cash surrender value (the amount the insurance company would pay if the policy were cancelled) but less than the full death benefit (the amount paid to beneficiaries upon the insured's death).

The buyer, often an investment company, then becomes the new owner and beneficiary of the policy. This new owner assumes responsibility for paying all future premiums and will receive the full death benefit when the insured person passes away. While similar to a viatical settlement, which specifically involves the sale of a life insurance policy by someone who is terminally or chronically ill, a life settlement generally applies to policyholders who are typically elderly but not necessarily facing a terminal illness.

• Example 1: Funding Long-Term Care

  Mrs. Eleanor Vance, 82, has a $500,000 whole life insurance policy that she purchased decades ago. Her children are now financially independent, and she finds herself needing funds to cover rising costs for in-home care services. She no longer feels the policy is necessary for her beneficiaries and doesn't want to simply surrender it for its much lower cash value.

  Mrs. Vance decides to pursue a life settlement. She sells her policy to an investment firm for a lump sum of $150,000. This amount is significantly more than the $50,000 cash surrender value offered by her insurance company but less than the $500,000 death benefit. The investment firm now owns the policy, pays the future premiums, and will receive the $500,000 death benefit when Mrs. Vance passes away. This transaction provides Mrs. Vance with immediate liquidity to pay for her care, demonstrating a life settlement.

• Example 2: Converting Unneeded Assets

  Mr. David Chen, 75, owns a successful manufacturing company and has a $1,000,000 life insurance policy that was originally intended to provide liquidity for estate taxes or business succession. He has recently sold his company and restructured his estate plan, making the large life insurance policy redundant for its original purpose. He also has other investment opportunities he wishes to pursue.

  Mr. Chen opts for a life settlement. He sells his $1,000,000 policy to a life settlement provider for $300,000. This allows him to convert an unneeded asset into capital for new investments, rather than continuing to pay premiums on a policy he no longer requires or surrendering it for a much smaller amount. The provider assumes ownership, pays the premiums, and will collect the death benefit upon Mr. Chen's passing, illustrating a life settlement.

• Example 3: Avoiding Policy Lapse Due to Unaffordability

  Ms. Sarah Miller, 70, has a universal life insurance policy with a $750,000 death benefit. Due to unexpected medical expenses and a reduction in her retirement income, she is struggling to afford the increasing premium payments. She doesn't want the policy to lapse, which would result in her losing all value, nor does she want to take the minimal cash surrender value.

  Ms. Miller explores a life settlement as an alternative. She sells her policy to a third-party investor for $200,000. This provides her with a substantial cash payout, allowing her to alleviate her financial strain, while avoiding the loss of value that would occur if the policy lapsed. The investor takes over the premium payments and becomes the beneficiary, receiving the $750,000 death benefit when Ms. Miller dies. This transaction exemplifies a life settlement, providing a financial solution for a policyholder who can no longer maintain their policy.