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A life settlement is a financial transaction in which the owner of a life insurance policy sells an unneeded policy to a third party for more than its cash value and less than its face value. Until recently, if a policy owner opted out of a policy by surrendering the policy or allowing it to lapse, the additional value was relinquished back to the issuing life insurance company. In some cases, an insured’s health may have declined since the policy was issued and the policy may be worth considerably more than the surrender value. A life settlement is an alternative to this surrender or lapse of a policy, or when the owner of a life insurance policy no longer needs or wants the policy, the policy is underperforming or can no longer afford to pay the premiums.
Life settlement providers serve as the purchaser in a life settlement transaction and are responsible for paying the client a cash sum greater than the policy’s cash surrender value. The top providers in the industry fund many transactions each year and hold the seller’s policy as a confidential portfolio asset. They are experienced in the analysis and valuation of large-face-amount policies and work directly with advisors to develop transactions that are customized to a client’s particular situation. They have in-house compliance departments to carefully review transactions and, most importantly, they are backed by institutional funds.
Life Settlement providers must be licensed in the state where the policy owner resides. Approximately 41 states have regulations in place regarding the sale of life insurance policies to third parties.
Financial advisors who choose not to submit cases directly to a settlement provider may opt to work through a life settlement broker. Life settlement brokers are intermediaries who bring together policy owners who wish to sell a policy and providers seeking to purchase them. Brokers, in exchange for a fee, will shop a policy to multiple providers, much as a real estate broker solicits multiple offers for one’s home. Not all buyers are alike and a life settlement broker will help ensure that cases are sold to reputable buyers who are likely to close without significant difficulties. It is unlikely a financial advisor will achieve the highest possible price without going through an experienced life settlement broker.
While it is the broker’s duty to collect bids, it is still incumbent on the advisor to help the client evaluate the offers against a number of criteria including offer price, stability of funding, privacy provisions, net yield after commissions, and more.
Compensation arrangements vary significantly and should be fully disclosed and understood to determine if engaging a broker will benefit the client. In many states, brokers must be licensed to do business in that state.
In regulated states there are material regulations as to procedure, privacy, licensing, disclosure and reporting which must be met and which in some cases carry criminal penalties.
Life settlement investors are known as financing entities because they are providing the capital or financing for life settlement transactions (the purchase of a life insurance policy). Life settlement investors may use their own capital to purchase the policies or may raise the capital from a wide range of investors through a variety of structures. The life settlement provider is the entity that enters into the transaction with the policy owner and pays the policy owner when the life settlement transaction closes. In most cases, the life settlement provider has a written agreement with the life settlement investor to provide the life settlement provider with the funds needed to acquire the policy. In this scenario, the life settlement investor is effectively the ultimate funder of the secondary market transaction. However, in some life settlement transactions, the life settlement provider is also the investor; the provider uses its own capital to purchase the policy for its own portfolio.
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