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You sell the policy to a third party for cash, and in return for continuing to pay your premiums, he or she will receive the death benefit when you die.
If you decide you don’t want life insurance coverage anymore, whether because your premiums are too high or you no longer have people who rely on you financially, you may be able to sell your policy and receive a cash payout. Selling the policy means you won’t have life insurance coverage, and your beneficiaries will no longer receive the death benefit when you die, but a quick cash influx can bring you a bit of comfort in old age.
Selling a life insurance policy is called a life settlement, formerly known as and mostly synonymous with a viatical settlement. You sell the policy to a third party for cash, usually a broker or another buyer, and in return for continuing to pay your premiums, he or she will receive the death benefit when you die.
But you should proceed with caution when deciding whether to sell your life insurance policy. For one, payouts are often very low relative to the death benefit, and they come with high overhead costs. There are other options that may be more rewarding to you and your beneficiaries, such as cash-value life insurance, or simply investing extra money in a brokerage savings account.
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If you want to execute a life settlement, you’ll first need to find a buyer. However, it’s highly unlikely that you’ll find an individual person to buy the life insurance policy, so you’ll have to sell to a broker or settlement company.
Brokers work with a range of investors to find the right price for your policy. You may be able to shop around to multiple brokers until you find the best deal.
The buyer may ask you a lot of questions about your health, similar to when you first signed up for life insurance coverage. However, buyers have the opposite motivation than the carrier did when signing you up. Whereas life insurance companies want to make sure you’ll die later, so they don’t have to pay out a death benefit as quickly, buyers hope you’ll die sooner, so they can collect on the death benefit faster. Life settlement providers will frequently check in with you to confirm that you’re still alive.
For that reason, life settlement buyers typically only buy policies from people at least 65 years old, and often only from people much older than that. In fact, the older you are -- that is, the lower your life expectancy -- the more you can sell your policy for. Your policy will also need to have a face value of at least $100,000.
Once the buyer pays you for the policy, you’ll stop receiving life insurance coverage. That means your loved ones will no longer receive a life insurance death benefit when you die. If you’ve been paying premiums for decades in the hopes of supporting your family when you’re no longer around, a life settlement might not be the best choice for you.
Nonetheless, selling your policy means you won’t have to pay any more premiums, and the money you receive can be used for anything. If you’re old and worried you won’t have much time left, you might consider a life settlement.
Whether you should sell your life insurance policy is dependent on several factors, mainly whether it’ll affect your tax obligations and how much your family expects you to leave for them. Talk to your beneficiaries and to experts on tax law and insurance before making a decision.
Getting a life settlement is very useful if you no longer have any dependents who rely on your income. That could be because your kids are all financially independent, you just got divorced from your wife, or you’re no longer in business with a partner who’d need the death benefit to keep the business running after you die. If there’s nobody who could use the death benefit, it’s best to get rid of the policy.
However, many people just let the policy lapse. Some $900 billion in life insurance policies lapse every year, and that’s money which, in many cases, could have at least been exchanged for some kind of dollar amount with a life settlement broker. When you can no longer afford your premiums, selling your life insurance policy might be your best or only option. Because life insurance becomes more expensive to purchase the older and sicker you get, if your policy lapses, it might be prohibitively expensive to buy a new policy if you’re eligible at all.
If your insurance policy is a whole life policy, or some other kind of cash-value life insurance, the viatical settlement might be higher than the cash value. (That’s because whole life insurance is itself not a very strong investment vehicle, not because life settlements are so high.) But it won’t be higher than the death benefit, and in fact could come in at around just a fraction of what your beneficiaries would receive had you not sold the policy, especially if you’re on the younger side of the life settlement broker’s age requirements.
One reason why you shouldn’t sell your life insurance policy is that you probably can’t. Buyers don’t buy policies unless they’re sure they can recoup their investment. If you’re terminally ill or very old, you’ll be more likely to find a buyer. Otherwise, you’re stuck with plain old financial protection for your loved ones.
Even if you do find a buyer, you’ll probably only receive a small portion of what the policy is actually worth. Some estimates peg the average life settlement amount at just 20% to 25% of your death benefit, sliced up even further by the commission fees (and potentially other fees on top of that) charged by the brokerage, which could be as high as 30%. If you’ve been paying premiums most of your adult life, that’s a pretty weak rate of return.
After the complicated process of finding a buyer and receiving the money, the payout could come with additional financial burdens. You may have to pay taxes on the life settlement, and the receipt of such a large amount of cash could reverse your eligibility for public assistance benefits. And if you have outstanding debts, creditors may use the life settlement to pay them, when you could’ve just taken those debts to the grave (provided that they weren’t cosigned with someone else).
You should also be wary of unscrupulous life settlement providers. In addition to answering questions about your health, you’ll have to share your medical history all over again. That’s so the buyer can calculate the risk you pose that you’ll stay alive a long time and render their investment not cost-effective.
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The first thing you should do if you’re worried your life insurance policy could lapse is reduce the death benefit. Not every carrier or every policy allows you to do this, but if you’re older and have fewer dependents, it could not only save you money but also keep your policy in force.
If you want to have some cash on hand to pay for your comfort when you’re old, one of the best things you can do is to purchase an affordable life insurance policy – usually a term policy that expires around the time you retire – and invest your extra money after paying your premiums. Taxable brokerage accounts allow you to save money and don’t have many restrictions on when you can withdraw money.
Tax-advantaged retirement accounts, like a Roth IRA, also have a high rate of return, and you can start withdrawing from them penalty-free almost six years before you’d even be eligible to sell your life insurance policy. Unlike life settlements, when you withdraw from a Roth IRA in retirement, you won’t pay taxes on the payout. (For that matter, life insurance death benefits are tax-free as well if you paid the premiums with your after-tax income.)
But if you’re just shopping for the life insurance for the first time, you could also consider a whole life insurance policy, which lasts until you die. The cash-value component of such an insurance policy won’t have a very high rate of return, but if your premiums suddenly become unaffordable, it can continue funding the death benefit until the cash value depletes. Under some permanent life policies, you won’t even have to pay premiums forever.
Some riders function similarly to life settlements. The accelerated death benefit rider pays out the death benefit early in cases of terminal illness if you need end-of-life care or simply want to enjoy the money with your family before you die. The return-of-premiums rider could likewise result in a payout to you in the form of a refund of some percentage of the premiums you paid throughout the policy’s lifetime. Check with your insurance carrier about whether these riders are part of your policy already or if it’s possible to add them.
If you’re already sold your life insurance policy but are having some seller’s remorse, you might be in luck if you want to buy it back from the settlement company. Some states require life settlement brokers to return your life insurance policy to you if you refund the life settlement to them within 30 to 60 days. This will reinstate your coverage.
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