The severe downturn in the economy has shined a light on the social good of life settlements for seniors, advisors and public policy makers
By Mike CobenMr. Coben is the chief distribution and business development officer for Lighthouse Life, based in Conshohocken, Pennsylvania.
Life settlements are gaining greater acceptance and adoption by insurance and financial service professionals than ever before. The global pandemic has shined a light on the social good that life settlements represent by providing significant new sources of liquidity and income for retirees during this difficult time.
The growing acceptance of life settlements comes from many factors, including a well-regulated transaction that protects seniors, the understanding that life settlements meet best interest, suitability and fiduciary requirements for financial professionals, and seniors’ needs for resources to meet retirement and health care needs – especially at this unprecedented time.
Life settlements have become so well established that the National Association of Insurance Commissioners has recommended life settlements as an option to finance long-term care costs and the U.S. Congress is considering a tax incentive for seniors to use the proceeds from the sale of their policies to plan and pay for their health care.
What is a Life Settlement?
For those still uninitiated or uniformed (or even misinformed), a life settlement is the sale of a life insurance policy. The seller receives an amount that, on average, is four or more times greater than if the policy is surrendered, and infinitely more than if the policy lapses for no value at all. Life settlements create resources that enable clients to contribute to their retirement plans or to address immediate needs, like health care or long-term care.
Seniors choose to terminate life policies when the original purpose of the policy –personal, business or estate planning reasons – has changed, or because the cost of maintaining the policy has become a burden for the policyowner. For those policies that just aren’t needed or become too expensive, selling it generates a significant cash infusion. It also frees up the obligation of paying premiums, generating even more retirement resources.
In 2018, over 7.7 million policies lapsed, for which policyowners received absolutely nothing. A majority of seniors own life insurance and are particularly likely to lapse their policies. So, a life settlement generates significant resources for an asset that they are almost certainly not going to keep.
Life Settlements are a Safe, Secure Financial Service Transaction for Seniors
The life settlement market is both highly regulated and well-regulated by state insurance laws and regulators. Over the past decade, comprehensive consumer protection laws and regulations governing the life settlement transaction have been adopted throughout the U.S..
Policyowners receive more information and have more consumer protections when selling their policy than when buying a policy, annuity, or even when buying or selling stocks. These consumer protections include a requirement that policyowners receive alternatives to selling their policies, disclosure of broker fees and other transactional details to help the policyowner make the best informed decision. In fact, when a policyowner sells his or her policy they must provide a certification of competency from their attending physician. Imagine a similar competency requirement for any other financial service or insurance transaction!
Life settlement companies must be licensed by the state in which the policyowner resides and are subject to oversight and accountability by state insurance departments. Licensees must submit their business plans and anti-fraud plans for approval by the regulators, and they must maintain the privacy of both policyowners and insureds.
Today, 43 states regulate life settlements, covering over 90 percent of the U.S. population. Since 2015, only two consumer complaints have been reported to insurance regulators throughout the United States, according to the National Association of Insurance Commissioners.
Life Settlements and the Current Economy
The recent sharp economic crisis that has been brought on from the coronavirus pandemic has given advisors an additional reason to consider a life settlement for their senior clients. Many Americans will sustain significant investment losses to make maintaining their insurance policy a challenge.
For some, generating income to meet retirement needs may be pressing. A life settlement can offer an appealing exit strategy from an insurance policy that they do not need any more or cannot afford and create liquid assets to supplement retirement income.
Life Settlements and Suitability and Best Interest Standards
A life insurance policy is an asset and, as such, it should be routinely reviewed, just like any of a client’s other assets. It is in a senior client’s best interest to seek an appraisal of the policy to obtain the policy’s current market value as part of an annual review.
A growing number of federal and state regulatory authorities have adopted suitability and best interest standards that apply to financial advisors and insurance agents. These requirements essentially codify pre-existing responsibilities of financial professionals.
Most prominently, the U.S. Securities and Exchange Commission adopted Regulation Best Interest in mid-2019, which applies to certain types of life insurance policies. In 2020, the New York Department of Financial Services’ Suitability and Best Interest in Life Insurance and Annuity Transactions rule (Rule 187) took effect, which applies to owners of in-force life insurance policies. Both Reg BI and Rule 187 mandate that advisors and firms use “reasonable diligence, care, and skill in making the recommendation” that are in their client’s best interest.
When a life policy is terminated back to an insurance company, the policyowner typically receives little or nothing for an asset that they created when they took out the policy and gave value to through years of premium payments. For a lapse, which makes up 80 percent of all terminations, the policyowner receives nothing. In a surrender, the policyowner receives only the policy’s cash surrender value.
Having a policy appraised helps a senior client understand the policy’s market value, if any, and will be valuable information in deciding the policy’s fate. Sometimes that life insurance policy has as much value as the equity in a home. Therefore, advisors should present all relevant options when considering lapsing or surrendering a life insurance policy, which certainly includes a life settlement for their senior clients.
Congress Proposes Tax-Free Life Settlements for Seniors to Pay for Health Care Costs
The increased acceptance of life settlements has led to the recent introduction of a bill in Congress that would create an incentive for seniors to use the proceeds from the sale of their policy to plan and pay for health care and medical expenses. H.R. 5958, the Senior Health Planning Account Act, encourages American seniors to place their life settlement proceeds into tax-free health care spending accounts.
If adopted, policy sellers can roll over, pre-tax, some or all life settlement proceeds into a Senior Heath Planning Account (SHPA). Funds from an SHPA, including investment earnings, can be used, tax-free, to pay for a wide range of health and medical services and expenses for the account holder and their spouse.
H.R. 5958 endorses the social good of life settlements and will further accelerate the recognition that life settlements can help meet the financial needs of millions of American seniors. If enacted, the new law would generate much-needed income for seniors to plan for their health care needs, and to pay for immediate medical and long-term care needs. Each year billions of dollars from the private sector can be delivered to seniors for the sale of their policies.
Still Room for Improvement for Life Settlements
As life settlements receive greater acceptance by the public, financial professionals and public policymakers, there are still areas for improvement.
For instance, it takes too long for a policyowner to receive an offer and get the proceeds from the sale. Most life settlement companies must first obtain full medical records from an insured’s doctors’ offices and then have those records evaluated by medical underwriters, which usually takes one to two months. Lighthouse Life typically generates offers within a matter of days because we only require a telephone interview to gather health information about the insured and often do not need in-force illustrations.
Another area for improvement is to make life settlements more accessible to more policyowners, especially those with mid-sized policies. For twenty years, the life settlement market has focused almost exclusively on life insurance policies far exceeding $1 million in death benefits. One major reason for this has been the high costs of the transaction for settlement companies. By advocating for the mass affluent and middle-income policyowners to be able to sell their policies, more seniors will be able to receive “found money” in retirement through a life settlement. Lighthouse Life’s streamlined transaction allows the company to purchase policies of at least $100,000.
Looking ahead, a passage of the Senior Health Planning Account Act would greatly enhance the awareness of life settlements for all Americans. Lighthouse Life supports the bill as it would benefit millions of seniors.
These developments would create even greater acceptance and awareness about life settlements as a valuable transaction and appealing exit strategy for most senior life policyowners.