Viatical Settlements and Living Benefits

Although life insurance is usually bought for need, there is an interesting and relatively new option for disposing of life insurance before the death benefit is paid called the viatical settlement.

This is basically the sale of a life insurance policy to someone who is purchasing it as an investment. The buyer considers the mortality of the insured and bets that that person will die sooner rather than later.

Normally, the buyer will have the insured examined to determine his or her potential life expectancy and then “bid” on the policy. Please note that the seller need not be the insured, but could be the spouse, an irrevocable trust, the children, etc., who may be in financial need and not wish to wait for the death benefit to be paid, or possibly do not have the funds to pay the ongoing premium.

Rather than having the policy merely lapse, or cash the policy out for the current value, or borrow against the cash value, it may be preferable to sell the policy and receive more funds in return than what is otherwise available from the insurance company. In some states, viatical settlement dealers must be licensed or meet other legal requirements or at least comply with insurance commissioner regulations.

When a person sells his or her policy, the proceeds are first treated as a return of the investment, which is the cost basis in the contract. To the extent that any additional funds are received over the basis of the property paid into the policy, these are construed to be capital gains.

Living Benefit

There are also companies that are now allowing a person to have an additional benefit called an accelerated death benefit. This is a “living” benefit that allows a person to receive their benefits before death, which may allow them to remain home, obtain additional care and focus on living rather than dying.

There is usually an additional rider or premium that has to be paid for this benefit on the policy. Some policies, however, provide this at no additional cost, as it is merely built into the cost of the insurance itself.

If a person is determined to be chronically or terminally ill, then the physician must determine that they have an illness or physical condition that usually predicts that the person will pass away within 24-months of the date of certification. Once this occurs, the company will then consider providing for the benefits to the insured, which are normally not considered to be taxable income.

However, if the insured is not the owner of the policy, then his or her receipt of funds will be construed to be taxable income. To be excluded from income, the payment must be used for costs that are incurred for qualified medical/long-term care services and also made on a periodic basis without regard to the costs of care.

These two options are relatively new, and they may take some time to process after the insured determines that one is a viable alternative and then proceeds with the underwriting, medical examinations and give and take with the purchaser of the policy. In the event that it is taking longer to deal with a viatical settlement than anticipated, the policy could always be borrowed against, and the purchase of the policy could be renegotiated based on the lesser value in the policy in the future.