Life Settlements
Donating a Life Insurance Policy A Broker Opportunity
by Mark B. Leeds

Your clients may consider surrendering or lapsing a life insurance policy in a number of situations. But, a life settlement is almost always a better option. In the average settlement, the insured party receives nearly four times the policyีs cash-surrender value. While the premium stream is of prime importance to the insurance carrier, a carrier prefers when the policy is surrendered for its current net cash value, which is typically a small percentage of the face value. In one atypical case, an 84-year old woman had a policy with a $1 million face value, but its cash surrender value was unusually low at just over $500. Her son, who was the trustee of her estate, arranged for a life settlement and obtained $365,000 from the policy towards the estate.

The insurer would also prefer for the policy to simply lapse so that no benefits are paid out. According to a Bernstein & Company report, in 2005, companies paid the face value of 2.2 million policies to beneficiaries, while 19.8 million policies lapsed, which reduced the insurerีs exposure by $1.1 trillion.
Your client may be inclined to donate the policy to a charity or a non-profit. Aside from the philanthropic rewards, there are solid financial advantages. Examples include the following:

A charitable income tax deduction.
A split in the settled policyีs proceeds, which results in cash and reduced expenses for the client and a portion going to the charity.
An estate tax deduction when the original owner dies.
The production of income via a charitable remainder trust.
Tax advantages.

In addition to enhancing the client relationship, this arrangement offers various incentives to the broker. Your client may use some of the proceeds from a settlement to purchase a long-term care policy, an annuity, or another investment. If a provider is involved through the broker, the broker can expect some compensation. The provider acts on behalf of a fund, acts on its own or, more likely, acts as part of a large institution.
For the life settlement option, the senior must be 65 or older and have a life expectancy of two to 12 years; the policyีs face value should be $500,000 or more (It may be less in some cases.); and the policy should be current and with a well-rated insurance company. In the majority of cases, the qualifying policy is universal or whole life, but a term policy with no cash value can undergo a life settlement in some circumstances.
The insuredีs health is obviously a factor. People with a shorter life expectancy will get more in a settlement than those with a longer life expectancy. In order for a settlement to proceed, the policy must be evaluated by the underwriters who get a copy of the individualีs health record.
Consultant Ron C. Peck, principal of FWLife, in Redmond, Wash., says that there are three ways to make a gift of a policy to a charity or non-profit foundation, including providing outright gifts of the policy; naming the charity as a beneficiary; and transferring of the policy to a charitable remainder trust. าSetting up the trust may be complex and should be first undertaken with an experienced financial advisor,ำ according to consultant Robert Asselstine of P&T Financial in San Carlos, Calif.

When the Fair Market Value Exceeds Cash Value

Knowing the policyีs fair market value is a key consideration. The value is best determined by an independent appraisal. A provider can appraise the policyีs value, which will exceed any non-negotiable cash surrender value that the insurance company offers. In some cases, different appraisal values may be obtained from more than one provider.
The potential donation value increases since a life settlement transaction will return many times the cash value, on average. It behooves the broker to establish a relationship with a provider or a consultant. This relationship is essential for the insured to make a well-informed decision about the policy. Too few independent brokers and other financial professionals are familiar enough with life settlements.

To make an outright gift of the policy to a charity or nonprofit, the owner must transfer ownership irrevocably. Insurance companies provide a form for change of ownership. As the beneficiary, the new owner can hold the policy or transfer it.
As the new owner, the charity must continue to pay the premiums. On the other hand, the charity may use a provider to effect a life settlement transfer in order to get the cash proceeds and avoid premium expenses. The original owner can also arrange for a settlement through a provider and donate all of the proceeds or a portion to the charity ะ a point that should be made by their broker.
Providing an outright gift of a policy produces a charitable tax reduction equal to the lesser of the policyีs true value ะ known as the original ownerีs าbasis.ำ The basis is usually equal to the total amount of premiums paid and virtually never exceeds the face value. In the settlement route, the basis is determined by the premiums paid and other factors. There is likely to be a long-term capital gains tax and quite possibly, an income tax, both depending on the fair market value, the settlement proceeds, the cash surrender value, the basis value, and borrowings against the policy, if any. In any event, the insured should check with a CPA or tax advisor, directly or through the independent broker. CPA, William Dreher, stresses that not all CPAs and tax accountants are familiar enough with asset donations or trusts.

At the option of the insured, the owner can designate a charity or nonprofit as the beneficiary. The charity retains full control, and accordingly, is not entitled to a tax deduction since the designation of a beneficiary is revocable. When the designation is irrevocable, a tax benefit accrues to the estate of the deceased.

The Charitable Remainder Trust Option Is Best

Consultants Peck and Asselstine agree that the transfer of a life insurance policy to a charitable remainder trust usually results in both a tax reduction and income. The charitable remainder trust, established by a tax accountant or an elder lawyer or trusts-and-estates attorney, is permitted in most of the States. Used to reduce estate taxes, only a small portion of the trustีs annual earnings needs to be taxed to fulfill the legal requirements, such 5%, for example Ira L. Slade, Esq., is a CPA and Trusts & Estates attorney based in New York, also practices law in his former residence, California. He advises that the charitable remainder trust is a legal device for the very affluent and requires a specialist in the profession as opposed to other types of lawyers.

Peck believes that the growth of the life-settlement industry to multi-billion dollar levels in a few short years and the greater growth potential ahead makes it vital for seniors and financial professionals to become aware of and educated about the option and the donation possibilities. He says, This will benefit the charity-minded seniors, help charities with fundraising, and enhance broker-client business relationships.

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Mark B. Leeds, a business and investments writer, has written for Barronีs, Money, PRNีs Disclosure Resources, The American Management Association, and other publications. Earlier in his career as a magazine journalist, he covered news and trends in California. Mr. Leeds lives in New York City. For more information, contact the Life Insurance Settlement Association at www.Lisassociation.org or the following contacts listed in the article: Ron C. Peck, www.FWLife.com, Robert Asselstine www.PTFIN.com, William A. Dreher llprime@aol, and Ira L. Slade, Esq. www.Slade-Newman.