Should I Advise a Client to Sell a Policy at a Loss?

What You Need to Know

  • Some clients can afford to keep their life insurance.
  • Some cannot.
  • Life settlement specialists give their take on how to analyze the financial impact of a policy sale.

In a recent article, where we reviewed the tax consequences of life settlements, we remarked that it is quite common for a policy sold in a life settlement to be sold at a loss (less than its tax basis) and produce no taxable gain.

As a result of this statement, we fielded several questions from producers asking, “why would I tell my client to sell their policy at a loss?”

Unfortunately, this question indicates a fundamental misconception of what life settlements are all about.

A life settlement is an alternative to lapsing or surrendering a policy, it is not an alternative to keep it.

Life settlement investors only buy policies that offer them significant returns, so significant, in fact, that if a policyowner is able to and wants to keep their policy, it would be financially unwise to sell it in a life settlement.

However, once it is determined a policy is no longer wanted, needed or affordable and it is about to be terminated, then a life settlement should definitely be considered.

The proper measure of gain or loss on a life settlement transaction is not based on how much was paid for the policy, but rather how much more the seller is getting compared to the alternatives: lapse or surrender.

Why would a policy no longer be wanted, needed or affordable?  The most common reason is a change in the financial situation of the client making the policy unneeded or unaffordable.

This could be a change in their estate or business situation, retirement, divorce, or death of an intended beneficiary.

Leave a Comment