Key Takeaways
- A life settlement allows you to sell an unwanted life insurance policy for a lump sum of cash.
- This is an alternative way to generate cash without tapping into your home equity.
- It is best for seniors who no longer need the death benefit protection.
\n\nWhen looking for hidden sources of cash in retirement, most people immediately look at their house. But many seniors are sitting on another massive, untapped asset: their life insurance policy.
If you need a lump sum of cash, you must weigh whether it is better to take out a reverse mortgage on your home, or execute a Life Settlement on your insurance policy.
What is a Life Settlement?
A life settlement is the legal sale of an existing life insurance policy to a third-party investor.
Suppose you bought a $500,000 whole life or universal life insurance policy 30 years ago to protect your children in case you died unexpectedly. Today, your children are grown, financially independent, and no longer need the protection. Meanwhile, you are tired of paying the expensive monthly premiums.
Instead of just cancelling the policy (or surrendering it to the insurance company for a meager cash value), you can sell it to an investment fund. The fund might pay you a lump sum of $100,000 in cash today. In exchange, they take over the monthly premium payments, and when you pass away, the investment fund collects the $500,000 death benefit.
Why Choose a Life Settlement over a Reverse Mortgage?
- Preserving Home Equity: If your goal is to leave your house to your children, a life settlement generates the cash you need without placing a lien on your property.
- Eliminating an Expense: Not only do you get a lump sum of cash, but you also eliminate the ongoing monthly burden of paying the life insurance premium.
- No Risk of Foreclosure: Because a life settlement is a direct sale (not a loan), there is absolutely zero risk of foreclosure or debt accumulation.
The Drawbacks
- Loss of Death Benefit: Your heirs will no longer receive the life insurance payout when you die. You must ensure they are financially secure without it.
- Tax Implications: The lump sum you receive from a life settlement may be subject to ordinary income and capital gains taxes, whereas reverse mortgage proceeds are entirely tax-free.
- Health Qualifications: Investors only buy policies from seniors whose life expectancy is relatively short (usually under 10 to 15 years). If you are 65 and in perfect health, you likely will not qualify for a life settlement, or the payout will be extremely low.
If you are "over-insured" and "under-funded" for retirement, liquidating a life insurance policy is often a much cleaner solution than leveraging your home.\n