Advisors who have learned how to effectively use life settlement products to help clients attain their financial goals have another opportunity to use these transactions to help clients achieve charitable-gifting strategies and increased donations.

Life settlements, transactions in which unwanted or under-performing life insurance policies are sold to third parties, have become increasingly useful tools for policyholders who have made lifestyle changes, who need more effective coverage, or who, especially if they are high-net-worth seniors, might simply no longer need their policies.

In the past, such policyholders had few options: They could either surrender the policy or accept the often nominal cash-surrender value available from their insurance carrier. The life settlement transaction, however, allows them to sell the policy to a third party for above fair market value, making the buyer the new beneficiary.

Of course, in the past there have been other ways to dispose of unneeded life insurance: namely by donating it as part of a charitable-gifting strategy. This gambit will continue to be appropriate for some clients. But advisors who have learned how to effectively use life settlement products to help clients attain other financial goals, including retirement planning and long-term care, might also be able to exploit these transactions to generate even bigger donations and larger tax deductions. Furthermore, such transactions can require less administrative and premium funding than would the traditional donation of a life insurance policy. Seniors who have unneeded or under-performing policies and who want to donate to a charity might also consider a life settlement strategy because the gift can be made while the insured is still living and eliminate the need for continued funding of the policy for several years. Unneeded life insurance policies can help seniors realize their charitable giving goals.

Cut Down On Donation Complications

Even before life settlements were an option, life insurance was often used as a deferred gift or as a means of wealth replacement for assets used to donate to charitable organizations. Some charities that received gifts of life insurance policies, however, were left with ongoing, resource-consuming responsibilities, including the administrative requirements of trusts, gifting accounting and carrier paperwork. Many organizations were also required to fund escalating premiums for several years if the donor did not finance them properly, while waiting long periods for benefits to materialize. Because of these issues, some donors and charities chose to surrender policies and use the cash-surrender value as the source of the donation. In such a move, though, they would unknowingly give up potentially significant sums that could have otherwise been collected if the policy had been settled in the secondary market, where proceeds are greater than the cash-surrender value.

In cases where the benefactor and the charity are unable or unwilling to meet the ongoing administrative and premium obligations of the policy, the insured could be eligible to sell his or her policy in the secondary market for an amount that exceeds the surrender value available from the insurance company, thereby generating increased funds for donations. The cash proceeds are then donated to the client's favorite charity, relieving the donor and the charity of ongoing administrative and funding requirements. Another strategy is to have the organization itself sell the policy in the secondary market. In both cases, the life settlements produce higher proceeds for a donation and, therefore, a higher charitable deduction for the donor.

However, such transactions also produce taxable gains, which means the donor is left with potentially taxable ordinary income, and that reduces the net amount available for a donation. Depending on the donor's specific financial situation, this strategy might produce a net for the charity which wouldn't be the case if the client had transacted a settlement, incurring a tax liability (partially or fully offset by the charitable deduction) and donating the net proceeds to the charity.

Life Settlements Explained

In life settlements, the third-party investor who buys the policy (typically, an institutional investor) assumes all rights and responsibilities associated with the policy, including the payment of premiums and the collection of death benefits and the policy seller receives an immediate cash payment. A life settlement transaction can only be made after a client's eligibility is determined. These criteria differ among the different programs available in the marketplace. [See sidebar on eligibility criteria.]

To make a deal, advisors must gather clients' medical records, which will allow them to get a life-expectancy rating, and hand this over along with policy information to the life-settlement providers, who will then compile a pricing offer that the client and advisor can review. If the client accepts the offer, a contract closing process occurs. The life settlement company then takes over ownership of the policy, provides an immediate cash payment to the seller and makes a compensation payment to the advisor. The investor then takes over all premium payments to keep the policy in force and ultimately collects the death benefit.


Tax Benefits

Typically, when they give assets to a charity, donors receive a current income-tax deduction that is equal to the asset's fair-market value and minimize or eliminate any taxable gain from the appreciated value of the asset. In the case of a life settlement, the client can donate the transaction proceeds and receive a charitable deduction equivalent to the policy's higher market value instead of the lower-cost basis in the asset (premiums paid) that would be allowable if the policy had been donated directly to the charity. Transacting a life settlement generates taxable capital gains and potential taxable ordinary income. State and federal tax laws vary and the IRS can issue rulings at any time, but proceeds from the sale of a life insurance policy are generally grouped into three categories for purposes of tax treatment:


1. No tax liability: In this case, settlement proceeds, to the extent that they are equal to the owner's cost basis in the policy (the sum of premiums paid by the policyholder), create no tax liability because they are a return of capital.

2. Ordinary income liability: This is generated if the policy's cash-surrender value is greater than the cost basis, which is the same as if the policy were cash surrendered. The difference between the cash surrender value and cost basis is usually treated as ordinary income.

3. Long-term capital gains liability: In this case, settlement proceeds in excess of the surrender value are treated as long-term capital gains if the policy has been held for more than one year.

Because of the potential tax liability created by a settlement, advisors and their clients should determine whether to transact a settlement and donate the proceeds or to donate the policy and have the charity transact a life settlement. Although designating a charity as the recipient of a portion or all of the proceeds from a life settlement transaction can provide the donor with additional gift options and revenue sources, it is always important to have a qualified tax professional evaluate each scenario.


Charities Still Need Support

According to a 2007 report issued by The Foundation Center, a New York-based clearinghouse for information on foundations and philanthropy, overall charitable giving to organizations in the United States is on the rise. Such organizations have seen an increase of funding in the wake of natural disasters such as Hurricane Katrina, but donations are also up in the areas of human services and the arts. Many charities have individuals to thank for increased philanthropy and funding, including a volunteer base of seniors who are able to donate their time and money. Other seniors would love to donate, but do not have access to finances or would rather not use their life savings to fund the gift. Seniors in this situation can look to life settlements to provide them with an immediate supply of cash that can be used for a charitable donation. Seniors who choose this option benefit by turning an unneeded asset into a way to help others while being able to see their gift make a difference during their lifetime.


Stay Abreast of Opportunities

The life-settlement industry is one that is continuously growing and providing more high-net-worth seniors with efficient and appropriate ways to give to charitable organizations. Making eligible senior clients aware of this trend allows advisors to further fulfill fiduciary responsibilities to their clients and provide them with the most financial options. There are a number of organizations and Web sites that offer more information on life settlements and their benefit to seniors and advisors, such as the Life Insurance Settlement Association (LISA at For educational content, advisors could also refer to the Life Settlement Awareness Month Web site ( This site contains marketing ideas and a state-certified life licensing education course on life settlements. These resources and organizations can bring advisors one step closer to helping high-net-worth clients make the most of their money, while easily incorporating a charitable donation into their plans.


Advisors are trusted partners to clients and should conduct due diligence when looking for life settlement companies to work with by gathering information from numerous competitive companies and only targeting the most experienced and reputable sources. It is also advisable to search for firms that have an excellent senior management team that can provide the most experience regarding life settlements, life insurance, legal procedures and investment banking. The following tips can help pinpoint exceptional companies with which to conduct business:

Solicit bids from experienced and reputable providers. This is especially important because regulations vary from state to state, with some states having no regulations in place at all.

Look for industry experience, preferably companies with at least $1 billion in purchased aggregate face value to date.

Choose life settlement companies that are licensed or qualified to do business in the state where you conduct business and where the client resides. Preferably, look for settlement providers with extensive national licensing.

Make sure that the company is institutionally funded and will not resell the contract to an individual investor.

Check with the state attorney general or state insurance department for complaints or legal action against the settlement provider.

Advise clients to consult with tax advisors.

Eligibility Criteria

Generally, suitable candidates for life settlements have $250,000 or more in life insurance, typically universal life coverage, where the policy is at least two years old. Clients must also be free of any life-threatening diseases and meet certain age requirements. Also, for life settlement companies to consider purchasing policies they must meet the following criteria:

The policy must be beyond any carrier or statutory contestability period, fully renewable and subject only to the payment of premiums;

The insured's life expectancy must be between two and 17 years based on current life expectancy underwriting guidelines;

For term policies, the uninsured must have a minimum term-life insurance coverage that is equal to the greater of two times the life expectancy or 10 years, or that is convertible to permanent coverage.


Larry Simon is director, chief executive officer and president of Life Settlement Solutions Inc., based in San Diego. More information is available at